PEAK EARNINGS - Confirming Trends

The Golden Age Of US Corporations Is Ending: S&P 500 Cash Has Peaked And Is Now Declining 01-15-13 Zero Hedge

One of the biggest "givens" of the New Normal was that no matter what happens, US corporations would build their cash hoard come hell or high water. Whether this was a function of saving for a rainy day in a world in which external liquidity could evaporate overnight, whether it was to have dry powder for dividends and other shareholder friendly transactions, or to be able to engage in M&A and other business transformations (but not CapEx, anything but CapEx), corporate cash swelled to over $2 trillion (the bulk of it held in deposit accounts, or directly invested in "cash equivalents" i.e. risk assets, in banks in the US and abroad). Whatever the use of funds, the source was quite clear: ever declining interests rate which allowed corporate refinancings into ever lower cash rates, a "buyer's market" when it comes to employees, the bulk of which have been transformed into low paid geriatric (55 years and older), part-time workers: the only two categories that have seen a steady improvement in employment since the start of the second great depression, and low, low corporate taxes (for cash tax purposes; for GAAP purposes it is different story altogether). So some may be surprised that the great corporate cash hoard build appears to have finally tapered off. As the chart below from Goldman shows, after hitting an all time high of 11.2%, the ratio of S&P500 cash to total assets has once again started to decline.

The implications of this chart may be innocuous, or, more likely, they may be very profound.

Recall that it was about 2 quarters ago that corporate profit margins peaked and have since declined steadily. Add to that the decline in revenues and EPS, and one can see that the natural cash generation capacity of US companies is also declining in parallel. Of course, as this is a ratio, the question is what other assets are rising to compensate for it.

We know what assets are not rising: Net P,P&E for one has been flat at best if not declining, as the rate of Depreciation and Amortization has been far greater than CapEx investments in recent years. While this has been a benefit for cash flow creation (lower taxes), it has also meant that future revenues will continue contracting as absent reinvestment in a business, absent renewing the capital base of businesses, there can be no organic growth.

Which means the offset may be rising goodwill, which is possible with the recent increase in M&A, although as the H&P - Autonomy transaction showed, goodwill on balance sheets is one fraudulent reports away from being fully written down.

It could also be Net Working Capital, which however means that more and more corporate liquidity is locked up in Net-30/60/ or 90 terms, which while indicative of some easing in counterparty confidence, means that should companies need full access to their cash, they won't have it.

Finally, it may well be a pure and simply outflow of cash as more and more is dividended to shareholders, or as retained earnings are built up following stock repurchases, following urgent shareholder demands to boost returns.

We hope to have a far more detailed answer to the question what is offsetting the drop in Corporate cash after the earning season is over, when we can analyze the full S&P500 balance sheet on a sequential basis. 

But what is certain is that the days of the inexorable corporate cash growth are now over, and cash is now declining. What is also declining is the future growth of corporations, as well as their general profitability, even as their capex spending remains at near all time low depressed levels, while the asset base is aging faster and faster, generating lower and lower ROAs. One thing that will certainly be rising for US corporations, are cash tax rates, meaning even more cash outflows.

Which leads us to square one: now that corporate cash is once again declining, as it did in the period from the early 2000s until 2007 when the Great Depression 2.0 hit, only to soar afterward, does this mean that any hope of aggressive corporate EPS growth is now limited at best, and any future growth in the S&P is solely due to multiple expansion driven by the Fed's dilution of money in circulation. And since the answer is yes, the problem with the latter is that multiple expansion works, until it doesn't - i.e., until such time as the pace of input cost increase overwhelms the rise in revenues, and the only way for corporate profitability, and shareholders returns, is down.

That will be the time to get out of corporate Dodge.

GLOBAL IMBALANCES - Continue to Increase Along With Fragility

An Analytic Framework For 2013 01-15-13 Martin Sibileau of A View From The Trenches blogvia ZH

In the same fashion that I proposed an analytic framework for 2012, I want to lay out today what I think will be the big themes of 2013. Their drivers were established in September 2012, and I sought to give a thorough description of them here, here and here.

In one sentence, during 2013, I expect imbalances to grow. These imbalances are the US fiscal and trade deficits, the fiscal deficits of the members of the European Monetary Union (EMU) and the unemployment rate of the EMU thanks to a stronger Euro. A stronger Euro is the consequence of capital inflows driven by the elimination of jump-to-default risk in EMU sovereign debt. Below is a drawing I made to help visualize these concepts:

The drawing shows a circular dynamic playing out: The threat of the European Central Bank to purchase the debt of sovereigns (that submit to a fiscal adjustment program) eliminates the jump-to-default risk of this asset class. As explained and forecasted in September, this threat also forces a convergence in sovereign yields within the EMU, to lower levels. As long as the market perceives that the solvency of Germany is not affected, the Bund yields will not rise to that convergence level. So far, the market seems not to see that (Possunt quia posse uidentur). But the resulting appreciation of the Euro will eventually address that illusion.

This convergence, in my view, is behind the recent weakness in Treasuries. I proposed this thesis last September. However, the ongoing weakness in Treasuries does not mean I was right. In fact, I fear I may have been right for the wrong reasons. The negotiations on the US fiscal deficit and the latest announcement of the Fed with regards to debt monetization quantitative easing to infinity may also be behind this move. But until proven wrong, I will cautiously hold to my thesis.

The above factors drove capital inflows back to the European Monetary Union and strengthened the Euro. I believe this strength will last longer than many can endure. The circularity of this all resides in that the strength of the Euro will make unemployment and fiscal deficits a structural feature of the EMU, forcing the ECB to keep the threat of and eventually implementing the Open Monetary Transactions. The alternative is a social uprising and that will not be tolerated by the Euro kleptocracy.

All this -and particularly the strength of the Euro- is not sustainable. Ad infinitum, it would create a Euro so strong that the periphery would drag coreEuropein its bankruptcy. But while it lasts, the compression in sovereign yield will mask the increasing default risks in Euro corporate debt, specially the one denominated in US dollars. Both have been fuelling the rise in the value of equities globally.

The unsustainable framework rests upon the shoulders of the Federal Reserve, which thanks to the established USD swaps and unlimited Quantitative Easing, has completely coupled its balance sheet to that of the European Central Bank. In the end, as this new set of relative prices between asset classes sets in, it will be more difficult for the European Central Bank to sterilize the Open Monetary Transactions.

By now, it should be clear that the rally in equities is not the reflection of upcoming economic growth. Paraphrasing Shakespeare, economic growth “should be made of sterner stuff”.

Under the current framework, the European Central Bank can afford to engage in the purchase of sovereign debt because the Fed is indirectly financing the European private sector. The Fed does so with the backstop of USD swaps and tangible quantitative easing, which provides cheap USD funding to European banks and thus avoids a credit contraction of the sorts we began to see at the end of 2011.

This same structure was in place between the Federal Reserve and the central banks of France and England in 1927, 1928 and 1929 and, as a witness declared, “(it) transformed the depression of 1929 into the Great Depression of 1931”. Something tells me that this time however it will be different. It will be worse. That little something is the determination of the new Japanese government to devalue its currency via purchases of European sovereign debt (ESM debt).

Most analysts I have read/heard, focus on the political fragility of the framework. And they are right. The uncertainty over the US debt ceiling negotiations and the fact that prices today do not reflect anything else but the probability of a bid or lack thereof by a central bank makes politics relevant. Should the European Central Bank finally engage in Open Monetary Transactions, the importance of politics would be fully visible.

However, unemployment is “the” fundamental underlying factor in this story and I do not think it will fall. In the long term, financial repression, including zero-interest rate policies, simply hurt investment demand and productivity. I do not see unemployment dictating the rhythm in 2013, indirectly through defaults. Furthermore, in the meantime, the picture may look different, because “…we should not be surprised if, under zero-interest-rate policies in the developed world, we witness a growing trend in corporate leverage, with vertical integration, share buybacks and private equity funds taking public companies private…”. This is obviously supportive of risk.

From earlier letters, you know that I believe quasi-fiscal deficits (i.e. deficits from a central bank) are a necessary condition for a meltdown to occur, and that these usually appear when deposits begin to seriously evaporate. So far, capital is leaving main street (via leveraged share buybacks and dividends), but at the same time, it is being parked at banks in the form of deposits. The case of Wells Fargo and the temporary pause in the flight of deposits from the periphery of the European Union suggest that the process towards a meltdown, if any (and I believe there will be one) will be a long agony. Furthermore, in the short term, at the end of January, European banks, have the option to repay the money lent by the European Central Bank in the Long-Term Refinancing Operations from a year ago, on a weekly basis. I expect them to repay enough to cause more pain to those still long of gold (including me, of course).

WEDGE - Ending Diagonals Are signs of Tops

Chart of the Day 01-16-13

For some further perspective on the current state of the stock market, today's chart presents the long-term trend of the S&P 400 (mid-cap stocks). As the chart illustrates, the S&P 400 rallied from late 2002 into the mid-2007 and then gave most of that back during the financial crisis. However, the S&P 400 rebounded well by recouping all losses incurred during the financial crisis and making new record highs in a mere two years. Since mid-2011, the S&P 400 has traded in a rather choppy fashion which has helped define its current wedge-shaped trading range (see the red and green trendlines). More recently, the S&P 400 has embarked on a sharp rally which has allowed it to break above resistance (see red line) and make new all-time record highs.

CENTRAL PLANNING - Complexity Determines the Outcome

Why Expansionist Central States Inevitably Implode 01-15-13 Charles Hugh-Smith of OfTwoMinds blog,

The Expansionist State is on the path to insolvency and systemic political crisis.

GERMAN GOLD REPATRIATION - It Was Only A Matter of Time

It Begins: Bundesbank To Commence Repatriating Gold From New York Fed 01-14-13 Zero Hedge

In what could be a watershed moment for the price, provenance, and future of physical gold, not to mention the "stability" of the entire monetary regime based on rock solid, undisputed "faith and credit" in paper money, German Handelsblatt reports in an exclusive that the long suffering German gold, all official 3,396 tons of it, is about to be moved. Specifically, it is about to be partially moved out of the New York Fed, where the majority, or 45% of it is currently stored, as well as the entirety of the 11% of German gold held with the Banque de France, and repatriated back home to Buba in Frankfurt, where just 31% of it is held as of this moment. And while it is one thing for a "crazy, lunatic" dictator such as Hugo Chavez to pull his gold out of the Bank of England, it is something entirely different, and far less dismissible, when the bank with the second most official gold reserves in the world proceeds to formally pull some of its gold from the bank with the most. In brief: this is a momentous development, one which may signify that the regime of mutual assured and very much telegraphed - because if the central banks don't have faith in one another, why should anyone else? - trust in central banks by other central banks is ending.

Much more importantly, it is being telegraphed as such, with Buba fully aware of just what the consequences of this (first partial, and then full; and certainly full vis-a-vis the nouveau socialist regime of Francois Hollande which will soon hold zero German gold) repatriation will be in a global monetary arena, which is already scraping by on the last traces of faith in a monetary system that is slowly but surely dying but first diluting itself to oblivion. And in simple game theory terms, the first party to defect from the prisoner's dilemma of all the bulk of global gold being held by the Fed, defects best. Then the second. Then the third. Until, in this particular case, the last central bank to pull its gold from the NY Fed and the other 2 primary depositories of developed world gold, London and Paris, just happens to discover their gold was never there to begin with, and instead served as collateral to paper gold subsequently rehypothecated several hundred times, and whose ultimate ownership deed is long gone.

It would be very ironic, if the Bundesbank, which many had assumed had bent over backwards to accommodate Mario Draghi's Goldmanesque demands to allow implicit monetization of peripheral nations' debts has just "returned the favor" by launching the greatest physical gold scramble of all time.

From Handelsblatt:

Die Bundesbank hat ein neues Konzept ausgearbeitet, wo sie künftig ihre Goldreserven lagern will. Nach Informationen des Handelsblatts (Dienstausgabe) sieht dieses Konzept, das am kommenden Mittwoch bekanntgegeben werden soll, vor, den heimischen Standort aufzuwerten, in New York dafür weniger Gold zu lagern und überhaupt kein Gold mehr in Paris zu horten.

Derzeit lagert das Gold der Bundesbank ihren Angaben zufolge in New York, London, Paris und Frankfurt. In der amerikanischen Notenbank Fed lagern 45 Prozent der insgesamt 3.396 Tonnen Gold, in der Bank of England in London 13 Prozent, in der Banque de France in Paris elf Prozent und im Hauptsitz in Frankfurt 31 Prozent. Diese Verteilung soll sich nun ändern.

We present it in the original for fear of losing something in translation, but in broad English terms the above reads as follows:

The German Bundesbank is developing a new approach as to where its gold will be stored. According to exclusive information, to be fully announced on Wednesday, the bank will in the future hold less gold in the New York Fed, and no more hold in Paris (Banque de France). As a result, the distribution of German gold, of which 45% is held in New York, 13% in London, 11% in Paris and 31% in Frankfurt, is about to change.

There is no need to explain why this is huge news (for those who have not followed our series on the concerns and issue plaguing German gold can catch up here, here, here, here, and certainly here) . At least no need for us to explain. Instead we will let the Bundesbank do the explanation. The following section is the answer provided by the Bundesbank itself in late October in response to the question why it does not move the gold back to Germany:

The reasons for storing gold reserves with foreign partner central banks are historical since, at the time, gold at these trading centres was transferred to the Bundesbank. To be more specific: in October 1951 the Bank deutscher Länder, the Bundesbank’s predecessor, purchased its first gold for DM 2.5 million; that was 529 kilograms at the time. By 1956, the gold reserves had risen to DM 6.2 billion, or 1,328 tonnes; upon its foundation in 1957, the Bundesbank took over these reserves. No further gold was added until the 1970s. During that entire period, we had nothing but the best of experiences with our partners in New York, London and Paris. There was never any doubt about the security of Germany’s gold. In future, we wish to continue to keep gold at international gold trading centres so that, when push comes to shove, we can have it available as a reserve asset as soon as possible. Gold stored in your home safe is not immediately available as collateral in case you need foreign currency. Take, for instance, the key role that the US dollar plays as a reserve currency in the global financial system. The gold held with the New York Fed can, in a crisis, be pledged with the Federal Reserve Bank as collateral against US dollar-denominated liquidity. Similar pound sterling liquidity could be obtained by pledging the gold that is held with the Bank of England.

And in case the above was not clear enough, below is the speech Buba's Andreas Dobret delivered to none other than NY Fed's Bill Dudley in early November:

Please let me also comment on the bizarre public discussion we are currently facing in Germany on the safety of our gold deposits outside Germany – a discussion which is driven by irrational fears.

In this context, I wish to warn against voluntarily adding fuel to the general sense of uncertainty among the German public in times like these by conducting a “phantom debate” on the safety of our gold reserves.

The arguments raised are not really convincing. And I am glad that this is common sense for most Germans. Following the statement by the President of the Federal Court of Auditors in Germany, the discussion is now likely to come to an end – and it should do so before it causes harm to the excellent relationship between the Bundesbank and the US Fed.

Throughout these sixty years, we have never encountered the slightest problem, let alone had any doubts concerning the credibility of the Fed [ZH may, and likely will, soon provide a few historical facts which will cast some serious doubts on this claim. Very serious doubts]. And for this, Bill, I would like to thank you personally. I am also grateful for your uncomplicated cooperation in so many matters. The Bundesbank will remain the Fed’s trusted partner in future, and we will continue to take advantage of the Fed’s services by storing some of our currency reserves as gold in New York.

Incidentally, what Zero Hedge did provide after this article, was factual evidence that the Buba's very much "trusted partner" had been skimming it on physical gold deliveries on at least one occasion, in "Exclusive: Bank Of England To The Fed: "No Indication Should, Of Course, Be Given To The Bundesbank..."

So we wonder: what changed in the three months between November and now, that has caused such a dramatic about face at the Bundesbank, and that in light of all of the above, will make is explicitly very unambigous that the act of gold repatriation, assuming of course that Handelsblatt did not mischaracterize what is happening and misreport the facts, means the "excellent relationship" between the Fed and Buba, not to mention Banque de France which will shortly hold precisely zero German gold, has just collapsed.

Also, if the Bundesbank is first, who is next?

Finally, once the scramble to satisfy physical gold deliverable claims manifests itself in the market, we can't help but wonder what will happen to the price of gold: both paper and physical?

WEF GLOBAL RISKS - Chronic Fiscal Imbalances Ranks First

The 17 Biggest Risks To Our Hyperconnected World 01-13-13 BI

1. Chronic Fiscal Imbalances
2. Rising Greenhouse Gas Emissions
3. Water Supply Crises
4. Mismanagement Of Aging Populations
5. Cyber Attacks
6. Severe Income Disparity
7. Failure Of Climate Change Adaptation
8. Pervasive Entrenched Corruption
9. Extreme Volatility In Commodity Prices
10. Persistent Extreme Weather
11. Global Governance Failure
12. Mismanaged Urbanization
13. Chronic Labor Market Imbalance
14. Species Overexploitation
15. Rising Religious Fanaticism
16. Terrorism
17. Critical Systems Failure

World Economic Forum - Global Risks 2013

COMPLEX NETWORKS

The Cases – Making Sense of Complex Systems

The 50 global risks in this report are interdependent and correlated with each other. The permutations of two, three, four or more risks are too many for the human mind to comprehend. Therefore, an analysis of the network of connections has been undertaken to highlight some interesting constellations of global risks seen in Figure 3.

In Section 2, these constellations of global risks are presented as three important cases for leaders: “Testing Economic and Environmental Resilience” on the challenges of responding to climate change, “Digital Wildfires in a Hyperconnected World” on misinformation spreading via the Internet, and “The Dangers of Hubris on Human Health” on the existential threat posed by antibiotic-resistant bacteria.

Each case was inspired by the findings from an initial network analysis and further developed through extensive research into current trends, potential causal effects, levels of awareness and possible solutions. Unlike traditional scenario methodologies, the risk cases do not attempt to develop a full range of all possible outcomes. They are instead an exercise in sensemaking as well as a collective attempt to develop a compelling narrative around risks that warrant urgent attention and action by global leaders. Readers are encouraged to refine these cases further and to develop their own scenarios based on the data presented.iv

Resilience – Preparing for Future Shocks

This year’s Special Report examines the increasingly important issue of building national resilience to global risks. It introduces qualitative and quantitative indicators to assess overall national resilience to global risks by looking at five national-level subsystems (economic, environmental, governance, infrastructure and social) through the lens of five components: robustness, redundancy, resourcefulness, response and recovery. The aim is to develop a future diagnostic report to enable decision-makers to track progress in building national resilience and possibly identify where further investments are needed. The interim study will be published this summer, and we invite readers to review the proposed framework and to share ideas and suggestions with the Risk Response Network.

GLOBAL TRENDS - National Intelligence Council

Global Trends 2030: Alternative Worlds Natiional Intelligence Council

A report by the National Intelligence Council predicts that the United States will lose its superpower status by 2030, but that no country — including China — will be a hegemonic power.

Instead, the report says, power will shift to “networks and coalitions in a multipolar world.”

The council, which wrote Global Trends 2030, was established in 1979. It supports the U.S. director of National Intelligence and is the intelligence community’s center for long-term strategic analysis.

The council’s intelligence officers are drawn from government, academia and the private sector.

FULL REPORT: Global Trends 2030

“The world of 2030 will be radically transformed from our world today,” the report concludes. “By 2030, no country — whether the U.S., China, or any other large country — will be a hegemonic power.”

Intel report sees U.S. losing superpower status by 2030

MEGATRENDS: The 6 'Gamechangers' That Will Impact The Planet For Decades 01-11-13

Gamechanger 1: The Crisis-Prone Global Economy

• CRISIS ECONOMY: “Drastic measures” will be necessary to curb growing fiscal liabilities in developed countries.
• CRISIS ECONOMY: The global share of financial assets becomes much more evenly distributed.
• CRISIS ECONOMY: Commodity instability will hit China and India, who remain import dependent.
• CRISIS ECONOMY: Durations of business cycles will become significantly shorter and less smooth.

Megatrend 2: The Governance Gap

• GOVERNANCE GAP: Growing middle classes in developing countries will increase demand for rule of law and government accountability.
• GOVERNANCE GAP: About 50 countries qualify as falling somewhere between "free" and "not free."
• GOVERNANCE GAP: And growth in the number of free countries has stalled in the past decade.
• GOVERNANCE GAP: Climate stress, which will exacerbate water scarcity, could actually cause some governments to collapse.

Gamechanger 3: Potential For Increased Conflict

• CONFLICT: Tensions have increased as the international system has become more fragmented and existing norms of cooperation fall out of favor.
• CONFLICT: Resource competition will intensify.
• CONFLICT: Cyber attacks have increased.

Gamechanger 4: Wider Spread Of Regional Instability

• REGIONAL INSTABILITY: The Middle East's youth population is getting younger, and unemployment is rising.
• REGIONAL INSTABILITY: Defense spending in Asia is increasing.
• REGIONAL INSTABILITY: Latin America's growing middle class will clash with countries' inherent populism.
• REGIONAL INSTABILITY: Using a new global power index, China will still surpass the US, but by 2040 instead of earlier.

Gamechanger 5: The Impact Of New Technologies

• TECH: Three key technology areas will see wide inovation: information, the ability to store which is getting increasingly cheaper
• TECH: Robotics and manufacturing, which is already affecting unit labor costs worldwide...
• TECH: And resource technology, which will have to increase to compensate for declining crop yields.

Gamechanger 6: The Role Of The United States

• AMERICA: For now, the U.S. continues to dominate the world in a number of areas.
• AMERICA: And the U.S.'s share of the oil market is only going to increase. Read more:
• AMERICA: But by 2050, China will enjoy greater purchasing power parity than the U.S.
• AMERICA: Our demographic prosperity window is closing fast, while others' have just opened.

DEMOGRAPHICS - Immigration, Regionalization, Dependency and Obesity

AMERICA 2050: Here's How The Country Will Look Three Decades From Now 10-19-12 BI

1. The Census says our population will jump another 100 million in just a few decades
2. Put aging and immigrants together, and you get a working-age population that will be "majority minority" in 2050
3. 11 emerging "megaregions," economies become so interdependent that they form larger distinct entities
4. Dependency ratio — the proportion of nonworking to working people — is gonna surge. It's not clear whether we'll be able to support them
5. There's another thing that's gonna happen...we're gonna get fatter. this, not aging, is what's going to cause medical costs to skyrocket

CHINA - Social Unrest

Why Chinese Leaders Are All Reading Alexis de Tocqueville 01-13-13 Patrick Chovanec, An American Perspective From China