active funds source of returnpassive fund source of return Interest Rate Seers Scramble To Make Sense Of It All As The Economy Shrinks

The yield on the 10-Year fell past its supposed “resistance” level of 2.50% yesterday, landing at 2.44%.  Needless to say, the head-scratching over bonds (alt) is kinda turning into, like, really awkward bloody hair-pulling: “The short answer is that euro-zone bond yields fell on some weak German economic and employment readings and dragged U.S. yields lower too.  The much longer (and scarier) answer is that nobody really seems sure exactly what’s going on.”  Apparently a shrinking economy (alt) isn’t very scary.  Most of the explanations being tossed around are based on technicals and supply/demand analysis.  I like Michael Santoli’s explanation: “‘If I want to give you a list of the countries whose 10-year debt trades at lower yields than the United States, it’s almost all the developed world…the United Kingdom, Canada and Germany are among the countries with lower yields than U.S. debt right now.  ‘Globally, there’s a scarcity of yield.’”  Deutsche Bank has a pretty convincing explanation based on weak supply: “U.S. Treasury net issuance is around $123 billion year-to-date, down 59 percent from a year earlier, while net issuance of corporate paper and mortgage backed securities has also fallen…In addition, [Deutsche Bank] expects net U.S. Treasury issuance will be around three times the January-to-May pace, based on the Congressional Budget Office’s estimates, while at the same time, corporate issuance is likely to pick up as acquisition deals are finalized.”  Meanwhile, gold is super confusing.  Theories as to why the precious metal has fallen to a nearly four-month low range from improving U.S. data, less fear over Ukraine, China buying less gold and US equity indexes at all-time highs.  Apparently “fear is not an asset class” doesn’t do it for people.  Meanwhile, as the stench of dead volatility creeps into the nostrils of oil traders, the Financial Times makes some really good points about the “stability” creeping back into markets: “Fears of ‘QE3 taper tantrums’ in emerging markets appear to have receded, while the probability of a ‘hard landing’ in China is considered low.”  Furthermore, while central banks’ accommodative monetary policies may have resulted in low volatility, or “a regime of fixed prices,” the market is transforming “from a place in which prices reveal information about market imbalances, which then incentivise behavioural changes to deal with those imbalances, to [a market]place where supply and demand adjustments on the sidelines guarantee price stability.”

Beta : Alpha :: Larry Fink : ProShares

Liquid-alternative funds (alt), which frequently mimic hedge-fund strategies, have exploded in popularity in the past year.  Individual investors have poured tens of billions of dollars into the funds, and many big investment firms see them as a growth area…One of the reasons money managers like the funds is the same reason financial advisers don’t: high fees.  Because they use more complicated trades, the average expense ratio for a liquid-alternative fund is 1.9%, compared with 1.3% for a typical mutual fund and 0.8% for an index fund…The revenue potential is important to fund companies that have lost out on fees as investors have moved toward low-cost index funds in recent years.”  Meanwhile, Morningstar has done some great research on measuring portfolio’s alpha, beta and sources of return: “investors should be perfectly content with a fund that provides nothing but beta (returns that are in sync with broad market volatility).  Having exposure to some strategic beta factors can help on the margin.  It is clear that beta provides the majority of return, even among funds that manage to capture significant alpha (outperformance attributed to skillful active management).”  Meanwhile, Larry Fink hates ProShares and so should you!

Concentrated Markets May Have A Secular Impact On Unemployment Recovery

Harvard Business Review has an interesting theory on how unemployment is about to fall a lot faster than we expect: “In past recessions, small businesses fueled early job growth and drove a predictable pattern that is currently used to estimate unemployment.  During the current economic recovery, however, the largest of businesses added to their payrolls first, while small businesses have significantly underperformed in job growth…if small businesses add jobs at the volume suggested by historical averages, the slope will accelerate more quickly.  This can give us all confidence that we will see a steady drop to 5.0% unemployment next year.”  Meanwhile, the Goliaths are everywhere.

Millennials Aren’t Planning On Dying Anytime Soon, Are Planning On A Grande Burrito

“Young adults who wait longer to start families are also putting off death planning…life insurance sales in the U.S. slipped 45 percent to 9.7 million policies in 2012 from a high of 17.7 million in 1983…’I’m not planning on dying any time soon so it’s a waste of money,’” said 30-year old Usman Ahmad while eating lunch “at a food court.”  Meanwhile, “almost a third of the world is now fat, and no country has been able to curb obesity rates in the last three decades, according to a new global analysis.”

USA: The Digital Disruption In Banking

Here are some key findings in Accenture’s latest report on North Americans and their attitudes towards digital banking: 1) 39% of Millennials say that if they were to switch banks, they would consider a bank with no branch location, 2) 74% of Americans say that their relationship with their bank is defined by simple transactions, as opposed to brighter financial future-style advice, 3) 51% of respondents said they “want their bank to proactively recommend products and services for their financial needs,” and 4) 48% of respondents are “interested in real-time and forward-looking spending analysis.”

China: GSK Salesmen Want ‘Bribes’ Reimbursed (Alt)


Merkel and Hollande“Great Moderation”: Tell That To Emerging Markets And Sub-Prime Lenders

The Economist says we are back in the age of Great Moderation (alt) thanks to “glacial” GDP growth, the death of volatility (alt) and the relentless bid of the markets.  “Certainty about monetary policy has stripped volatility out of bond yields which in turn has drained a major source of uncertainty out of stock prices.  At root, volatility simply represents uncertainty about the value of an asset’s cash flows, so when volatility falls, the risk premium required to hold the asset also falls, driving price-earnings ratios for stocks up and bond yields down…One reason folks on Wall Street are deeply skeptical, if not downright hostile, to the Fed’s policies is that they believe volatility is the natural order of things and artificially suppressing it via monetary policy is morally equivalent to price fixing, and more practically, bound to end in tears when the system’s natural instability returns…the big question is whether the return of the Great Moderation has also prompted a return of the sort of risk-taking that produced the crisis.  There are troubling signs.  Issuance of poorly-rated ‘junk’ bonds has risen sharply, as have loans to already highly indebted firms; former pariahs like Greece can now borrow at single-digit rates.”  Meanwhile, at least one market researcher sees volatility on the horizon: “basically, as central banks start to leave the zero bound, it’s going to be increasingly hard for them to provide concrete guidance.  So they won’t.  They have no intention of going back to the kind of transparency they were doling out in 2013 — where once you had numerical thresholds now you have a plethora of indicators (the conveniently organized dashboard) and no specific targets (um…6 months?).”  Furthermore, as central banks start to raise rates, “some investors will be anxious to sell bonds, especially if they think the initial rate increase marks the first of many.  EMs could also come under renewed pressure.  And, as the 2013 experience showed, this could happen even if policymakers merely move in line with current market expectations.”  Meanwhile, penny stock boiler rooms are doing just fine without Jordan Belfort (alt): “average monthly trading volume [in the “penny stocks”, “over-the-counter”, “pink slips” market] has risen 40% this year in dollar terms from a year ago.”  It should be noted, however, that the recent rise in trading activity in Fannie and Freddie common shares probably has an outsized impact on the OTC market.  Also, many European companies trade on the OTC market, and with every institutional investor on the planet piling into European equities at the beginning of the year, well…you get it.  Also, the former wolves of Wall Street are now the wolves of sub-prime business lending: “our industry is absolutely crazy…there’s lots of people who’ve been banned from brokerage.  There’s no license you need to file for.  It’s pretty much unregulated.”  David Glass, a sub-prime business lender “still on probation for insider trading,” says “it’s a lot easier to persuade someone to take money than to spend it buying stock.”  Meanwhile, as the froth builds around the ever-extending reach for yield, Average Joe still doesn’t care about stocks.  Also, here’s a great chance for climate change deniers to put their money where their mouth is reach for yield.

Germany’s Rebalance

“The German economic model has been one of relentless drive to grow exports.  Until the euro-zone crisis, Germany’s partners in the single currency region were the ones on the other side of that trade.  Since then, German export focus has turned to the rest of the world.  But the German PMIs highlighted an interesting development.  In May, manufacturing undershot expectations but services were strong.  If this hints at the beginnings of a shift in the balance of the economy towards domestic demand, that’ll be good news for the rest of the euro zone, including France.  The other economies will then have the potential to generate some much-needed growth by boosting their exports to Germany.”  Meanwhile, Germany “apparently insists on toughness when it comes to the choices that must be made by other nations.  But for its own citizens — already comfortable off, in comparison to many in Europe — it sweetens the deal still further, while paying no heed to cost or sustainability.”  This is all in response to the new coalition government’s decision to reduce the age requirement for pension benefits to 63 (alt) despite its already high dependency ratio (inactive pensioners as a percentage of workers) and a population aging even more rapidly than the United States (actually, the US is looking pretty youthful by comparison to basically every other country).  Also, “a closely watched survey shows that German business confidence has dipped, with companies less optimistic about both their current situation and the outlook for the next six months.”  Meanwhile, “Standard & Poor’s raised Spain’s sovereign debt rating on Friday by one notch to BBB with a stable outlook, the third agency to do so in recent months in response to the country’s improving economic fortunes.”  Also, Italy’s GDP is on cocaine the up and up.

The Federal Reserve Really Truly Doesn’t Give A Crap About Emerging Markets

It’s been a really rough week for Christine Lagarde.  You know how the Fed just doesn’t wanna hear it from emerging markets?  Well, they’re doubling down on the whole “big bully” thing: “the Fed’s swap lines are available only to a select group of countries, and according to some former Fed officials, also come with unwritten strings attached.  While U.S. allies South Korean [sic] and Mexico have been given access to Fed swap lines, the U.S. has rejected requests from Turkey, Peru, Indonesia, India and other countries.”  Swap lines provide “quick assistance, quick liquidity at times of crises to well-managed countries without conditionality.”  Meanwhile, “for the eighth straight week in a row, emerging market debt funds enjoyed inflows last week, with $500 million heading into the asset class… emerging-markets bonds denominated in dollars are up by over 7% since the start of the year.”

consumption of non-durable goods comparing recessionsconsumption of services comparing recessionsGetting To The Bottom Of Anemic Growth

“There are two reasonable responses to news of the US economy’s dismal 0.1 per cent annualised growth in the first quarter of 2014: either panic, or else curse the vagaries of economic data, and wait for revisions to straighten out the rather jumbled numbers.”  Here are 5 takeaways (alt): 1) “almost every area of weakness could be chalked up to weather” (but the Weather card is no longer a reasonable excuse going forward), 2) revisions to this GDP number and a Q2 rebound seem highly likely, 3) thanks to Obamacare, higher healthcare spending contributed about 1.1% to the GDP number, 4) this part of the GDP calculation (healthcare spending) may be susceptible to future revision, and 5) “this is more consistent with another year of mediocre 2 per cent growth, than the forecast acceleration towards 3 per cent.”  Meanwhile, here is a closer look at the individual components of GDP and how they compare to other recessions.  While “this type of exercise is tricky because all of these components are a function of the other ones…the mystery of weak GDP growth over the past 6 years is closely related to consumption, particularly consumption of services and non-durable goods.”  Meanwhile, “one out of three Americans now live in a housing market where rent for a three-bedroom home eats up more than 30% of the monthly median income, the traditional threshold for affordability.”  Renters in the Bronx spend “nearly 66% of their monthly income to rent a three-bedroom house — by far the highest percentage of any U.S. county…Renters in Philadelphia, Brooklyn, Baltimore and Miami are paying nearly 50% of their income toward rent.”  Also, “the logistics industry has a recruiting problem.  It’s huge, making up 8.5% of GDP, and growing fast.  But to most job seekers, it’s misunderstood — or invisible…’I think the challenge we have is the same as for lots of manufacturing companies…How do you communicate to college kids that this stuff is cool?’”

Active Managers: Bloated Funds Require Nimble Feet

New research suggests that the growing size of the (actively) managed-fund industry has made it more difficult for individual managers to outperform their benchmark.  “The effect of greater (management) skill is being offset by the fact that there is more money being managed.”  Some reasons for this could be 1) “as the industry grows, more stocks receive heavy scrutiny, so there is less chance a fund manager can find mispriced gems,” 2) “big funds have to invest in stocks of big companies…therefore miss out on the small-stock gems that offer benchmark-beating performance,” and 3) “big buy orders enhance demand enough to raise the stock’s price, so that the same fund’s subsequent purchases of that stock aren’t such good bargains.”  Meanwhile, as more companies pile into M&A deals to “boost their competitive position instead of waiting years for capital expenditure to yield rewards,” investors may want to shift their attention to “companies that have hard-to-replicate activities or unique geographical reach and which sit beside cash-rich peers in the same sector.”  Furthermore, “a wave of value-creating mergers ought to buoy markets.  But for stock-pickers seeking outperformance, it calls for nimble feet.”  Speaking of which, even stock-pickers are realizing that their bread and butter strategy is not in vogue right now.

JPN: No Confidence In Abenomics

It’s officially been one month since the sales tax increase in Japan; the second (third?) arrow in Shinzo Abe’s Quiver Of Fortune Inflation Destiny.  Abenomics doesn’t appear to be having a great effect on consumer confidence, and April manufacturing activity saw a dramatic fall in output and deterioration in new orders.  Expect to hear more about Abenomics and the sales tax in the coming weeks…

EU: Midsized Companies Face A Tough Hunt For Funds

“Medium-sized European companies [are] keen to ramp up capital spending, and mergers and acquisitions are picking up.  And they have to refinance trillions of euros in existing loans.  But with bank lending tight, they’ll have to look hard for funds…Corporate lending remains low down on European banks’ lists of priorities [and] as a result, corporates will have to start to broadening [sic] their funding horizons…’Private placement markets for European issuers have grown in recent years…but these are not always the answer for midsize companies.’”

USA: Regulator’s Report Discovers More Issues With Bank Foreclosure Practices

global investment-banking revenuesHigher Material Costs Cut Into Margins; Export-Import Bank Under Pressure

The latest survey from the National Association of Business Economics concludes that “during the first quarter of the year, 31 percent of businesses surveyed reported higher material costs, more than double the 15 percent that saw costs rise in the previous survey.  Additionally, 35 percent reported rising wages and salaries at their businesses in the past three months, up from 23 percent in January.”  Furthermore, “‘It appears that businesses were not able to pass on costs increases, resulting in increased pressure on margins.’”  Also, “capital spending rose for 38 percent of respondents, up from 28 percent in January…31 percent said they expect their businesses to raise prices.  That’s down from the 43 percent who said they planned to raise prices in January.”  Meanwhile, some members of Congress are pushing to scale back the Export-Import Bank of the United States (alt), a major financier of loans and loan guarantees for foreign purchases of US products (for example, last year Ex-Im supported $37.4bn in US exports).  Opponents see “Ex-Im as the embodiment of ‘corporate welfare.’…’There are more than 59, and counting, export credit agencies around the world and they would like nothing more than to snatch up sales from US companies and create jobs in their countries,’ said Fred Hochberg, the president of Ex-Im Bank.”  Meanwhile, here’s a list of some of the “once defunct but now in production” factories around the country.

Japan’s Pension Investment Fund Is Going Long Sweet Emerging Markets

Japan is reshuffling its “Investment Committee of the $1.26 trillion Government Pension Investment Fund (GPIF), in line with Abe’s drive to have the fund make riskier investments and rely less on low-yielding government bonds…GPIF now targets 12 percent of its investments in Japanese stocks, 60 percent in domestic bonds, 11 percent in foreign bonds, 12 percent in foreign stocks and 5 percent in short-term assets…GPIF has said it plans to expand its investment in foreign bonds to emerging markets bonds, foreign high-yield bonds and foreign inflation-linked bonds.”  Meanwhile, Rob Arnott, says that emerging markets are in a “sweet spot”:  “Fear creates bargains.  When we buy something as contrarians, our clients routinely say, ‘Why are you buying this; don’t you see what’s going on?’  Our reply is, ‘Well, yes.  That’s why these markets got cheap.’  Two years ago, our allocation to emerging markets was really skinny.  Today, it is much, much greater because people are afraid…”  Here’s something else to consider: “The politics of the next 20 years is going to make the politics of the past 20 years look polite and serene.  But 30 to 40 years from now, we are going to be looking at a transition to a new steady state in which births equal deaths.”  Meanwhile, here’s Robert Shiller on Robert Shiller: “there’s no easy way to win in this market, so I’m thinking you have [to] diversify and probably keep something in stocks.”

Global: FICC And Thin: The Engine Of Investment Banking Is Spluttering

Trading in FICC (fixed income, currencies and commodities), once a major profit engine for the world’s largest investment banks, is in retreat: “In 2009, the world’s big investment banks earned nearly $142 billion from FICC — 63% of their total revenue, according to Coalition, a data firm.  By last year that had halved to nearly $74 billion, accounting for slightly less than half of revenue…In 2013 alone revenues from FICC fell by almost 20%…The disappointing numbers are rekindling an argument within the industry over whether FICC’s decline is merely cyclical or the start of a long-term slump in the profitability of banks’ trading businesses.”  The cyclical position goes something like this: FICC trading volumes have plummeted with interest rates.  Once interest rates go back up, banks will see a sharp loss in revenue as bonds they own will depreciate in value, yet FICC trading volumes may surge again, providing renewed revenue for investment banks.  The long-term slump position is basically this: thanks to new capital requirements and proprietary trading regulation, FICC may never reignite as a major profit engine for investment banks.

USA: 5 Things To Know About The State Of Mortgage Lending

1) Low-down-payment lending is still prevalent, however “banks are making more loans with down payments of 5% or 10% outside of the FHA; 2) No-money-down mortgages “still exist, too, though they are much harder to get than before the housing bubble”; 3-5) Credit standards are very tight, and may be inhibiting economic growth, however any easing will be careful not to fuel “reaching for clients”

USA: Fuels From Corn Waste Not Better Than Gas

A new study “paid for by the federal government and released Sunday in the peer-reviewed journal Natural Climate Change concludes that biofuels made with corn residue release 7 percent more greenhouse gases in the early years compared with conventional gasoline.  While biofuels are better in the long run, the study says they won’t meet a standard set in a 2007 energy law to qualify as renewable fuel.”

Percentage of US stock trading done by high-frequency firmsA Closer Look: European Equities, Commodities And Corporate Profit Margins

A look at performance by sector in European stocks over the last year reveals that auto companies were “the strongest sector, boosted by signs of life in the euro-zone economy and helped further by falling yields, which aids heavily-indebted companies.  Insurers were also strong performers, lifted, among other things, by equity market gains.  Laggards included food and beverages, possibly as interest switched out of staples amid signs of economic revival, and basic resources, hit by concerns of a China slowdown.”  Meanwhile, do you need commodities in your portfolio?  Performance analysis of commodities as a broad asset class since 1991 shows “performance was fairly abysmal considering total bond market returns were one-and-a-half times better with less than a third of the volatility.”  Furthermore, commodities “don’t generate any earnings or pay dividends like stocks.  They don’t make periodic interest income payments like bonds…Plus, if you hold a diversified portfolio of stocks, you should already have commodities exposure through energy, mining, agriculture and natural resource companies.”  That being said, safe havens like gold have outperformed the market in the first quarter this year.  Also, here’s a really in depth analysis of the problem with the “corporate profit margins are excessively high and, therefore, will revert to their historic mean” theory.  Basically, the problem has to do with the failure of GDP and GNP to accurately incorporate foreign profits/costs into the model, meaning that as globalization continues and corporations extend their reach beyond their political boundaries, our economic analysis should adjust.  Furthermore, “there are no ‘divinely-ordained’ constants that govern the system.  The averages that economic variables exhibit, and the settling points towards which they gravitate, can and do change as secular conditions in economies change.”  Dan McCrum at Financial Times mostly agrees with this conclusion, however wonders about how to “come up with a satisfying explanation for the different eras (i.e. different means).”

High-Frequency Trading May Get A Dan Brown Book

Markets always have been under pressure to make access cheaper and faster.  At the same time, they’ve tried to wall off participants who gain an unfair advantage.  And traders always have looked for a crack in the door to regain an advantage.  It’s just as true today with computers that bump high-speed trading firms to the front of the line, as it was when traders actually ran to the front of the trading booth — or buttonwood tree — to front run.”  Meanwhile, looks like Dan Brown and Michael Lewis have something to talk about: “Under a gazebo’s shade, a Ukrainian physicist who aspires to be a monk met with a Milwaukee lawyer seven years ago and began planning a firm whose profits from rapid-fire stock trades would go mostly to charity.  They and another founder eventually named it SXP Analytics LLC after St. Xenia, an 18th century Russian who gave the poor her possessions.”  Also, here’s how your buy order gets filled.

WA: Giving A Debtor A Big Club Against Lenders

The United States District Court in Tacoma, WA has made a controversial ruling regarding the transfer of a bankrupt Washington State company’s debt between “financial institutions”.  “The problem, as they saw it, was that the loan agreement limited loan transfers to ‘financial institutions.’  And the courts in Washington tell us that hedge funds are not ‘financial institutions’ — something that may come as a bit of a surprise to the drafters of the Dodd-Frank Act.”  Furthermore, by hindering the ability of hedge funds, financial institutions etc. to trade loans in default, lenders may need to consider the increased risk next time they make a loan to a Washington-based company.

USA: Apple, Pfizer, Others Form ‘Go Slow’ U.S. Patent Lobby Group

“Major U.S. companies including Ford, Apple and Pfizer have formed a lobbying group aimed at pushing back at some changes to the patent system members of Congress have proposed, saying these measures would hinder protection of valuable inventions.  The group is concerned about pending legislation aimed at fighting so-called patent assertion entities (PAEs), companies which produce nothing but instead buy up patents and then attempt to extract licensing fees or sue for infringement.”

What: Strategy&: The Artist Formerly Known As “Booz & Company”

Strategy and…strategy and…strategy and…….smoking the reefer.  (Couldn’t resist)

WaitWhat: Warren Buffet Is Always In Favor Of Kittens

USA: Foreign Trade Cut Into First-Quarter Growth

USA: Construction Is Muted Because Too Many Buildings Went Up During The Boom

USA: Ignore ADP

UncertaintyGetting Cozy With Slow Expansion, Hedge Fund Landlords, Fannie And Freddie

Some economists are starting to point at the dragging recovery and current business cycle expansion as getting a bit long in the tooth.  “Although the current expansion is roughly the same age as that of the post-war average, it is young when compared against the expansions of the Great Moderation period.”  Some believe that “recoveries following housing-bust-driven contractions…tend to be long-lived,” suggesting that “economic growth in the US and the UK has room to accelerate.”  The flip side to that argument is this: “the latest financial crisis and recession happened in the middle of already-weird (i.e. stagnant) times for the economies of the developed world.”  Furthermore, “given these trends, the danger is that with the recovery proceeding at such a painfully shallow slope, some of the damage to the economy’s productive potential becomes permanent or semi-permanent.”  Speaking of permanent (psychological) damage, hedge funds are now our saviors: “lenders are selling pools of soured mortgages as they face new regulations that make bad debt more expensive to hold.  Banks sold $34.7 billion in nonperforming loans last year, up from $13.1 billion in 2012.”  The nonperforming loans are sold at a significant discount to hedge funds and other smaller private firms, because A) Jamie Dimon is done with the pain, and B) “They’re a lot more flexible than a bank…and they can basically set their own rules,” said one man who friends presumably would describe as being “optimistic.”  Meanwhile, there’s been a lot of activity on Capitol Hill (alt) recently re: Fannie and Freddie.  While unlikely to gain much support in the Republican-led House, Representative Maxine Waters (D-CA) believes “Fannie Mae and Freddie Mac’s return to profitability and repayment of taxpayer dollars has led some to rightly speculate whether (they) need any reform at all.”

Citigroup And Bank Of America: Maybe Experiencing Jamie Dimon-Level Headaches

The Federal Reserve announced yesterday they have “rejected the capital plans of five of the 30 large banks (alt), including Citi, as well as the US units of HSBC, Royal Bank of Scotland and Santander.  Among the 25 that had their capital plans approved, Goldman Sachs and Bank of America lowered their initial capital requests after last week’s first-round stress tests in order to secure the Fed’s backing.”  Despite having passed the Fed’s “quantitative” stress tests last week, the Fed’s objections to capital plans were based on “‘qualitative’ measures, which include banks appropriately addressing potential risks, the strength of their capital planning process such as risk management practices, and corporate governance issues.”  What they’re talking about here is “the challenge of finding solid lending clients in a country where the line between big business and political cronyism can become blurred.”  Meanwhile, Bank of America has settled a mortgage backed securities dispute with the Federal Housing Finance Agency for a mere $9.3bn (says Jamie Dimon): “Bank of America said that it will make cash payments of roughly $6.3 billion and also purchase securities from Fannie and Freddie worth more than $3 billion.”

IMF Bails Out Ukraine; EU Says “Securitize It”; Bertrand Badré Says “Criticize It”

The IMF has pledged a $14bn-$18bn rescue package for Ukraine (alt): “[Ukrainian] foreign exchange reserves have fallen to barely two months’ import cover, and the finance ministry warned this week it expected the economy to contract by at least 3 per cent this year…total international support [is] set to amount to about $27bn over the next two years…the IMF package comes with significant strings attached.  They include Ukraine moving to a flexible exchange rate and away from a currency peg that long kept the national currency, the hryvnia, pegged to the dollar at an artificially high level.  A second condition is fiscal tightening, with a target of reducing the budget deficit by about 2.5 percentage points of gross domestic product by 2016…Kiev announced on Wednesday that household gas prices would rise by 50 percent from May 1.    Also, “the European Union will look for ways other than the region’s banks to finance infrastructure projects and invest in start-up companies, according to plans the EU published on Thursday…some EU laws will be changed to ease curbs on what pension funds, which total 2.5 trillion euros in the EU, can invest in.  The plan will also try to nurture new forms of finance, such as crowdfunding or online peer-to-peer lending.  The EU plans will start to rehabilitate securitization, the process of bundling loans into a bond.”  All of this “to help provide the trillion euros needed for new telecom, transport and energy networks by 2020.”  Meanwhile, Bertrand Badré, Director and CFO of the World Bank Group, says “infrastructure investment requires more than money…governments should pay more attention to the selection, quality, and management of infrastructure projects, as well as to the quality of the underlying investment climate.”  Meanwhile, here’s a Q&A with the former head of the IMF, explaining why the dollar remains the reserve currency and he doesn’t see that changing anytime soon.

USA: Activist Investors Often Leak Their Plans To A Favored Few (Alt)

“For a new breed of ‘activist’ investors, tipping other investors is part of the playbook…in doing so, they build alliances for their planned campaigns at the target companies.”  One corporate lawyer/activist destroyer sees it like this “They are building a constituency…[they] are using, in effect, the pop in the stock price to help pay these people for being on their side in a coming battle against the target company.”  One activist investor/corporate raider see it like this: “I’m happy to give people my thoughts on things I own and I’m happy to learn about how other people think.”  Also, he’d like to add that he only pursues “conversations that are permissible under the rules.”

FantasticHeadline: Now You Can Use Bitcoin To Buy A Smart Rifle



Keqiang OKThe Dual Dragon Is Taking A Deep, Slow Breath; Prefers Quality Over Quantity

Chinese Prime Minister Li Keqiang sent a “warning shot” (alt) this week to companies steeped in debt and risk-hungry investors when he said that “China was likely to see a series of defaults as the government accelerates financial deregulation.”  Meanwhile, “a raft of data out Thursday added to the evidence that China’s economy is losing speed early in 2014.”  Here’s what some economists are saying: “We expect Beijing to ramp up spending on infrastructure and social welfare projects…” “Benign inflation leaves Beijing plenty of policy flexibility to cushion the growth slowdown,” “Many of China’s domestic growth drivers remain in place, notably consumption, urbanization and services; and global demand growth is on an improving trend, which will help China’s economy this year.”  Two directors from the Fung Global Institute argue that “any strategy for mitigating the threat of a sharp slowdown [in China’s economy] must account for the dual nature of China’s economy.  On the one hand, Chinese cities are becoming increasingly modern and globally engaged…On the other hand, half of China’s population remains rural, delivering a large share of income from agricultural activities…This duality has positive implications for China’s economic prospects…China has an even larger and more diversified economic base than many realize — implying a degree of growth momentum that would be difficult to lose.”  Furthermore, China must address another dual dragon: its “two-tiered credit system”.  If China can merge the higher tier (easy-credit fuel for shadow banking) with the lower tier (set by the Central bank), “this will inevitably trigger some defaults and erode the quality of banks’ loan portfolios, [but] the end result — a more balanced and healthy economy — will be more than worth it.”  Also, China’s “bond-market” needs some work: “The bulk of Chinese government debt is held by state-owned banks, which are under great pressure to keep it until maturity…the government uses banks as ATMs to bankroll stimulus efforts without having to worry about risk, volatility or capital flight.  And for their obedience, banks are assured a stable return.”  “This artificially constructed bond market hides a large degree of risk borne by the banks and, ultimately, the state…As long as inflation remains under control, the banks will be happy to hold government bonds to maturity.  But if inflation spins out of control…”

Still Feels Like A Recession

“This week, an NBC News/Wall Street Journal poll of American adults found that 57 percent still think the economy is in recession.  It’s not hard to see why.  People don’t take this as a technical economic research question; they take it to mean, ‘Is the economy good?’”  Furthermore, “Two trends are responsible [for this perception of economic recession].  The labor market is still slack (debatable), meaning millions who would like to work can’t, and those who do work have limited ability to demand higher wages (i.e. it takes the most powerful man in the world, and even then…).”  Meanwhile, “10 percent of U.S. renters say they would like to buy a home in the next year, according to a new report from Zillow, which surveyed renters in the nation’s 20 largest housing markets.  If all the renters who said they wanted to buy a home in the next year actually did, that would represent more than 4.2 million first-time home buyer sales, about twice the number of first-timers in 2013.”

Active Managers: Put Me In, Coach!

Here’s an interesting piece from Bloomberg on behavioral finance and the rise of “coaching” on Wall Street: “Coaches in the financial world are borrowing techniques from as far afield as sports, Eastern philosophy and neuroscience to improve their clients’ returns.  In addition, a new crop of software companies has sprung up to provide reams of statistics that the companies say can help investors and their coaches uncover hidden strengths and weaknesses.”  And guess what?  They aren’t cheap: “coaches don’t like talking about what their services cost, although they say clients should expect to pay from $400 to $1,000 an hour.  Some coaches, like [Denise Shull], charge a retainer as well as ask for a bonus amounting to a slice of the client’s profit.”  Meanwhile, Barry Ritholtz discusses the recent reporting of a “rash of suicides within the financial community” and concludes that “this morbid fascination of suicides…may be nothing more than random fluctuations in data.”  Also, the “French 35 hour workweek” might be a myth.

USA: Have You Been To The Mall Lately?

“During the past several months, more retailers have reported declines in customer visits, while fewer have boasted gains.  Despite this headwind, some retailers — or retail categories — have been able to successfully motivate consumers to visit their stores.”  These retail categories include: 1) Healthy lifestyle (e.g. Whole Foods, GNC), 2) Housing-related (e.g. Home Depot), 3) Warehouse clubs (e.g. Costco), 4) Fast casual restaurants (e.g. Chipotle), 5) Dollar stores and 6) “Fast-fashion” retailers (e.g. H&M).

SF: Is San Francisco New York?

“In many ways, San Francisco is the nation’s new success theater.  It’s the city where dreamers go to prove themselves — the place where just being able to afford a normal life serves as an indicator of pluck and ability.”

Tech Employment MinoritiesIncome Inequality And Mobility

An “epic income-mobility study” released last week suggests that “contrary to widespread belief, it’s no harder to climb the economic ladder in the United States today than it was 20 years ago.”  Apparently, when you are three Ivy League professors and a US Treasury Department official, you get access to the IRS’ tax return data, “which of course are not generally available to researchers” and, of course, is terrific irony.  So “the chance in which kids can climb up or down the income ladder has remained pretty stable over the last 20 to 25 years,” which could be good, except for the fact that “economic mobility in the United States remains behind that of other wealthy countries.  An American born at the bottom has about an 8 percent chance of rising to the top…the odds are twice that in Denmark.”  Furthermore, economic mobility in America varies considerably by region: “Rates of advancement in the Seattle, Washington, D.C., and San Francisco metro areas compared favorably with European countries.”  So, a little history lesson: rising income inequality in the United States and China, while different fundamentally, came about more or less at the same time (late 70s early 80s).  Income inequality in the United States is typically attributed to three factors: technological progress (cutting out middle wage jobs), globalization (outsourcing middle wage jobs) and economic policy (lower taxes for capital income).  (Also, rich people like to marry other rich people.  And the tech/information industry appears to be a boon for minorities.)  While we shouldn’t expect much to change in America until new policies (especially tax reform) come along, the pressures of inequality are naturally easing in China as the skill premium declines with a more educated work force.  So while it may not be any harder to climb the economic ladder since Reagan was President, income inequality is still very real; especially at the top: “Much of the increase in inequality has been driven by the extreme upper tail…and there is little or no correlation between mobility and extreme upper tail inequality…Instead, the correlation between inequality and mobility is driven primarily by “middle class” inequality.”  Furthermore, a healthy middle class means consumer confidence and purchasing power.  Finally, some Fortune 500 companies like Lockheed Martin and Deloitte are pledging to “help minimize hiring discrimination against people who have been out of work for many months or longer.”…p.s. State Of The Union is tonight at 6pm PST

China: China’s Rich Know Bailouts Equal Gold No. 1

“One of the nice things for wealthy people in China is that mysterious, unidentified third parties occasionally swoop in at the last minute to bail them out of investments that are about to default.”

USA: Gov’t, Internet Companies Reach Deal On Disclosure

“The Justice Department on Monday reached agreements with Google Inc., Microsoft Corp., Yahoo Inc., Facebook Inc. and LinkedIn Corp. that would allow them to disclose data on national security orders the companies have received under the Foreign Intelligence Surveillance Act.  While the compromise doesn’t allow companies to disclose everything they wished, and allows them to disclose more than the government originally wanted them to, both sides seem relatively satisfied with the agreement.”

USA: The Federal Government’s Backdoor Bailout Of Puerto Rico

“The Obama administration has already provided a multibillion-dollar bailout to Puerto Rico.  Nobody in the major media outlets has noticed because the issue is highly technical.”  Jonathan Weil describes it like this: “The gist is that Puerto Rico enacted an excise tax on U.S. multinationals that is of questionable constitutionality. The companies don’t mind because they get a credit for the tax. And the Treasury Department isn’t intervening. Sullivan concludes: “A lot of powerful interests like the current situation. They include the government and both major political parties in Puerto Rico, the Obama administration, investors in Puerto Rico’s municipal bonds, and U.S. multinationals that can credit the tax. The only ones on the short end of the stick are U.S. taxpayers, who are footing the bill that they would probably be unwilling to pay if they were ever asked.”

USA: Prices On The Rise, Less So For Homes, Durable Goods Orders Drop, Consumer Confidence Rises

“A growing number of U.S. businesses expect to raise prices in the coming months, according to a new survey by the National Association for Business Economics.  About 43% of companies plan to raise prices in the first three months of 2014, far more than the 20% that said they actually did raise prices in last year’s fourth quarter.  Just over half — 56% — expect prices to stay flat and about 2% expect them to fall.”  Meanwhile, “home prices are showing signs of topping out: The S&P/Case-Shiller index posted its first month-over-month decline in 10 months on Tuesday.  The annual measure of home prices still increased 13.7% in November, but that was only narrowly better than the rise posted in October…National prices are still nearly 20% below peak levels reached in mid-2006.”  Here’s a look at Case-Shiller by Metro Area.  Also, “the Commerce Department said on Tuesday durable goods orders dropped 4.3 percent, pulled down by weak demand for transportation equipment, primary metals, computers and electronic products and capital goods.”  Finally, “the Conference Board, an industry group, said its index of consumer attitudes rose to 80.7 from an [sic] downwardly revised 77.5 in December.  Economists polled by Reuters had expected a reading of 78.1.”

UK: Fastest Growth Since 2007

“Gross domestic product expanded by 1.9% in 2013 — compared with 0.3% in 2012 — and there are signs that the recovery is extending beyond consumer spending and the housing market.”

USA: Obama’s Economy In 17 Charts

Global: Asset Class Dashboard

Tesla stockEmerging Markets: SKAM (South Korea And Mexico) And The Rest

Last week was rough for emerging markets: “The benchmark MSCI Emerging Market Index (.MSCIEF) dropped nearly 4 percent over the last five trading days, and after Wall Street’s dramatic selloff on Friday it is expected to fall further on Monday. Investors have pulled money out of emerging markets stocks funds in six of the last seven weeks, including a $422 million retreat in the week ended January 22.”  The Economist argues that even though the “rich world’s central bankers do not have much of a clue how to tame the beast they have created in the form of ultra-loose monetary policy,” the “doom-mongers are too pessimistic” for, more or less, one reason: the sell-off has been discriminating.  Whereas before, Brazil, Turkey, Argentina, Mexico and South Korea were all likely considered equal parts of the same “Emerging Markets” category, we should take notice of how they are splintering away from one another in terms of financial reforms and social upheaval.  The Financial Times agrees, and says “there are clear divisions emerging, and understanding which countries influence into each other more directly than others matters now more than ever.”  Brazil, for example, may be hit rather hard with both the tapering as well as China’s slowdown as much of its economy relies on basic material exports to China.  On the flip side of the coin are countries like South Korea and Mexico, whose “exporters earn revenue in dollars, reducing their exposure to volatility in local currencies.“  Speaking of Mexico, Finance Minister Luis Vadagaray believes the Mexican economy “will grow nearly four percent this year and is looking forward to attracting significant investment due to a string of economic reforms passed by President Enrique Pena Nieto.”  And as the Federal Reserve “steers policy based on only domestic economic considerations…the Fed is likely to trim its bond purchase program further at this week’s meeting.” But its hard to imagine they wouldn’t at least consider the global deflationary risks: “with inflation rates already worryingly low in the euro zone and uncomfortably so in the U.S., there’s a risk the emerging markets currency crisis will drag them lower still.  Labor costs in these crisis economies will fall as will import demand which will feed into global deflationary pressures.”

DOJ Would Like To Choke Out Online Shadow Lending

“Federal prosecutors are trying to thwart the easy access that predatory lenders and dubious online merchants have to Americans’ bank accounts…in the new initiative, called ‘Operation Choke Point’…As a growing number of states enact interest rate caps that effectively ban the loans, the lenders increasingly depend on the banks for their survival.  With the banks’ help, the lenders that typically work with a third-party payment processor that has an account at the banks are able, authorities say, to automatically deduct payments from customers’ checking accounts even in states where the loans are illegal…The more questionable the merchant, the greater fees Four Oaks stood to collect, prosecutors say.  Every time consumers spot an unauthorized withdrawal and request money back, the bank makes money to process the return.  And fees for processing returns, according to prosecutors, can dwarf the fees Four Oaks earned for processing the original withdrawals.”

Onshoring: Foxconn Chairman Says U.S. Is A “Must-Go Market”

“Taiwan’s Foxconn Technology Group, the major supplier of Apple Inc.’s iPhone and iPads, may build high-tech factories in the United States and low-cost plants in Indonesia as the appeal of ‘made in China’ fades into a burden.”

USA: That Jamie Dimon Raise

Income inequality is kind of a big deal these days (but not for the folks partying in Davos), and what better way to frame the discussion then a 74 percent raise for Jamie Dimon?  Financial Times likes it.  Reuters doesn’t.  This guy thinks the American one-percent are akin to Jews in Nazi Germany.  Move along.

USA: Tesla Stock Killed A Guy With A Ph.D. In Economics From Harvard

Official Wizard Of Walla Walla Prediction: Google is building a robot butler/services bot…

Check out the list of Google’s recent acquisitions and tell me I’m wrong.  Technologies purchased include security, facial recognition, package delivery, social prediction, deep neural networks, natural language processing, gesture recognition technology, humanoid robots, home automation and, as of yesterday, an artificial intelligence company dedicated to “machine learning and systems neuroscience.”

USA: New Home Sales Fall For Second Straight Month In December

“The Commerce Department said on Monday sales fell 7.0 percent to a seasonally adjusted annual rate of 414,000 units…Economists polled by Reuters had expected new home sales, which are measured when contracts are signed, to slow to a 457,000-unit pace in December.  The second straight month of declines in sales was likely payback after October’s outsized 14.9 percent increase and may have reflected some drag from cold weather that blanked most parts of the country last month.”

USA: Working Age Americans Make Up Majority Of Food Stamp Households

“Since 2009, more than 50 percent of U.S. households receiving food stamps have been adults ages 18 to 59, according to the Census Bureau’s Current Population Survey.  That compares to 1998, when the working-age share of food stamp households was at a low of 44 percent, according to researchers at the University of Kentucky.  The food stamp program now covers 1 in 7 Americans.”

Asset Allocation: Bill Gross Might Be Buying Some Stocks

Bill Gross says he is ready “to push the firm toward new growth areas,” which means stocks.  Gross would probably like to take a look at this chart as he considers diversifying the asset class mix in his portfolio.  Also, does the growth of passive investing make opportunities for active investors?  (eg. index inclusion boosting stock PE ~150 bps) Morningstar says “no,” as long as active traders continue to chase market performance and the idea that valuations are objective or “true”.  Meanwhile, Goldman Sachs got a “barrage of questions” after one of their equity strategists said that US stocks were “lofty by almost any measure.”  He has so far “gotten enough questions to convince him further that ‘many on the buy side expect price gains of 10% to 20% this year,’” which seems a bit “frothy”, doesn’t it?

Housing Market Currents

Michael Stegman, a senior Treasury adviser, gave a speech at an industry conference in Las Vegas, yesterday, regarding some of the housing policy initiatives the Obama administration could undertake in 2014.  The Treasury Department 1) doesn’t think the cut-off date for HARP loans should change, 2) supports creating a HARP-like program for loans that aren’t backed by Fannie and Freddie, 3) would like to see the price gap between Fannie and Freddie securities shrink and 4) supports “broadening the availability of mortgage credit over the longer term.”  Meanwhile, buyers flocked to foreclosures in 2013 — and many of them paid all cash: “Sales of foreclosed and distressed homes made up 16.2% of all home sales last year, up from 14.5% in 2012…All-cash deals accounted for 29.2% of all home purchases last year, up significantly from 19.4% the year before…During the year, 7.3% of all home sales were to investors, up from 5.1% the year before.  Major markets where investors claimed the largest percentage of sales in December included Jacksonville, Fla., at 38.7%, Knoxville, Tenn., (31.9%), Atlanta (25.2%), Cape Coral, Fla. (24.9%), Cincinnati (19.3%), and Las Vegas (18.2%).”  Also, existing home sales “increased to an annual rate of 4.87 million units last month, up 1 percent from the November sales pace…For all of 2013, sales totaled 5.09 million, the best performance since 2006, when sales totaled 6.48 million…Analysts say a more normal sales pace currently would be around 5.5 million units.”

Oil-By-Rail: Regulation May Lead To “Aggressive Retrofitting”

The Department of Transportation may be considering stricter regulation of the booming oil-by-rail industry: “Tank cars known as DOT-111s are used to transport most of the 10 percent of U.S. oil production, or around 800,000 barrels per day, that is shipped by railroad…DOT-111 railcars built before 2011, which have been involved in several accidents, are under scrutiny for safety issues that make them more likely to puncture in a derailment.  Newer cars feature thicker steel and protective plates and fixtures, but the U.S. Department of Transportation (DOT) has so far allowed older cars to stay in circulation, even as the Association of American Railroads has called for their “aggressive” retrofitting.”  Meanwhile, a biotech startup in Silicon Valley may have just found a way to produce gasoline from natural gas, “something that has eluded the world’s top chemists and oil and gas companies for decades.”  Then again, “because of the nature of its throw-everything-at-the-wall approach, it doesn’t know precisely how its new catalyst works.”  But we’ll keep it on the radar, since a breakthrough in this field “would be seismic.”

Putting A Price On Fraud: Credit Unions v. Target, USA v. Security Background Checks

The Credit Union National Association says it has “spent as much as $30 million dealing with the impact of the recent card-security breach at Target Corp., not including fraud losses that are expected to trickle through the industry in coming weeks.”  Meanwhile, “The Justice Department on Wednesday accused the government’s largest private security background check contractor (USIS) of defrauding the country of millions of dollars by methodically filing more than 660,000 flawed background investigations — 40% of the cases it sent to the government over a four-year period…Over the past decade, USIS has been awarded more than $4 billion in federal contracts.”

EU: JPMorgan Backs UK’s EU Membership As Good For Trade

JPMorgan is warning the UK Treasury that if it leaves the European Union it could “lose its clout in trans-Atlantic trade and regulatory disputes.”  Several banks in London are arguing that the UK’s membership in the European Union is a vital part of the reason why London retains a global financial hub status.  “Prime Minister David Cameron promised voters he would renegotiate the terms of EU membership before holding a referendum by 2017 if his ruling Conservatives win elections next year.”

USA: Short The Denver Broncos

 Global: The Big Mac Index