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STALL SPEED : Any Geo-Political, Economic or Financial Event Could Trigger a Market Clearing Fall

As we reported last month, Global Economic Risks have taken a noticeable and abrupt turn downward over the last 60 days. Deterioration in Credit Default Swaps, Money Supply and many of our Macro Analytics metrics suggested the global economic condition is at a Tipping Point. Though we stated "Urgent and significant actions must be taken by global leaders and central banks to reduce growing credit stresses" nothing has occurred even after the 19th disappointing EU Summit to address the EU Crisis. Some event is soon going to push the global economy over the present Tipping Point unless major globally coordianted policy initiatives are undertaken. The IMF recently warned and reduced Global growth to 3.5%. This is just marginally above the 3% threshold that marks a Global recession. This would be the first global recession ever recorded. The World Bank is "unpolitically'projecting 2.5%. The situation is now deteriorating so rapidly, as to be impossible to hide anylonger.

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AUGUST 2012: MONTHLY MARKET COMMENTARY (Subscription Plan II)

MONETARY MALPRACTICE : Moral Hazard, Unintended Consequences & Dysfunctional Markets - Monetary Malpractice has had the desired result of driving Investors into becoming Speculators and are now nothing more than low-odds Gamblers. There is a difference between investing, speculating and gambling. At one time these lines were easy to comprehend and these distinctive groups separated into camps with different risk profiles in which to  seek their fortunes. Today investing has become at best nothing more than speculating and realistically closer to outright gambling.

The reason is that vital information is either opaque, hidden or manipulated. Blatant examples such as: the world of off balance sheet debt, Contingent Liabilities, Derivative SWAPS, Special Purpose Vehicles (SPV), Special Purpose Entities (SPE), Structured Investment Vehicles (SIV) and obscene levels of hidden leverage make a mockery out of public Financial Statements. Surely if we get our ego out of this for a moment we can see that stockholders are now nothing more than gamblers? What is worse is that the casino is rigged. With Monetary Policy now targeting negative real interest rates, it is forcing the public out of interest bearing savings and investing, and into higher risk vehicles they would have shunned historically. They have no choice as the Monetary Malpractice game is played against them.

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MARKET ANALYTICS & TECHNO-FUNDAMENTAL ANALYSIS

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	PART I - Understanding FINANCIAL REPRESSION
	PART II - FINANCIAL REPRESSION in Europe
	PART III - FINANCIAL REPRESSION in the US & ASIA
	PART IV - Preparations for FINANCIAL REPRESSION

Password: macro

ECB - SMP 2.0 aka OMT (Outright Monetary Transactions) Announcement

ECB Releases SMP2.0 Aka Outright Monetary Transactions Details 09-06-12 ECB

From the ECB:

6 September 2021 - Technical features of Outright Monetary Transactions

As announced on 2 August 2012, the Governing Council of the European Central Bank (ECB) has today taken decisions on a number of technical features regarding the Eurosystem’s outright transactions in secondary sovereign bond markets that aim at safeguarding an appropriate monetary policy transmission and the singleness of the monetary policy. These will be known as Outright Monetary Transactions (OMTs) and will be conducted within the following framework:

Conditionality

A necessary condition for Outright Monetary Transactions is strict and effective conditionality attached to an appropriate European Financial Stability Facility/European Stability Mechanism (EFSF/ESM) programme. Such programmes can take the form of a full EFSF/ESM macroeconomic adjustment programme or a precautionary programme (Enhanced Conditions Credit Line), provided that they include the possibility of EFSF/ESM primary market purchases. The involvement of the IMF shall also be sought for the design of the country-specific conditionality and the monitoring of such a programme.

The Governing Council will consider Outright Monetary Transactions to the extent that they are warranted from a monetary policy perspective as long as programme conditionality is fully respected, and terminate them once their objectives are achieved or when there is non-compliance with the macroeconomic adjustment or precautionary programme.

Following a thorough assessment, the Governing Council will decide on the start, continuation and suspension of Outright Monetary Transactions in full discretion and acting in accordance with its monetary policy mandate.

Coverage

Outright Monetary Transactions will be considered for future cases of EFSF/ESM macroeconomic adjustment programmes or precautionary programmes as specified above. They may also be considered for Member States currently under a macroeconomic adjustment programme when they will be regaining bond market access.

Transactions will be focused on the shorter part of the yield curve, and in particular on sovereign bonds with a maturity of between one and three years.

No ex ante quantitative limits are set on the size of Outright Monetary Transactions.

Creditor treatment

The Eurosystem intends to clarify in the legal act concerning Outright Monetary Transactions that it accepts the same (pari passu) treatment as private or other creditors with respect to bonds issued by euro area countries and purchased by the Eurosystem through Outright Monetary Transactions, in accordance with the terms of such bonds.

Sterilisation

The liquidity created through Outright Monetary Transactions will be fully sterilised.

Transparency

Aggregate Outright Monetary Transaction holdings and their market values will be published on a weekly basis. Publication of the average duration of Outright Monetary Transaction holdings and the breakdown by country will take place on a monthly basis.

Securities Markets Programme

Following today’s decision on Outright Monetary Transactions, the Securities Markets Programme (SMP) is herewith terminated. The liquidity injected through the SMP will continue to be absorbed as in the past, and the existing securities in the SMP portfolio will be held to maturity.

And here are the details on the expansion of ECB collateral, aka the "please give us your used condom wrappers for 100 cents on the Euro" part.

6 September 2021 - Measures to preserve collateral availability

On 6 September 2021 the Governing Council of the European Central Bank (ECB) decided on additional measures to preserve collateral availability for counterparties in order to maintain their access to the Eurosystem’s liquidity-providing operations.

Change in eligibility for central government assets

The Governing Council of the ECB has decided to suspend the application of the minimum credit rating threshold in the collateral eligibility requirements for the purposes of the Eurosystem’s credit operations in the case of marketable debt instruments issued or guaranteed by the central government, and credit claims granted to or guaranteed by the central government, of countries that are eligible for Outright Monetary Transactions or are under an EU-IMF programme and comply with the attached conditionality as assessed by the Governing Council.

The suspension applies to all outstanding and new assets of the type described above.

The decision on the collateral eligibility of bonds issued or guaranteed by the Greek government taken by the Governing Council on 18 July 2021 is still applicable (Decision ECB/2012/14).

Expansion of the list of assets eligible to be used as collateral

The Governing Council of the ECB has also decided that marketable debt instruments denominated in currencies other than the euro, namely the US dollar, the pound sterling and the Japanese yen, and issued and held in the euro area, are eligible to be used as collateral in Eurosystem credit operations until further notice. This measure reintroduces a similar decision that was applicable between October 2008 and December 2010, with appropriate valuation markdowns.

These measures will come into force with the relevant legal acts.

"pari passu" - It is quite clear to Greece that if the ECB has bought Greek bonds under the new SMP 2.0 program instead of SMP 1.0, its debt would now be about €100 billion less.

ECB - OMT versus the Taylor Rule

The One Chart To Explain Why Draghi's Blunt Tool Can't Fix Europe 09-06-12 Zero Hedge

The monetary policy transmission mechanism is broken in Europe; we all know it and even ECB head Draghi has admitted it (and is trying to solve it). As Bloomberg economist David Powell noted though, Draghi may have to address the economic fragmentation of the euro area before undoing the financial fragmentation of the region. The latter may just be a symptom of the former. The Taylor Rule, a policy guideline that models a monetary authority’s interest rate response to the paths of inflation and economic activity, highlights the drastically different monetary policies required across the various EU nations as a result of their variegated domestic economic conditions. This variation creates concerns over sustainability and the rational (not irrational as Draghi would have us believe) act of transferring deposits to 'safer' nations for fear of redenomination; and Draghi's bond-buying plan is unlikely to allay that fear anytime soon - as economies remain hugely divergent.

David Powell, Bloomberg: Draghi's Financial Fragmentation Fight Ignores Root Problem

Unemployment rates demonstrate the divergence of the region’s economies.

...

A Taylor Rule demonstrates the drastically different monetary policies required in those countries as a result of their domestic economic conditions. The model, based on coefficients estimated by the Federal Reserve Bank of San Francisco, signals the main policy rate should be minus 7.75 percent for Spain. It should be minus 3.75 percent for Portugal, minus 3.5 percent for Ireland and minus 10 percent for Greece. Germany is at the other end of the spectrum. It requires a main policy rate of 4.25 percent.

It appears broadly the Euro-zone rate is set 'fair' which means any rate cuts will be notably euro-zone inflationary - something Draghi wants to avoid.

Those economic divergences appear to have led depositors to question the sustainability of the monetary union in the absence of large-scale fiscal transfers to cushion the weakness in certain countries.

Savers may be transferring their funds to the banks of the creditor nations within the monetary union. Deposit growth in Finland jumped to 10.1 percent year over year in July. The figure for the Netherlands stood at 4.8 percent and that for Germany at 4.2 percent. Those transfers allow depositors to hedge – at no cost – the risk of redenomination of their savings into weaker domestic currencies. That behavior appears completely rational, as opposed to the “irrational fears” cited by the ECB president.

One of the basic principles of finance is an investor will always choose an investment with less risk than another if the levels of return are the same.

Draghi will probably have to convince market participants of the economic sustainability of the monetary union before the financial fragmentation of the region is ended. The OMT is a way to achieve a more focused 'easing' implcitly as QE does in the US at ZIRP - but the conditionality removes the mechanism for that benefit to flow. The large-scale extension of central bank credit to potentially insolvent countries is unlikely to accomplish that.

Source: BloombergBriefs.com

US MONETARY POLICY - Diminshing Option Flexibility

Is the Fed running out of policy tools? 08-29-12 Yardeni via Pensions & Investments

A worthwhile read is an article titled “Interest on Excess Reserves and Cash 'Parked' at the Fed,” which was posted on the FRBNY's blog 08-27-12. It explains that all that cash that banks have does not in any way reflect their unwillingness to lend: “In the aggregate, therefore, these balances do not represent 'idle' funds that the banking system is unwilling to lend. In fact, the total quantity of reserve balances held by banks conveys no information about their lending activities - it simply reflects the Federal Reserve's decisions on how many assets to acquire.”

During the week of Aug. 22, deposits at the Fed held by depository institutions totaled $1.51 trillion, near the record high of $1.68 trillion during the week of July 13, 2011. Yet commercial and industrial loans have increased by $268.1 billion since late 2010.

The real zinger in the article is that cutting the interest rate the Fed pays on those deposits to zero from 0.25% is a bad idea: “Lowering this rate may also lead to disruptions in markets that weren't designed to operate at very low interest rates.” Paying a negative interest rate would be a really bad idea since “banks may choose to store currency rather than hold deposits at the Fed, and households may prefer holding cash if banks impose significant fees on deposits.” In other words, the Fed really is running out of policy tools, though there still is open-end QE3.

MONETARY MALPRACTICE - Unintended Consequences

Is The Fed Responsible For The Great Financial Crisis? 09-04-12 Deutsche Bank via Zero Hedge

"Recessions are a natural economic feature and their regular occurrence is healthy and indeed essential," is how Deutsche's Jim Reid introduces his investigation into post-Fed un-natural business cycles. Without them there is a serious danger of bubbles and the misallocation of resources as the further market participants detach themselves from the last downturn the more they tend to under-estimate risk. We,

Jim Reid, Deutsche Bank: The history of business cycles in the US

The chart below shows the duration of each economic expansion (i.e. between all US recessions) since the NBER started collating statistics from 1854. This highlights the fact that prior to the GFC the three preceding expansions were in the top five on record. We can also show that this cycle is now almost exactly average length through history.

If we re-order these cycles by duration we can show more clearly how this current US expansion compares to those through history.

We passed the median cycle length at the start of 2012 and we will be past the historical average point by the end of this month (September 2012). This expansion is now the 12th longest out of 34 since 1854.

There are those that suggest that the Fed's inception back in 1913 has allowed for longer business cycles and for those interested we have colour coded those cycles (above) that occurred after this point, and also those post WWII when overall economy debt seemed to start a YoY increase that continues to this day. Countering the argument for longer post-1913 cycles would be the view that without the Fed helping to elongate several recent cycles, the GFC we've just been through might not have been anywhere near this deep and we are therefore now left in a unique situation at what is at the likely end of a multi-decade leverage binge consisting of several artificially long cycles. We are also now arguably in a liquidity trap where the Fed are less potent that they have been before in their near 100 year history.

The three 'super-cycles' between 1982 and 2007 were the exception rather than the norm, one where Central Banks and Governments had almost total flexibility over policy. The conditions that allowed for these long cycles perhaps started a decade earlier with the already much talked about collapse of the Gold Standard.

Unfortunately the 25-30 year build up of excess that this facilitated led to the GFC being the worst crisis since the 1930s and we have now likely moved to an era where policymakers no longer have the flexibility that defined the previous 25-30 years. Most Developed World (DW) Governments are up against their fiscal limits and are actually being forced into economically damaging austerity. We also have interest rates across the Western World that remain close to zero with little room to be lowered further. While we do have money printing, we are close enough to a liquidity trap that flooding the market with printed money doesn't have the same immediate impact on the economy as a cut in interest rates did in the long leveraging stage of the super-cycle.

So not only are we battling with the huge structural problems that the post-credit crisis world brings, we are fighting it without much policy flexibility and are indeed being forced into a reversal of stimulus at arguably exactly the wrong time.

So it all adds up to a return to more normal length business cycles in our opinion. Indeed one could make an argument for shorter cycles than normal given the lack of policy flexibility relative to most of history.

We, like Jim, would argue that the reason the Great Financial Crisis was so deep was due to the authorities continued refusal to let the business cycle take its natural course.

FINANCIAL REPRESSION - Forced By Yield to Take Increased Risk

The New Normal Of Investing: Bonds For The Price, Equities For The Yield 09-06-12 Gluskin Sheff

The dividend theme has hardly run its course. As David Rosenberg of Gluskin Sheff illustrates in his latest note, the income-starved retiring boomers are being forced to garner income more and more via the equity market where dividends are up more than 8% over the past year.

STOCKS FOR THE YIELD, BONDS FOR THE PRICE?

Because of ultra-low interest rates, interest income growth has vanished completely. If you want income, you have to go to the lesser investment grade part of the corporate bond market, and even here, it is tough to get even a 7% coupon these days. Or you gravitate towards the dividend growth and dividend yield areas of the equity market T-bills and bank deposits protect capital but do not generate any return at all so that is a non-starter except for the most acute risk-averse folks in our midst.

And here is the great anomaly. Back in the early 1980s, investors bought equities for capital appreciation and they purchased Treasury securities for yield. Today it is the complete opposite. As the ongoing shift into hybrids strongly suggests, investors are gravitating to the equity market for a yield in a world where yield is increasingly a scarce commodity.

Moreover, investors are not buying Treasury notes and bonds for yield any more, but for the capital gain they generate - especially with The Fed's interventions taking more and more duration out of the private marketplace.

All the talk about "who in their right mind would lend 10-year money to Uncle Sam at 1.6%" obscures the fact that at low interest rate levels, returns get dominated more by the price changes in the bond. This is why anyone who, say, bought a plain-vanilla long bond a year ago at what seemed at the time to be a puny 3.7% yield, managed to experience a 22% total return: or a 44% net return for a 30-year 'strip' (zero coupon) bond.

So welcome to the new normal of investing: buying bonds for the price; buying equities for the yield.

Source: Gluskin Sheff

FINANCIAL REPRESSION - Financing Sovereign Debt

With Lending Slow, Banks' Cash Piles Up 08-23-12 Bloomberg

The gap between U.S. bank deposits and loans is growing at the fastest pace in two years. While overall lending is at pre-recession levels, many banks are using the surplus cash to buy Treasury bonds and government agency debt.

SPAIN - Bank Runs Accelerate - 5% of Countries Asset Base in July Alone

Spain's Debt Buyer Of Last Resort Becomes Seller In Scramble To Fund Deposit Outflows 09-01-12 Zero Hedge

While Mario Draghi is furiously trying to come up with a bond buying plan that is endorsed by Germany, Buba and Weidmann, all of whom have, to date, said, "9-9-9", regardless of what the final construct is, whether it includes the ECM, EFSF, and/or ECB buying bonds directly, the key distinction is that no monetary authority can buy bonds in the primary market, as that is a direct breach of Article 123/125, and absent a thorough revision of the Maastricht Treaty, investors will dump as soon as the ECB starts breaking the rules unilaterally. Certainly bonds can be monetized in the secondary market, but someone has to buy them from the government. And if Spanish banks are unable to stem the deposit outflow, there is simply no practical possibility for banks to be buying SPGBs in the primary market even as they are forced to dump them in the secondary market. In other words, the ECB may or may not surprise next week, but unless the Spanish public is convinced its banks are safe, and the remaining EUR1.5 trillion in Spanish deposits do not explicitly remain within the Spanish bank system, anything Draghi does will be for nothing.

BANK RUNS

In the month of July a whopping EUR74 billion, or 5% of the country's entire asset base, picked up and left, the bulk of it most likely taking the well-known path of least resistance to the safety of Swiss and German bank vaults

• The entire financial system's liabilities (deposits) just declined by a record EUR74 in one month, since
• The consolidated balance sheet has to balance, either Spain's (thoroughly insolvent) banks had to generate EUR74 billion in shareholder equity in one month, i.e. profits - a prospect which is rather amusing considering Spain's banking system recently officially demanded a European bailout, or banks had to sell a like amount of assets in order to fund this outflow. Naturally, they chose the latter.
• The problem is that the security they sold is the one which only the banks have been buying recently in order to preserve the illusion that Spain is solvent. It was Spanish sovereign bonds.

NON PERFORMING LOANS

Add to this the surge in Spanish bad debt, which as we reported recently soared to an all time high: NPLs which will have to be provisioned for with cash-hungry charge offs, and one can see why suddenly from a perfect summer, Spain may head straight into the perfect storm. Spanish loan delinquencies bad and getting worse in a hurry...

IMMEDIATE DEBT ISSUANCES

• 6 September: Spain auction. Bonds
• 18 September: Spain auction. Bills
• 20 September: Spain auction. Bonds
• 25 September: Spain auction. Bills
• 4 October: Spain auction. Bonds
• 16 October: Spain auction. Bills
• 18 October: Spain auction. Bonds
• 23 October: Spain auction. Bill

2013 DEBT ISSUANCES

As UBS explained: In 2013, Spain will need to refinance around EUR 60bn of maturing Bonos and Obligaciones while issuing an additional EUR 45bn to cover its public deficit. In this analysis, we assume that the government’s targets for next year are reached. This amount needs to include the funding for the deficit of local administration since regional issuance is unlikely to resume next year. Similarly, the central government very likely will need to cover the EUR 15 billion of Spanish regional debt maturing in 2013, which as it stands now cannot be otherwise refinanced. Additional central government funding may also need to be provided for maturing Spanish international and agency debt such as FADE bonds for a further EUR 3-4bn.

All in all, the total amount of gross bond issuance from Spain in 2013 could be in excess of EUR 120bn. That is around 40% higher than this year, 10-20% higher than in 2009 and almost four times larger than the average amount of Spanish bond issuance recorded in the previous four years.

SPAIN - Totally on TARGET2 Life Support

TARGET2 replacing other sources of funding for Bank of Spain 09-15-12 Credit Writedowns

SPAIN - Can Kicking Ends - Now Between a Rock and Hard Place

Spain: For Whom The Bell Now Tolls 09-02-12 Mark Grant via Zero Hedge

SITUATION: During the month of June alone $70.90 billion left the Spanish banks and in July it was worse at $92.88 billion which is 4.7% of total bank deposits in Spain. For the first seven months of the year the outflow adds up to $368.80 billion or 17.7% of the total bank deposits of Spain and the trajectory of the outflow is increasing dramatically. Reality is reality and Spain is experiencing a full-fledged run on its banks whether anyone in Europe wants to admit it or not.
 
The Spanish ten year now yields a 6.81% and their thirty year is yielding 7.34%. Spain has now set up a fund for its regions to tap of $22.6 billion and this, in my opinion, will not even be close to what is asked for or required with the regions needing some $50-75 billion in assistance in my estimation. Many of the regions in Spain are not paying suppliers or their other local debts and the situation is clearly out of control.
 
In October Spain has $25 billion in sovereign debt maturing plus will be adding new debt under their current plan so that the snakes are not only coming out from under the rocks but dropping from the trees. On top of this Bankia, late Friday, reported out bad loans of $8.24 billion and an operating loss of $5.58 billion causing the government to go into hyper-drive and promise to inject $5-6 billion into the bank immediately to prevent its collapse. If funds from the EU/IMF are to be utilized, which has been widely discussed, a very political problem arises. Bankia has issued preferred shares to many of their depositors and they would be wiped out if the European money is utilized under the current regulations which would cause Mr. Rajoy more than a few problems and could send people back into the streets. Then Spain has the highest unemployment rate in Europe, even higher than in Greece, with a 25.1% jobless rate. For those under twenty-five the job situation is extreme with a 53% unemployment rate.
 
The River Runs Dry
 
Between December of 2011 and the end of March 2012 the Spanish banks bought $109 billion of the Spanish sovereign debt. Much of this was facilitated by the ECB who lowered and lowered again the collateral rules and handed the money to the Spanish banks in such a size that bad things, very bad things will result if Spain hits the wall and defaults. Then since March, as forced by their own inadequate capital positions, the trend has reversed and the Spanish banks have sold $21.3 billion of Spanish sovereign debt with $11.7 billion in July alone as capital flees from the Spanish banks and the actuality of the balance sheets overcomes the “dynamic provisioning” that helped to cause the fantasy.
 
The friendly “suggestions” by national governments in Europe are also getting a push back from European buyers. BNP recently imposed a $12.5 billion debt limit by country and many other banks in Europe are following suit. BNP has reduced their sovereign debt holdings by 35% since June 2011. In July, the aggregate of sovereign debt reduction for all of the French banks was $8.7 billion as they took advantage of the ECB speculation to lower their holdings.

SPAIN - Youth Unemployment ~53% and overall 25.1% (Highest In Europe)

Euro-Zone youth unemployment hs now ticked back up to its euro-era record-high of 22.6% (18-year highs). Only Portugal saw an improvement is the rate of unemployment among the Under-25 age group (from 37.6% to 36.4%) though it remains anarchically high. Italy was the hardest hit, back above 35% with its largest rise in youth joblessness in 5 months, Ireland rose back above 30% for its biggest rise in 11 months as France jumped to two-year highs and Spain and Greece are practically deadlocked with ~53% of their younger-generation out of work - new all-time records. Why do we worry? Why is this so scary? Two reasons - this and this.

STUDENT LOANS - Malinvestment

Student Debt Malinvestment 09-03-12 Azizonomics

Student debt levels continue to soar. In 2012 they hit $1 trillion for the first time ever. But college education isn’t reaping the rewards it once did.

According to the Associated Press:

About 1.5 million, or 53.6 percent, of bachelor’s degree-holders under the age of 25 last year were jobless or underemployed, the highest share in at least 11 years.

And real wages have fallen for recent college graduates — although this has been part of a broader trend of falling real wages in the general population:

So why is student debt still soaring? The crucial factor is that student debt isn’t like other debt — it cannot be discharged simply through bankruptcy.

There’s no incentive for private lenders to be particularly careful in who they lend money to, because they know that there’s no way that whoever they lend the money to will ever be able to get rid of the debt short of dying.

But just because a loan is nondischargeable doesn’t mean that the loanee will be able to repay. With labour conditions for recent graduates still quite awful, student debt defaults have climbed. The Washington Times notes:

The number of borrowers defaulting on federal student loans has risen substantially, highlighting concerns that rising college costs, low graduation rates and poor job prospects are getting more and more students over their heads in debt.

The national two-year cohort default rate rose to 8.8 percent last year, from 7 percent in fiscal 2008, according to figures released Monday by the Department of Education.

That means that more unemployed former students will end up being hounded for debts that they cannot afford to repay, yet cannot discharge through bankruptcy. If those debts had been accrued at the roulette wheel, though, they could.

It wasn’t always this way.  Until 1976, all student loans could be discharged in bankruptcy. Until 1998, student loans could be discharged after a waiting period of five years.  In 1998, Congress made federal student loans nondischargeable in bankruptcy, and, in 2005, it similarly extended nodischargeability to private student loans.  Since 2000, student loan debt has exploded, and private student loans have grown even faster.

This presents a bigger problem than simply sending people to college who end up unemployed or underemployed. It means that capital is being misallocated. If debt for education cannot simply be discharged through bankruptcy, as other debt can be, private lenders will tend toward offering much more of the nondischargeable debt, and less of dischargeable debt. This means that there is less capital available for other uses — like starting or expanding a business. If the government’s regulatory framework leans toward sending more people to college, more people will go (the number of Americans under the age of 25 with at least a bachelor’s degree has grown 38 percent since 2000) — but the money and resources that they are loaned to do so is money and resources made unavailable for other purposes.

The efficient allocation of capital demands that lending is undertaken based on the real underlying market conditions. To ensure that this is the case, the bankruptcy rules for debt should be universal so that loan applications are considered on merit. This should mean that student loan debt should be dischargeable under the same bankruptcy conditions as other debt. More discerning lenders would likely mean less student lending — but would also mean that potential students would have to think harder about the decision to study, and be able to justify to themselves and to a lender why they are choosing to study (or why they are choosing to study a particular subject), instead of choosing to work, or choosing to start a business.

EARNINGS - An Aging Bull Market

Earnings indicate bull market is aging 08-21-12 Yardeni via Pensions & Investments

Earnings tend to rebound sharply during the start of bull markets and grow less rapidly as the bull ages. Based on the performance of forward earnings over the past year, this bull market is aging. After all, it will be 3½ years old next month.

S&P 500 revenues are highly correlated with manufacturing and trade sales in the U.S. During June, these sales grew just 3% year-over-year, the slowest pace since November 2009. S&P 500 revenues edged up 0.3% quarter-over-quarter during Q2 and were only 1.9% above last year, the slowest pace since Q3 2009.

Industry analysts are lowering their expectations for revenue growth this year and next year. In mid-August, they expected S&P 500 revenues to increase 2.7% this year and 4.1% next year.

Further evidence corporate earnings power is weakening 09-04-12 Yardeni via Pensions & Investments

The bull is running out of earnings power. Consider the following:

1. Pre-Tax Profits by Source. The Bureau of Economic Analysis disaggregates the components of National Income & Product Accounts (NIPA) profits on a pre-tax basis. The data show that the domestic profits of non-financial corporations rose to a record high of $1.1 trillion (seasonally adjusted annual rate) during Q2, up 7% year-over-year. However, profits of financial corporations have stalled in a zigzag fashion over the past three years, while profits from the rest of the world have fallen from a recent peak of $451 billion during Q4 2011 to $422 billion during Q2 2012.

2. Financial Corporate Profits. The S&P, NIPA and FDIC measures of financial corporate profits are looking especially toppy. The FDIC data show that commercial banks have been reducing their provisions for loan losses from a peak of $71 billion during Q4 2008 to $14 billion during Q2 2012. That has boosted earnings. However, charge-offs for bad loans have exceeded provisions since Q1 2010, which is a drag on earnings.

3. Profits from Abroad. I've been arguing that despite the global slowdown, U.S. corporations would find enough business opportunities overseas to offset slower growth in the U.S. The latest data show I got that exactly backwards so far. Domestic profits rose to a record high, as noted above. Profit receipts from abroad, which account for 33.4% of pre-tax corporate profits, declined 3.2% year-over-year, the weakest growth rate since Q3 2009. The problem is that the year-over-year growth in profit receipts from abroad tends to be inversely correlated with the trade-weighted dollar on a 2-for-1 basis. The dollar is up 8.8% year-over-year through July, implying a decline twice as much for overseas profits.

CAPEX - A Balance Sheet Recession

The balance-sheet-recession mantra of debt-minimization over profit-maximization is in full swing in the corporatocracy.

The Three Charts Of The Corporate Apocalypse (Or Why Aren't Low Rates Working?) 09-02-12 Zero Hedge

Corporates are in relatively good financial shape and theory says should respond to high profits and cheap debt by investing more. However, while high 'profits' and low cost of debt are reasons for capex and opex to be rising more quickly than they are, these two critical drives of recovery show no signs of responding to these profit/debt incentives - and so as Citigroup notes "recovering is not booming". Top-down, compared to history, capex is low, following P/E's sentiment - especially in Europe (indicating a lack of confidence in the future). However, at the sector level this reverses: high capex has been given a low PE, while low capex has a high PE. The market is effectively encouraging companies to invest less and return more money. Longer term the consequences for economic growth, inflation and earnings growth are negative. It seems - as indicated by the relatively low level of net borrowing during a period of ultra-low interest rates and the market's decision to demand low capex and more yield from companies - that the balance-sheet-recession mantra of debt-minimization over profit-maximization is in full swing in the corporatocracy - and we know from Japan that no matter how much extreme monetary policy is thrown at the wall, none of it sticks.

The Lower The Rate, The Less They Borrow

Despite extremely low interest rates around the world's advanced economies - and lots of chatter of high levels of new issuance, the fact of the matter is that net new issuance (i.e. new-issues - redemptions/maturies/coupons) has remained low to negative (one of the key reasons for credit's strength as the supply drag remains light). This is entirely paradoxical to the central-bankers' mantra of reducing rates to spark releveraging and growth...

Confidence Versus Capex

There is a close relationship between P/E multiples and capex over the last 20 years. Companies invest more when they are confident about the future. They get that confidence from the market’s confidence in their growth prospects, as shown by a higher P/E. As the P/E has fallen, capex/sales has declined. This lower level of investment is likely to have an impact on the ability of companies to grow and also on the growth rates of the economies in which this spend has been reduced.

Save  - Or Be De-Rated

The chart below shows the relationship between the level of 2012 capex/sales and the P/E. Unlike market history those companies that are spending relatively high levels of capex are now on low P/Es. Those sectors with lower capex/sales ratios are being rated more highly. The equity market is saying to those companies that invest heavily in capex that it would rather they didn’t.

The equity market is clearly skeptical about the value created by high levels of capital spending.

Bottom-Line:High profits and low cost of debt are reasons for capex and opex to be rising more quickly than they are. Compared to history capex is low, following the PE. However, at the sector level this reverses. High capex means a low PE, while low capex means a high PE. The market is effectively encouraging companies to invest less and return more money. Longer term the consequences for economic growth, inflation and earnings growth are clearly negative - as we trade (once again) short-term equity gain for long-term sustainable economic gain.

EARNINGS - The HOPE Cycle Likely to Repeat

The Inexorable Disappointment Of The Earnings 'Hope' Cycle 09-02-12 Barclays Capital via Zero Hedge

Summer is over. Analysts return to their desks amid a grand-tour of conferences, industry gatherings, and company meetings, and - as has happened on average for the last twelve years - expectations are notched down from first-half-of-the-year 'hope' that this-time-is-different. Barclays' Barry Knapp notes that while macro risks seem more balanced than last spring, equity investors face a considerably higher risk in that of elevated earnings estimates. Since 2000, the worst month for analyst estimate revision momentum (net revisions) is also October, followed by September and December (tied). It stands to reason (though it’s tough to statistically ‘prove’) that equity investors and analysts return from vacation, attend conferences, and cut their earnings estimates. This, in turn, contributes to increased volatility and negative returns. While many will be focused on broader concerns – the ECB meeting, German Constitutional Court, presidential polls and macro data – equity investors are likely to hear a consistent message from the ~180 conferences: the global and domestic economic outlook is not robust enough to justify 11% y/y earnings growth in 4Q12 or 12% in 2013.

Via Barry Knapp, Barclays: When Equity Investors Go Back To School

As was the case in April and July, current quarter (3Q12) estimates have in fact been reduced – in this case to roughly -3% y/y. Forward estimates remain quite optimistic though, with 4Q12 up ~11% y/y; consumer discretionary, financials, technology and materials are expected to lead the rebound to robust earnings growth. At this stage of the business cycle, we would expect earnings growth close to that of nominal GDP.  Our S&P 500 earnings forecast calls for 4% growth for both 2012 and 2013. Still, despite ample evidence that domestic growth is below its potential (~6%) and emerging markets are no longer a source of positive operating leverage, the consensus for 2013 remains +12%. In our view, the numbers need to come down; we suspect all those conferences will play a role in the seemingly inevitable rationalization.

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Most investors are cognizant of autumn’s seasonality in terms of returns and volatility; August, on average, has been the worst-performing month since 1989 and September the second, while December has been the best-performing month through that time...

...since 2000, the worst month for analyst estimate revision momentum (net revisions) is also October, followed by September and December (tied). It stands to reason (though it’s tough to statistically ‘prove’) that equity investors and analysts return from vacation, attend conferences, and cut their earnings estimates. This, in turn, contributes to increased volatility and negative returns.

With few signs of global growth stabilization and a reasonably soft, albeit more stable, U.S outlook, we were struck by expectations of a sharp acceleration in earnings growth (both 4Q12 and full-year 2012) in the domestically leveraged consumer discretionary sector and a return to growth in the globally geared materials sector. In both cases, estimate trends are down and net revisions, a leading indicator, are headed lower. Weekly chain store sales estimates for August, part of the second most important shopping season of the year, ‘back-to-school’, are well below last year. ICSC is forecasting 1 to 1 ½% y/y comparable store sales for the month (compared to +4.6% in August 2011), while the Redbook series is forecasting 1.7%. Consumer confidence has been falling as gasoline prices march back towards $4 a gallon. Estimates have fallen in the metals and mining names but chemicals remain at risk from the myriad of negative data points (China, in particular).

Equity investors are likely to hear a consistent message from the ~180 conferences: the global and domestic economic outlook is not robust enough to justify 11% y/y earnings growth in 4Q12 or 12% in 2013.

EARNINGS - "Earnings Recession" (ex Financials)

Financials Hide Analysts' "Earnings Recession" Expectations 09-04-12 UBS via Zero Hedge

We know top-line numbers were a disappointment in Q2; but the long-only AUM-defending commission-takers will remind you that 'stocks are cheap', '...valuation...', 'money on the the sidelines', and on the surface there was a 6.9% increase in EPS from Q2 2011 (growthy and as UBS notes - anything but anemic). But, like every good story, the truth is darker under the surface; looking at earnings growth (i.e., without the impact of shrinking share counts) excluding prior-period Financial sector writedowns, we see an outright earnings contraction. Further, consensus estimates are calling for EPS growth to go negative in 3Q12 - falling to $25.07 from $25.65 - which will make two quarters in a row of negative earnings growth - what we would consider an earnings recession.

UBS: The Q2 Growth Mirage

With results for 494 companies in the books, it appears 2Q EPS for the S&P 500 will come in at $25.80 — roughly in line with our $25.75 estimate. On the surface, this represents a 6.9% increase from 2Q11 — a growth rate that is anything but anemic. However, looking at earnings growth (i.e., without the impact of shrinking share counts) excluding prior-period Financial sector writedowns, we see an outright earnings contraction.

More specifically, earnings for the S&P 500 ex-Financials declined by 1.5% (table above), while revenues were down 0.2%. Notably, we exclude Financials because the sector’s results are often skewed by one-time items and debt valuation adjustments, which mask the broader earnings trend. For instance, Bank of America’s Countrywide write-off reduced EPS for the overall S&P 500 by $1.30 (i.e., 5.1%) in 2Q11, thereby overstating 2Q12 earnings strength.

Further, consensus estimates are calling for EPS growth to go negative in 3Q12 — falling to $25.07 from $25.65. The chart above, which highlights the earnings growth of the S&P 500 ex-Financials (excluding buybacks), shows that we now have two quarters in a row of negative earnings growth — what we would consider an earnings recession.

UBS: We Are Entering An 'Earnings Recession' 09-04-12 UBS via BI

FEDEX - Clear Signs of Plunging Earnings

Reality Bites: Fedex Cuts Outlook On Global Growth Concerns 09-04-12 Zero Hedge

...and so it begins - with a bellwether: •*FEDEX CUTS 1Q EPS FORECAST TO $1.37-$1.43, EST. $1.56 "Weakness in the global economy constrained revenue growth at FedEx Express more than expected in the earlier guidance.

This is not a good sign for GDP!

FedEx Corp. (FDX) today announced that earnings for the first quarter ended August 31, 2021 are expected to be in the range of $1.37 to $1.43 per diluted share, compared to $1.46 per diluted share last year. The company’s original first quarter forecast was for earnings of $1.45 to $1.60 per diluted share.

Earnings during the quarter were lower than originally forecast, as weakness in the global economy constrained revenue growth at FedEx Express more than expected in the earlier guidance.

The company has not yet closed the books for the quarter. Additional information will be available on September 18, 2012, when the company releases a full earnings report at 6:30 a.m. CDT and conducts its quarterly earnings conference call at 7:30 a.m. CDT.

STOCK PLUMMETS

FDX -4% AH and UPS -2.5% - both to lows of year!

CANARIES - Barron's Cover A Notorious Warning Sign

The Barron's "Cover" Is Back 09-01-12 Barrons

EDUCATION - Costs up 12 Fold over past 30 Years

Cost of College Degree in U.S. Soars 12 Fold 09-02-12 Bloomberg

• The cost of obtaining a university education in the U.S. has soared 12 fold over the past three decades, a sign the educational system is in need of reform, according to lawmakers in both parties.
• The CHART OF THE DAY shows college tuition and fees have surged 1,120 percent since records began in 1978,
  • Four times faster than the increase in the consumer price index.
  • Medical expenses have climbed 601 percent, while
  • The price of food has increased 244 percent over the same period.
• “Soaring tuition and shrinking incomes are making college less and less affordable,” Senator Tom Harkin, an Iowa Democrat and chairman of the Senate Health, Education, Labor and Pensions Committee, said in an e-mailed statement.
• “For millions of young people, rising college costs are putting the American dream on hold, or out of reach.” Pell grants, which are federal government funds given to students showing financial need, and loan programs are insufficient to address systemic problems in paying for higher education.

DISPOSABLE INCOME - Shrinking Inflation Adjusted Median Household Income

Incomes have fallen more since recession’s end than during downturn 08-23-12 Washington Post

• From June 2009 to June 2012, inflation-adjusted median household income fell 4.8 percent to $50,964, according to a report by Sentier Research, a firm headed by two former Census Bureau executives.
• Incomes have dropped more since the beginning of the recovery than they did during the recession itself, when they declined 2.6 percent, according to the report, which analyzed data from the Census Bureau’s Current Population Survey. The recession, the most severe since the Great Depression, lasted from December 2007 to June 2009.
• Overall, median income is 7.2 percent below its December 2007 level and 8.1 percent below where it stood in January 2000, which was at $55,470, according to the report.
• The findings highlight the depth of the recession and the long road the nation has to traverse before it fully recovers. They also echo other reports detailing the financial carnage caused by the recession
• This summer, the Federal Reserve reported that the downturn eviscerated two decades of Americans’ wealth. The central bank said the median net worth of families plunged 39 percent in just three years, from $126,400 in 2007 to $77,300 in 2010, pushing that measure back to nearly 1992 levels.
• Over the past three years, the inflation-adjusted median income of households headed by white people was down 5.2 percent to $56,255. Households headed by black people suffered a staggering 11.1 percent drop in median income. Hispanic-led households saw their real income decline 4.1 percent, the report said.
• Looking at the data by age, the researchers found that income has risen only for workers older than 65 during the recovery, which report co-author and Sentier partner Gordon Green attributed to cost-of-living increases for Social Security recipients.
• Households led by the self-employed saw their income drop 9.4 percent to $66,752, the report said. Households headed by private-sector employees saw wages drop 4.5 percent to $63,800, and households led by government workers saw median income decline 3.5 percent to $77,998, the report said.
• Government workers, on average, are better educated than private-sector workers, which could help explain their higher wages, Green said.
• The report also concluded that the declines had been most dramatic in the West, where household income is down 8.5 percent over the past three years. By comparison, income was down 4.9 percent in both the Northeast and the South, the report said, while the Midwest saw incomes drop 1.1 percent over the past three years.