Signs of the Times

 

By Bob hoye

 

"Spanish banks' bad loans jumped to an 18-year high in May."

– Bloomberg, July 18

 

"Speculative-grade corporate debt in Europe is the most expensive to insure in

1 1/2 years."

– Bloomberg, July 20

 

"Wall Street's five biggest banks reported the worst start to a year since 2008."

– Bloomberg, July 20

 

"Landlords are piling the most debt onto commercial properties in five years as Wall Street bundles the loans into bonds to meet rising demand from investors seeking high yields amid record-low interest rates."

– Bloomberg, July 17

 

This is getting intriguing. Conservative money, and lots of it, has been finding comfort in the liquidity of US treasury bills. This has been enough to drive yields to Depression lows. Longer-dated corporate bonds are not at Depression-devastated high yields. But, are working on a momentum and sentiment high for prices.

 

Wall Street is again "bundling" securities, and "investors" are again reaching for yield.

What's next?

 

*   *   *   *   *

 

PERSPECTIVE

 

Last week's Pivot concluded that the Dollar Index was having trouble getting through the 83.5 level and that any decline would prompt some "Positive vibes". The shelf-life was good until Friday, and Ross got onto the change with the two ChartWorks on Sunday.

The change was Spanish yields going to new highs, as the DX rose to 84.10 on Tuesday. Yesterday's updated ChartWorks reviewed that the near term tendency will likely be down.

Overall, this works with the likelihood of choppy action through the summer.

 

However, as each week goes by events continue to reinforce our view that Mother Nature is adamant about keeping financial history on a fairly typical post-bubble contraction. Benighted policymakers don't stand a chance – again.

 

The inability to really service sovereign debt is shown by Spain's 10-year notes rising to 7.50% (new high) on Monday.

 

Hope over reality has brought relief, otherwise known as positive vibes, that could run for a week or so.

 

Stock market advice has been to sell the rallies.

 

CREDIT MARKETS

 

The hypocrisy of the establishment is something else again. Agit-propaganda about Barclays "manipulating" Libor has more to do with politics than improving interest rate markets. Terry Corcoran at the Financial Post has had some good pieces on the story. Yesterday's is the latest and here is the link:

 

http://opinion.financialpost.com/2012/07/25/terence-corcoran-the-u-k-libor-coverup/

There are comments going back to the 1500s about a businessman complaining that some agent is deliberately setting rates too high. Then there is the seemingly endless record of "intellectuals" speculating or boasting that some agency can lower rates at will. Such examples usually appear during financial crises.

 

For the record, successful traders, such as Thomas Gresham (1519 – 1579), seem to be able to understand a crisis and merely observe that there is no money available – even "with double collateral".

 

By a process of learning the hard way, successful traders get liquid or defensive at a speculative high.  Thus Gresham's dispassionate reporting, rather than despairing for some agent to wave a credit wand.

 

Sadly, the notion that some gifted agency can manipulate interest rates for the public good or relief has become dominant. And no matter how hapless the behaviour of the Fed has been it still has its admirers.

 

The speculative boom in commodities that culminated in 1919 was followed by an equally outstanding crash. The objective of the Fed during the 1920s was to prevent commodities from falling further. The real price of copper plunged from 663 to 148 and spent most of the 1920s around 175. The high in 1929 was 323 and the Depression low was 84.

 

The attempt to prop up commodities (old losers) was not successful as excess funds roared into the stock markets (new winners). The excitement of inflation in financial assets was discovered – again. Current policymakers still do not understand inflation in financial assets during a great bubble and that great depressions have always followed. As head of the Fed in 1927, Ben Strong, knew about financial asset inflation with his "coup de whiskey" remark. We elaborated on this in November 2007 and the piece follows.

 

The problem is that interventionist economists have read economic theories, not market history.

 

The point is that Fed manipulations have not materially changed financial history, but have exaggerated the urge to speculate.

 

Why does the establishment grant central bankers the privilege of manipulating interest rates, and recently condemn what appeared to be interest rate manipulation of the non-government Libor?

 

In this regard, the Fed provides a special irony. It attempts to regulate economic behaviour through interest-rate manipulation via the official "Fed Funds". Special is that the Fed is owned by a small group of large private banks.

 

The story gets worse. Talk to anyone who was on a Canadian bond trading desk in the 1960s and 1970s when the laws applied to traders did not apply to their equivalent at the Bank of Canada.

 

Offences such as wash trading to "increase" trading volume, focusing on one maturity to push the whole market up, and timing news releases to favour the market would put a private trader in jail. The central bank did it with no regard for common law.

 

The noise about Libor is purely political as control freaks are looking for another item to run. Perhaps part of Robert Diamond resignation from Barclays has to do with the nonsense of government functionaries impractical intrusions. Who needs it?

 

At one time, call money was a benchmark interest rate. This was the rate at which private banks loaned funds to brokers, who in turn provided margin to customers. Then in the insanity of yet another "new" financial era banks became brokers and putting it glibly; call money became Libor.

 

Now the empty suits want to take it over.

 

BOND MARKET

 

Exciting times. Sovereign debt issues have been under severe pressures as long-dated US treasuries are working on an "Eiffel Tower" top. The action is similar to the magnificent high for silver at 48.35 in April 2011.

 

Technically, the long bond has become another asset play that has little to do with interest rates. Representing investment-grade corporates, the LQD is carrying on with impetuous buying, impetuous enough to register some daily Upside Exhaustions. In the past these have led the high by a few weeks. We have had our eye on the top channel-line at 122. Of course, precision depends upon the thickness of the trend line.

 

The reversal will be interesting as most corporates could then be heading to depression-high yields.

 

Link to Friday, July 27 ‘Bob and Phil Show’ on TalkDigitalNetwork.com:

http://talkdigitalnetwork.com/2012/07/saving-the-eurozone/

 

 

 

 BOB HOYE,   INSTITUTIONAL ADVISORS

E-MAIL  bhoye.institutionaladvisors@telus.net

WEBSITE:   www.institutionaladvisors.com

 

 

 

CREDIT SPREADS:

Junk vs. Treasuries

 

 

 

  • Up represents narrowing, which indicates confidence.
  • Down is bad.
  • A few weeks ago we reviewed a few items that were replicating their action in the summer of 2008.
  • This is another one.

 

Excerpt from

PIVOTAL EVENTS

published November 1, 2007

 

Today the next crisis seems to have started.

 

In the meantime the October 17 Financial Times made some interesting points:

 

"A decade ago, when Asia was facing a financial crisis, American bankers and government officials regularly traveled to the region delivering homilies about the best way to exit a banking mess.  After all - or so the lectures went - America had suffered bank crises, such as the Savings and Loan debacle of the late 1980s.  This experience had shown that the best route to recovery was to establish realistic prices for distressed assets, by conducting fire sales if necessary, and then write the losses off.   However, it seems  that some US financiers seem to need to take a hefty swig of the medicine they used to wave at Asia."

 

Well, that problem is not just in America, but global financiers and central bankers combined to juice the markets, prompting impressive short covering.

 

It reminds of 1927 when faltering spirits with the collapsing Florida real estate bubble needed reviving.  Ben Strong, then head of the New York Fed, told a French central banker that he was going to give the markets a "coup de whiskey".  The rally was terrific but as it turned out, yet another story in the house of cards. It might just as well have been called a "coup de bourse", and it was celebrated as a "coup d'eclat", prompting a "coup de chapeau".  For realists it was eventually seen as a failure ("coup de manque") as was all the preceding nonsense about managing "price stability".  As for us, we would have been content with a "coup de beer".

 

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