TIMOTHY GEITHNER - The Next Fed Chairman? Not Yellen?

"Volume Triage" Excerpt from QB Asset Management's April 2013 Letter

A couple of days after the Fed announced Ben Bernanke would not attend the Jackson Hole summit, for the first time in twenty five years, the New York Times (on the first page, no less) ran an in-depth profile of Janet Yellen, the heir apparent to run the Fed. Beneath her profile there were three other candidates "being discussed": Roger Ferguson, Tim Geithner, and Larry Summers.

We normally do not spend time handicapping presidential appointments. In this case, however, we think the choice for next Fed Chair may have profound economic implications, and that it would not require expertise in econometric modeling, credit policy management, and maintaining the public perception of economic stability. As we wrote last week, we think the next Fed Chairman will oversee a conversion of the global monetary regime. A thick skin, diplomatic skills, and strong relationships with global banks and monetary policy makers will be the skill set most needed. We think Tim Geithner (with Bill Dudley as an alternative) will take over the Fed when Ben Bernanke steps down next January, and it seems by all indications that the table is already being set.

We attended a small dinner party a few years ago at which an iconic financier (and major Obama supporter) let it slip that he questioned one of Obama's most senior aides just prior to the 2008 Democratic convention about taking over the economy when it was imploding. The aide waived it off and exclaimed, "Oh, don't worry, Bobby has it covered!" Most of the table was relieved that Bob Rubin still had their backs and that banks would keep priority. Such was, and remains, US economic policy.

Neither growth nor austerity nor gloom of night will stay these currencies from their appointed devaluations. Bank balance sheets must be preserved; ergo sufficient inflation must be manufactured. We think the dull but persistent economic malaise amid increasingly aggressive monetary intervention policies will soon engender fear among the not-so-great washed – net savers. This happier band of brothers cannot maintain an edge when the real economy contracts and interest rates are already at zero. Base money is already being manufactured in the form of bank reserves, and the total money stock is not growing because there is very little natural economic incentive among the rest of us to consume (much) or take risk. Something and someone new is needed.

Ben Bernanke seems like a brilliant political economist and a decent guy, the top of his field in terms of comportment, academic credentials, and specific competence in understanding historical monetary policies during a countercyclical (i.e., deleveraging) period. Perhaps Janet Yellen is too? But such qualities are not what we think will be preferred by the powers that be now that global resource producers are openly questioning US, British, Euro, and Japanese monetary policies, and reserve holders are realizing their stash is being methodically turned to trash.

Meanwhile, aggregate leverage is growing and real economies are withering. Does anyone believe that Ben or any other monetary authority has been proactive, or that any fiscal authority has enacted legislation that promises to help achieve "escape velocity?" Can't we all agree that the rationale for economic policy may be boiled down to the counterfactual: "Yes, but imagine if they withdrew liquidity or enforced true austerity – it would be worse!"? Is there a serious analyst who still believes economies can grow their ways out of being overlevered without leveraging further?

Whether or not contraction has to come a-knocking prior to a monetary reset is anyone's guess, but it would be difficult to imagine monetary system change without a generally recognized economic tragedy that precedes it. This implies disappointing GDP prints, declining corporate revenues, and maybe even a swoon in stock and real estate markets. We have already begun to experience the first two. Now that we read global central banks have begun buying equities, perhaps equity prices may be controlled too (as are the level of interest rates via large scale asset purchases like QE and relative currency exchange rates via timed interventions)? Negative output growth and asset price busts would certainly open the door for our hero to enter.

The role of a central banker in the late stages of deleveraging seems to be volume triage, as they say in intelligence circles – reacting to an increasing barrage of events as they occur, wherever they may occur. In economics as in policing, the bad guys always get to take the first shot. From the central banker's perspective, the bad guy in the current regime is the real economy. If it continues to shrink, as we think it must, then TPTB must change the way they do business.

We think the box we drew in our last write-up, contrasting inflation/deflation with leveraging/deleveraging (they are not the same thing), is the key metric in understanding the forces behind economic growth and market pricing. An inflationary leveraging perpetuates imbalances, while deflationary deleveraging threatens the survival of the banking system at large. Hopes for organic credit growth, which would promote the former, are now fleeting. This, in turn, engenders the threat of the latter. Continued ZIRP, increasing asset purchases, and a steep decline in the universal efficacy of it all suggests the time to press the reset button is quickly approaching. May to December 2013 may turn out to be the darkness before the dawn: a time we look back upon and choose to forget.

All in all, we think the most efficient Fed Chair in advance of a reset would be Paul Krugman. He seems willing to destroy the current global monetary system with swift dispatch, without consultation, declaration (or second drafts). Alas, capitalist economies in liberal democracies require level-headed responses to market forces. There is no place for rogue pro-actionists. Institutions like the Fed are meant to appear as first responders working on behalf of the societies their banks serve.

And so we think that circa 2070, our children will write and read (140-word) biographies about how Timothy Geithner saved the world from economic darkness. Geithner will save the day and bring glory to the Obama presidency by reducing the burden of debt repayment while maintaining the nominal integrity of debt covenants and bank balance sheets. The only way to accomplish this would be by destroying the currencies in which those debts are owed. Net debtors will rejoice and net savers (all 1% of them?) will suffer, finally realizing their unreserved currencies and levered financial assets were never sustainable wealth in the first place.

Our little narrative could certainly turn out to be wrong, but we discuss it here (against all political wisdom) because we cannot find another one that better fits current macro and market pricing trends. If we are wrong about Mr. Geithner, we think it would imply that TPTB (raise your hand if you think the Fed's shareholders do not choose/approve the Fed Chairman) believe a clear-headed and decent academic political economist can figure out what all past ones could not: how to support asset prices beyond ZIRP and central bank asset purchases. (Ben is gone, long reign Janet!) That is not our projection.

When and if it becomes clear that Tim Geithner will ascend the steps at Eccles, we think it would already be too late to buy physical gold and resources. The only play remaining for financial asset investors looking to get full value after the reset would be shares in precious-metal miners and natural resource producers holding reserves in nature's vault. Properly held bullion and shares in precious-metal miners would act as the most efficient store of purchasing power over the course of the devaluation and conversion. (Worst to first? Get 'em while they're cold!) Futures, ETFs, unallocated bullion holdings, and other fractionally reserved claims on physical reserves easily replaced with cash would not participate.

If our scenario comes to pass, then bank, government, and consumer balance sheets would be quite healthy following the reset and would be ready to expand. We would think consumable commodities and shares in their producers would lead equity markets higher and that interest rates would remain low, as further inflation would be mitigated by the discipline of a full or partial peg to precious metals. We think all should question whether we are 100% wrong. If not, then prudence dictates some allocation to properly held precious metals. (Presently, it is less than 1% of all global pensions.)

Paul Brodsky is a founding member of QB Asset Management Company, a New York investment manager.

US DEBT - Now Beyond "The Event Horizon"

The Fed's QE Exit Will More Than Quadruple Interest Costs For The US 05-01-13 Zero Hedge

With the Fed now openly warning that there may actually come a time when the 'flow' stops; the most recent Treasury Borrowing Advisory Committee (TBAC) report has some concerning statistics for those change-ridden hopers who see a smooth Fed exit, deficit-reduction, and blue skies ahead.  While they are careful not shout 'sell' in a crowded bond market; hidden deep in the 126 page presentation are two charts that bear significant attention. The first shows what TBAC expects (given the market's expectations) to happen to interest rates in the US as the Fed 'exits' its QE program (taper, unwind, hold) - the result, the weighted-average cost of financing for the US government will almost triple from around 1.6% to around 4.3% over the next ten years. But more problematic is that even with CBO's rather conservative estimates of the growth in US debt over the next decade the USD cost of financing will explode from around $205bn (based on TBAC data) to over $855bn. Still convinced the Fed can exit smoothly?

As TBAC warns:

Treasury yields could reprice notably when the market is convinced that policy tightening is imminent

There is a risk that markets may overshoot to higher-than-fair yield levels due to:

• Concerns about Fed portfolio unwind
• Inadequate interest hedging in certain asset classes
• Portfolio rebalancing by retail investors

Annual interest cost on public debt to increase more than 400% (from $205 bn in 2013 to $855 bn in 2023)

• Main driver : Increase in WAC from 1.7% to 4.3%
• Secondary factor : ~ 65% increase in stock of debt

Given the market's expectations for Fed tapering (or gradual tightening)...

The marginal cost of financing will rise significantly...

but with the sheer size of debt now (and growing), that will balloon the absolute cost of servicing US debt to over $850bn per year...

And just what happens to all those retirees - who need yield - who are being herded into stocks when Treasuries pay over 4.5%? Would seem bullish for bond flows... think Japan...

Charts: TBAC

OPMF - OVERT PERMANENT MONEY FINANCE

Out of the Closet: OPMF Coming at You 04-29-13 Wilfred Hahn, Chairman & Co-CIO

“I think we – as the authorities, central banks, regulators, those involved today – are the inheritors of a 50-year-long, large intellectual and policy mistake.” – Lord Adair Turner

OPMF - The Basics

Changing of the Guard? INET Hong Kong Conference

Macroeconomic Policy and Economic Stability - Adair Turner Keynote at INET Hong Kong

EU - Earmarks of a Totalitarian State

Europe Has Become A Totalitarian State 05-01-13 Mark J. Grant, author of Out of the Box via ZH

The Cyprus Template
 
“What manner of men had lived in those days...who had so eagerly surrendered their sovereignty for a lie and a delusion?”
 
                   -Taylor Caldwell
 
Cyprus is absolutely the template for Europe now. It is just that the template is far worse than what is narrowly imagined.
 
It is not the small nation of Cyprus nor is it that the specifics of the criminality that was transacted in Cyprus which is any sort of template. This is not the center of the issue. It is what Cyprus means and the horrible implications of what took place.
 
I cannot issue a stern enough warning here. No words that I write will adequately embrace the transgression that has taken place in Cyprus. Any thought that you have that the Cyprus experience is a lone and isolated event that will not be repeated, in some form in the future, is going to be proven wrong.
 
Yesterday the Parliament in Cyprus narrowly passed the EU bailout. Part of this package included seizing 90% of the depositors’ money to help pay for the bailout. There was no due process of law, no bankruptcy proceeding, no judicial review of assets and, in fact, no law of any sort applied. Deposits were confiscated as mandated by the European Union and agreed to by the Cyprus Parliament. Europe demanded the seizure and that is what is critically important to understand and appreciate.
 
In Greece the EU demanded that the bond holders be penalized and to accomplish this they had Greece retroactively change the laws. In Cyprus Europe demanded the confiscation of depositors’ money. One + one still makes two and the template, when properly recognized, is that the European Union will do whatever they like and when they like it and to whom they like with little or no regard for existing laws. This is, quite frankly, the Soviet Union under the control of Stalin. To be more precise, given that all of this is formulated and approved in Berlin; this is Germany making the rules for their vassal states.
 
There is one set of guidelines for Germany now and Germany still operates under their own laws but when it comes to other nations in the European Union that are in financial difficulty there are no real laws left. All that there is now is the tyrannical demands of Berlin that must be obeyed to receive funds.
 
“It is more dangerous that even a guilty person should be punished without the forms of law than that he should escape.”
 
                      -Thomas Jefferson
 
The spirit of a 1930’s government “that must be obeyed” has returned to the Continent. To not recognize this is a mistake. To call it something more polite is inaccurate. To appease those who impose this autocracy does nothing except to slather the truth with falsehoods.
 
“Some of the cruelest tyrants in history were motivated by noble ideals, or made choices that they would call 'hard but necessary steps' for the good of their nation.”
 
                  -Jim Butcher, “Turncoat”
 
The European Union is controlled by Germany. The European Union no longer operates under the law; their laws or the laws of any singular nation. Europe has, in fact, become a totalitarian State. This is the template. This is the new reality!
 
“Single acts of tyranny may be ascribed to the accidental opinion of a day; but a series of oppressions, begun at a distinguished period and pursued unalterably through every change of ministers, too plainly prove a deliberate, systematic plan of reducing a people to slavery.”
 
                      -Thomas Jefferson

EU - Talked Austerity But Never Implemented It!

The Fed Can Do A Lot To Offset Fiscal Austerity 04-29-13 BI

ITALY - New Government Rejects Austerity

ENTITLEMENTS- Welfare and Incentives

The Cashless Society - Welfare and Incentives 04-27-13 John Mauldin

Let me note up front that this is not an argument for or against welfare or helping the poor and needy. I am just noting the large cash economy and offering another reason why it might be as large as it is: misaligned incentives.

In the last few months, conservative news outlets cited a Republican Congressional survey that shows that welfare is about $1 trillion of the US budget, or $168 per day for those below the poverty line. When you dig into the data, you find that a very loose definition of "welfare" was employed, one that most Americans would not use for many of the programs the survey lists. It might argued that the money in question should not be spent, but the survey does not pass the smell test in identifying actual welfare.

According to the Center for Budget and Policy Priorities, even when one uses a very expansive definition of "welfare," only "13 percent of the federal budget in 2011, or $466 billion, went to support programs that provide aid (other than health insurance or Social Security benefits) to individuals and families facing hardship." (Informationclearinghouse.info)

The St. Louis Federal Reserve database shows an even smaller welfare number, at $273 billion (chart below), but you can add about $140 billion at the state level and that gets you closer to the $466 billion mentioned above. That is still a large number per day per family below the poverty line. But let me hasten to add that is NOT what an actual recipient gets; it is just the budgeted cost, which includes what it takes to run the government offices and pay welfare workers.

Let’s look at a few quick statistics, which taken out of context can be misleading, so don’t be misled or assume that I am. The total number of people on welfare is  about 4,300,000. The total number of people getting food stamps (the SNAP program) is 46,700,000. We just saw a new high for the number of families on food stamps:

In Texas if, as a single mother of two or three kids, you can figure out how to qualify for every type of assistance available, you can amass get the princely sum of about $980 a month (plus some healthcare). Other states are more generous. The popular meme is that 40 states pay more than $8 an hour to those on welfare, with seven paying more than $12 an hour. But if you work and make more than $1,000 a month (more or less, depending on the state) you will not likely qualify for welfare. The more you make the less you can get, until at some point you do not qualify at all. The theory is that benefits should decrease as your work income increases. (Source for some data: http://www.statisticbrain.com/welfare-statistics/)

Of course, there is the earned income tax credit (EITC), which is phased out once income reaches certain levels. To qualify for that, of course, you need to actually earn income. And WIC, housing subsidies, Medicaid, and other programs exist. (And we will not even get into disability payments. We have recently seen the number of people on disability rise faster than the number of people going back to work. Can a child or other member of a family get disability and another get welfare? Yes, the system can be gamed. Different letter.)

The following chart is from the generally liberal Urban Institute. Note that the maximum amount of total benefits is received by those who have the lowest levels of income, which makes a certain sort of sense. This chart is for a single parent in Colorado, a state that is middle of the road as far as benefits go. Benefits are considerably lower in Mississippi and far higher in Massachusetts and Alaska.

I am not arguing either for or against the level of payments or costs or the rationale for any particular program here. Different issue, different day.

No matter where you live, with few exceptions, being on welfare is not a pleasant lifestyle. Neither is living on $10 an hour, much less on minimum wage.

The point is that people on welfare have a clear need for more money than they get from whatever government check they receive. For most people, welfare is a temporary assistance program to help them out between jobs. But in the last decade, and especially in the five years since the beginning of the Great Recession, the welfare and disability rolls have simply exploded.

The clear incentive, it seems to me, is to work for extra cash in the unreported economy. If as a single working parent you make $10 an hour in the reported economy, you are going to lose most if not all of your welfare benefits (depending on the state); while if you work in the unreported economy, you keep your benefits.

You can view this situation several ways. For instance, perhaps the EITC should be higher, as in, the more you make the more you keep.

If you have a skill that pays you $20-30 an hour (closer to the median family income pay level) you are better off keeping the job and staying off welfare. But if you are minimum-wage labor or not far above it, the equation works out better if you work off the books for that extra income.

Is everyone on welfare working in the unreported economy? I would not suggest that for a minute. Obviously, they aren't.

While acknowledging that correlation is not causation, the parallel growth of the underground economy and the welfare rolls seem to me to be not entirely unrelated. The natural incentives are clearly there. What worries me most is that we are creating a generation of people who are getting used to working off the books, whether or not they are on welfare. They are outside the system and will come to see themselves as not being part of it. It becomes something "other" – except when they want medical care, which, with the advent of Obamacare, will now be available them even if they work in the unreported economy.

None of our kids, yours or mine, believe Social Security will be there for them when they retire. No need to be in the system for that.

There is a lot of controversial work in the economics profession, but I think pretty much everyone agrees that people respond to incentives. I wonder what message we are sending?

EU - 12.1% Unemployment Rate

GLOBAL - 202M Unemployed

EU - 25% of Global GDP In Serious Troubles

The Horrendous State Of The European Consumer 04-29-13 Markit via BI

GOLD - Signs of a Severe Crisis Loom

Physical Gold Vs Paper Gold: Waiting For The Dam To Break 04-27-13 Alasdair Macleod, via GoldMoney.com, via ZH

Introduction

In this article I will argue that the recent slide in the gold price has generated substantial demand for bullion that will likely bring forward a financial and systemic disaster for both central and bullion banks that has been brewing for a long time. To understand why, we must examine their role and motivations in precious metals markets and assess current ownership of physical gold, while putting investor emotion into its proper context.

In the West (by which in this article I broadly mean North America and Europe) the financial community treats gold as an investment. However, of the global pool of gold, which GoldMoney estimates to be about 160,000 tonnes, the amount actually held by western investors in portfolios is a very small fraction of this amount. Furthermore investor behaviour, which in itself accounts for just part of the West’s bullion demand, is sharply at odds with the hoarders’ objectives, which is behind underlying tensions in bullion markets. To compound the problem, analysts, whose focus incorporates portfolio investment theories and assumptions, have very little understanding of the economic case for precious metals, being schooled in modern neo-classical economic theories.

These economic theories, coupled with modern investment analysis when applied to bullion pricing, have failed to understand the growing human desire for protection from monetary instability. The result has for a considerable time been the suppression of bullion prices in capital markets below their natural level of balance set by supply and demand. Furthermore, the value put on precious metals by hoarders in the West has been less than the value to hoarders in other countries, particularly the growing numbers of savers in Asia.

These tensions, if they persist, are bound to contribute to the eventual destruction of paper currencies.

The ownership of gold

The amount of gold bullion that backs investor-driven markets is not statistically recorded, but we can illustrate its significance relative to total stocks by referring back to the time of the oil crisis of the mid-1970s. In 1974 the global stock of gold was estimated to be half that of today, at about 80,000 tonnes. Monetary gold was about 37,000 tonnes, leaving 43,000 tonnes in the form of non-monetary bullion, coins and jewellery. Let us arbitrarily assume, on the basis of global wealth distribution, that two thirds of this was held by the minority population in the West, amounting to about 30,000 tonnes.

This figure probably grew somewhat before the early 1980s, spurred by the bull market and growing fear of inflation, which saw investors buy mainly coins and mining shares. Demand for gold bars was driven by the rapid accumulation of dollars in the oil-exporting nations, as well as some hoarding by wealthy investors from all over the world through Switzerland and London.

The sharp rise in global interest rates in the Volcker era, the subsequent decline of the inflation threat and the resulting bear market for gold inevitably led to a reduction of bullion holdings by wealthy investors in the West. Swiss and other private banks, employing a new generation of fund managers and investment advisors trained in modern portfolio theories, started selling their customers’ bullion positions in the 1980s, leaving very little by 2000. In the latter stages of the bear market, jewellery sales in the West became a replacement source of bullion supply, but this was insufficient to compensate for massive portfolio liquidation.

So by the year 2000, Western ownership of non-monetary gold suffered the severe attrition of a twenty-year bear market and the reduction of inflation expectations. Portfolios, which routinely had 10-15% exposure to gold 40 years ago even today have virtually no exposure at all. Given that jewellery consumption in Europe and North America was only 400-750 tonnes per annum over the period, by the year 2000 overall gold ownership in the West must have declined significantly from the 1974 guesstimate of 30,000 tonnes. While the total gold stock in 2000 stood at 128,000 tonnes, the virtual elimination of portfolio holdings will have left Western holders with little more than perhaps an accumulation of jewellery, coins and not much else: bar ownership would have been at a very low ebb.

Since 2000, demand from countries such as India and more recently China is known to have increased sharply, supporting the thesis that gold has continued to accumulate at an accelerating pace in non-Western hands.

Western bullion markets have therefore been on the edge of a physical stock crisis for some time. Much of the West’s physical gold ownership since 2000 has been satisfied by recycling scrap originating in the West, suggesting that total gold ownership in the West today barely rose before the banking crisis despite a tripling of prices. Meanwhile the disparity between demand for gold in the West compared with the rest of the world has continued, while the West’s investment management community has been actively discouraging investment.

The result has been that nearly all new mine production and Western central bank supply has been absorbed by non-Western hoarders and their central banks. While post-banking crisis there has presumably been a pick-up in Western hoarding, as evidenced by ETF and coin sales and some institutional involvement, it is dwarfed by demand from other countries. So it is reasonable to conclude that of the total stock of non-monetary gold, very little of it is left in Western hands. And so long as the pressure for migration out of the West’s ownership continues,

there will come a point where there is so little gold left that futures and forwards markets cease to operate effectively. That point might have actually arrived, signalled by attempts to smash the price this month.

This admittedly broad-brush assessment has important implications for the price stability essential to bullion banks operating in paper markets as well as for central banks attempting to maintain confidence in their paper currencies.

Precious metals in capital markets

In the West itself, the attitudes of the investment community are fundamentally different from even those of the majority of Western hoarders, who are looking for protection from systemic and currency risks as opposed to investment returns. Western investors are generally oblivious to the implications, the most fundamental of which is that falling prices actually stimulate physical demand. Before the recent dramatic slide in prices the investment community undervalued precious metals compared with Western hoarders, let alone those in Asia, encouraging physical bullion to migrate from financial markets both to firmer hands in the West as well as the bulk of it to non-West ownership. There is now irrefutable evidence that these flows have accelerated significantly on lower prices in recent weeks, as rational price theory would lead one to expect.

Pricing bullion is therefore not as simple as the investment community generally believes. It is being put about, mostly on grounds of technical analysis, that the bull markets in gold and silver have ended, and precious metals have entered a new downtrend. The evidence cited is that

• medium and longer-term moving averages have been violated and are now falling; furthermore
• important support levels have been breached.

These developments, which arise out of the futures and forward markets, have rattled Western investors who thought they were in for an easy ride. However, a close examination of futures trading shows the bearish case even on investment grounds is flawed, as the following two charts of official statistics provided by weakly Commitment of Traders data clearly show.

The Money Managers category is the clearest reflection in the official data of investor portfolio positions, representing sizeable mutual and hedge funds. In both cases, the number of long contracts is at historically low levels, and shorts, arguably the better reflection of money-manager sentiment, remain close to high extremes. On this basis, investor sentiment is clearly very bearish already, with the investment management community already committed to falling prices. Put very simplistically there are now more buyers than sellers.

Money Managers are in stark opposition to the Commercials, who seek to transfer entrepreneurial risk to Money Managers and other investor and speculator categories. The official statistics break

Commercials down into two categories:

• Producer/Merchant/Processor/User, and
• Swap Dealers.

Both categories include the activities of bullion banks, which in practice supply liquidity to the market. Because investors and speculators tend to run bull positions, bullion banks acting as market-makers will in aggregate always be short. A successful bullion bank trader will seek to make trading profits large enough to compensate for any losses on his net short position that arise from rising prices.

A bullion bank trader must avoid carrying large short positions if in his judgement prices are likely to rise. He will be more relaxed about maintaining a bear position in falling markets. Crucially, he must keep these opinions private, and the release of market statistics are designed to accommodate these dealers’ need for secrecy.

Bullion banks’ position details are disclosed at the beginning of every month in the Bank Participation Reports, again official statistics. They are broken down into two categories, based on the individual bank’s self-description on the CFTC’s Form 40, into US and Non-US Banks. Their positions are shown in the next two charts (note the time scale is monthly).

In both gold and silver, the bullion banks have managed to reduce their exposure from extreme net short over the last four months. The reduction of their market exposure suggests that they have been deliberately transferring this risk to other parties, and is consistent with an anticipation that bullion prices will rise. It is the other side of the high level of bearishness reflected in the Money Manager category shown in the first two charts.

The bullion banks control the market; the Money Managers are merely tools of their trade.

There has been little reduction in open interest in gold and it has remained strong in silver, because risk has been transferred rather than extinguished. Daily official statistics on open interest are provided by the exchange and summarised in the next two charts (note that data is daily).

From these charts it can be seen that recent declines in the gold price are failing to reduce open interest further, and in silver open interest remains stubbornly high. Therefore,

attempts by bullion banks to reduce their net short exposure by marking prices down are showing signs of failure.

We can therefore conclude that

Investor sentiment is at bearish extremes and the bullion banks have reduced their net short exposure to levels where it risks rising again. Therefore the downside for precious metals prices appears to be severely limited, contrary to sentiments expressed by technical analysts and in the media.

This market position is against a background of a growing shortage of physical bullion, which is our next topic.

Physical markets

Casual observers of precious metal prices are generally unaware that the headline writers focus on activity in the futures markets and generally ignore developments in physical bullion. This is consistent with the fact that market data is available in the former, while dealing in the latter is secretive. However, as with icebergs, it is not what you see above the water that matters so much as that which is out of sight below.

Future Market - AVAILBALE

Physical MARKET - SECRETIVE

It is not often understood in investment circles that

gold and silver are commodities for which the laws of supply and demand are not overridden by investor psychology.

Therefore, if the price falls, demand increases. Indeed, the increase in demand has far outweighed selling by nervous investors; even before the price-drop, demand for both silver and gold significantly exceeded supply. Evidence ranges from readily available statistics on record demand for newly-minted gold and silver coins and the net accumulation of gold by non-Western central banks, to trade-based information such as imports and exports of non-monetary gold as well as reports from trade associations reporting demand in diverse countries such as India, China, the UK, US, Japan and even Australia.

All this evidence points in the same direction: that physical demand is increasing on every price drop. There is therefore a growing pricing conflict between

1. futures and forward markets, which do not generally involve settlement but the rolling-over of speculative positions, and of
2. the underlying physical metal.

Furthermore, analysts make the mistake of looking at gold purely in terms of mining and scrap supply, when nearly all gold ever mined is theoretically available to the market, in the right conditions and at the right price.

The other side of this larger coin is that if the price of gold is suppressed by activity in paper markets to below what it would otherwise be, the stimulus for physical demand, being based on a 160,000 tonne market, is likely to be considerably greater on a given price drop than analysts who are myopic beyond 2,750 tonnes of annual mine production might expect. The numbers that are available confirm this to have been the case, particularly over the last few weeks, with reports from all over the world of an unprecedented surge in demand.

This is at the root of a developing crisis of which few commentators are as yet aware.

Demand for physical has accelerated the transfer of bullion from capital markets to hoarders everywhere and from the West’s capital markets to other countries, which has been the trend since the oil crisis in the mid-Seventies.

This is what’s behind an acute shortage of physical gold in capital markets, explaining perhaps why bullion banks feel the need to reduce their short positions.

While we can detail their exposure in futures markets, meaningful statistics are not available in over-the-counter forward markets, particularly for London, which dominates this form of trading. Forwards are considerably more flexible than futures as a trading medium, generating trading profits, commissions, fees and collateralised banking business. The ability to run unallocated client accounts, whereby a client’s gold is taken onto a bank’s balance sheet, is in stable market conditions an extremely profitable activity, made more profitable by high operational gearing. The result is that paper forward positions are many multiples of the physical bullion available. The extent of this relationship between physical bullion and paper is not recorded, but judging by the daily turnover in London there is an enormous synthetic short physical position. For this reason a sharply rising price would be catastrophic and any drain on bullion supplies rapidly escalates the risk.

Overseeing this market is the Bank of England co-operating with other Western central banks and the Bank for International Settlements, whose combined interest obviously favours price stability. They have been quick to supply the market if needed, confirmed by freely-admitted leasing operations in the past, and by secretive supply into the market, which has been detected by independent supply and demand analysis over the last 15 years. Furthermore,

as currency-issuing banks, central banks are unlikely to take kindly to market signals that suggest gold is a better store of value than their own paper money.

We can only speculate about day-to-day interventions by Western central banks in gold markets. In this regard it seems that the slide in prices on the 12th and 15th April was triggered by a very large seller of paper gold; if this market story and the amount mentioned are correct,

it can only be central bank intervention, acting to deliberately drive prices lower.

Given the market position, with Money Managers in the futures markets already short and highly vulnerable to a bear squeeze, the story seems credible.

The objective would be to persuade holders of physical ETFs and allocated gold accounts to sell and supply the market, on the assumption that they would behave as investors convinced the bull market is over.

Conclusions

For the last 40 years gold bullion ownership has been migrating from West to elsewhere, mostly the Middle East and Asia, where it is more valued. The buyers are not investors, but hoarders less complacent about the future for paper currencies than the West’s banking and investment community. There was a shortage of physical metal in the major centres before the recent price fall, which has only become more acute, fully absorbing ETF and other liquidation, which is small in comparison to the demand created by lower prices. If the fall was engineered with the collusion of central banks it has backfired spectacularly.

The time when central banks will be unable to continue to manage bullion markets by intervention has probably been brought closer.

They will face having to rescue the bullion banks from the crisis of rising gold and silver prices by other means, if only to maintain confidence in paper currencies.

Any gold held by struggling eurozone nations, theoretically available to supply markets as a stop-gap, will not last long and may have been already sold.

This will likely develop into another financial crisis at the worst possible moment, when central banks are already being forced to flood markets with paper currency to keep interest rates down, banks solvent, and to finance governments’ day-to-day spending. Its importance is that it threatens more than any other of the various crises to destabilise confidence in government-backed currencies, bringing an early end to all attempts to manage the others systemic problems.

History might judge April 2013 as the month when through precipitate action in bullion markets Western central banks and the banking community finally began to lose control over all financial markets.

EARNINGS - Lack of Investment Resulting in Revenues Being a Problem

This Is What Passes For A Good Earnings Season In The "New Normal" 04-29-13 WSJ via ZH

First the good news: so far of the 252 companies reporting Q1 earnings, 74% have beat expectations on the bottom line (in Europe it's a different story with 44% beating and 56% missing). The reason: progressively lowering of estimates for the past 3 months heading into earnings as we showed over the weekend. On the top line, it's a different matter entirely with just 45% of companies beating and 55% missing (indicatively European revenue numbers are just jarring, with only 34% of companies beating top line estimates - that's what happens when you have a depression). None of this should come as a surprise to our readers. Over a year ago we wrote "How The Fed's Visible Hand Is Forcing Corporate Cash Mismanagement" which explained that instead of investing in CapEx and hiring, due to the Fed's imbecilic "endless ZIRP" policy, companies have scrambled to generate immediate returns for shareholders in the form of dividends, buybacks, and in rare instances, M&A. Investing in long-term growth is the last thing on anyone's mind and sure enough revenues are deteriorating the world over.

All of the above summarized in the table below courtesy of Deutsche Bank:

Now, the bad news: while one can easily game expectations and quiet cut forecasts the night before earnings just to "allow" the company to beat them easier, one thing that can not be fudged are trends in time, in either revenue or EPS. And for the best table showing just how ugly corporate America's profitability and revenue have become when stripped of all the noise, we go to the Wall Street Journal and the following summary of Y/Y changes in sales and EPS. 

More from the WSJ:

With earnings reports in from more than half the companies in the Standard & Poor's 500-stock index, first-quarter revenue for the group is expected to shrink 0.3% from a year earlier, according to Thomson Reuters. That would cut short the sales improvement reported at the end of last year and mark the third quarter out of the past four in which revenues have failed to grow by 1% or more.

The sales figures are a troubling sign that business and consumer demand remain weak nearly four years after the recession. They are also evidence that a soft patch is developing in the U.S. economy, as optimism earlier in the year gives way to more sobering data on growth in gross domestic product, retail sales and manufacturing. In response, many companies are cutting jobs and curbing investments in an effort to prop up profits, moves that could make it harder for demand to recover.

No further commentary necessary (all of it has been said in the past on numerous occasions already).

DIVERGENCES - Indices from Sectors

These Three Economic Bellwethers Indicate Danger Lies Ahead! 04-29-13 Phoenix Capital Research via ZH

The markets are holding up based on hope for more stimulus from the Fed and ECB this week (Fed FOMC is Tuesday and Wednesday, the ECB meeting is on Thursday).

This is a very dangerous environment. We are entering the seasonal period in which stocks typically do poorly (May-November). Earnings guidance is falling. And even the massaged GDP number for 1Q13 was lower than expected.

In simple terms, we are getting multiple signs that the economy is slowing and heading towards recessionary territory. This is happening at the precise time that stocks are holding up on hopes of more stimulus.

The rising bearish wedge pattern in the S&P 500 that we noted last week remains in play. It should be resolved this week. However, multiple economic bellweathers are already warning DANGER DANGER!

Below is a price performance chart for the S&P 500 against Fed EX (postage and shipping), Arcelor Mittal (steel), and Caterpillar (machinery). As you can see, the real economy is falling. But stocks keep holding up.

We’ve seen this kind of divergence between stocks and the economy before in 2008. We all know how that ended.

LONG CYCLES - Ending a Grand Supercycle Degree

It is Important to recognize from LONG Wave Cycle Perspectives we are ending Century Long Cycles

The last grand supercycle correction that we had was the south seas bubble in 1720 08-26-09

Callous, Uncaring and Unforgiving – And That Was Just a Supercycle Bear 03-03-10 Elliott Wave International

Elliott Wave Charts

REVENUES & MARGINS - What Analytsts Are Watching Going Forward

Why Revenues Have Been Worse Than Expected During This Earnings Season 04-29-13 Ed Yardeni via BI

Both the levels and the growth rates of S&P 500 revenues and US nominal exports are highly correlated. Nominal exports remained in a volatile flat trend during the first two months of the first quarter. This might be one reason why revenues have been lower than expected during the first quarter’s earnings season. Of the 270 S&P 500 companies that have reported, 56% had negative revenue surprises. Nevertheless, analysts’ consensus revenue estimates are holding up surprisingly well for this year and next year with gains of 3.0% and 4.6%, respectively.

S&P 500 profit margin estimates are also holding up, with 9.8% expected this year and 10.5% expected next year. I expect margins to remain flat in 2013 and 2014. So earnings should grow at the same pace as revenues. For earnings, I am still predicting $110 per share this year, up 5.9% y/y, and $118 next year, up 7.3%. Obviously, I am more optimistic about the prospects for revenues than the analysts. However, because they are more optimistic on margins, they are currently predicting that earnings will be $111 and $124 this year and next year.

EARNINGS - Still Squeezing Costs but Revenue Growth a Problem

Everything You Need To Know About S&P Earnings In One Huge Chart 04-29-13 Goldman via BI

Click to Enlarge

PROFIT MARGINS - Technology A Big Contributor

CITI: Here's What The Profit Margin Doomsayers Get Wrong 04-29-13 Citi via BI

Q1 EARNINGS - Hockeystick Beginning to Fail

Earnings - Hope Is Fading 04-27-13 Zero Hedge

We have long commented on the hockey-stick-like expectations of a second-half 2013 resurgence in EPS and revenue growth. This miracle waiting to happen is, sadly, increasingly unlikely. As Goldman notes, the

S&P 500 bottom-up consensus EPS estimate for the remainder of 2013 has fallen 1% since the start of earnings season.

Revisions have been most negative in the Materials (-4.1%) and Information Technology (-3.7%) sectors. Managements are guiding well below consensus estimates. Of the companies have provided 2Q guidance, 76% guided with a midpoint below the mean consensus estimate (versus an average of 69% over the past 28 quarters). The median firm guided 4% below consensus (versus 3% historically). However, since the start of earnings season, bottom-up consensus full-year 2013 estimates are down only 40bp; suggesting analysts and serial extrapolators alike have considerable more reality to catch up to yet - but for now, hope is fading a little with EPS, Sales, and Margins expectations for the rest of the year all being marked down.

It seems the hockey stick is starting to droop...

most notably in Materials, Tech and Industrials...

Charts: Goldman Sachs

THE DANGER - COMPLACENCY & A SUBSERVIENT MINDSET

Abnormalcy Bias 04-24-13 Jim Quinn of The Burning Platform blog, via ZH

Loving Your Servitude

“Liberty is lost through complacency and a subservient mindset. When we accept or even welcome automobile checkpoints, random searches, mandatory identification cards, and paramilitary police in our streets, we have lost a vital part of our American heritage. America was born of protest, revolution, and mistrust of government. Subservient societies neither maintain nor deserve freedom for long.” – Ron Paul

The most disgraceful example of abnormality that has infected our culture has been the cowardice and docile acquiescence of the citizenry in allowing an ever expanding police state to shred the U.S. Constitution, strip us of our freedoms, and restrict our liberties. Our keepers have not let any crisis go to waste in the last seventeen years.

They have also taken advantage of the

• Willful ignorance,
• Childish immaturity,
• Extreme gullibility,
• Historical cluelessness,
• fFnancial illiteracy and
• Techno-Narcissism of the populace

to reverse practical legislation and prey upon irrational fears to strip the people of their constitutionally guaranteed liberties and freedoms. If you had told someone in 1996 the security measures, laws, and police agencies that would exist in 2013, they would have laughed you out of the room.

Every crisis, whether government created or just convenient to their agenda, has been utilized by the oligarchs to expand the police state and benefit the crony capitalists that profit from its expansion.

The character of the American people has been found wanting as they obediently cower and beg for protection from unseen evil doers. The propagandist corporate media reinforces their fears and instructs them to submissively tremble and implore the government to do more.

The cosmic obliviousness and limitless sense of complacency of the general population with regards to a blatantly obvious coup by a small cadre of sociopathic financial elite and their

• army of bureaucrats,
• lackeys and
• jackboots is a wonder to behold.    

The 1929 stock market crash and ensuing Great Depression was primarily the result of excessively loose Federal Reserve monetary policy during the Roaring 20’s and the unrestrained fraud perpetrated by the Wall Street banks. The 1933 Glass-Steagall Act was a practical 38 page law which kept Wall Street from ravenously raping its customers and the American people for almost seven decades. The Wall Street elite and their bought off political hacks in both parties repealed this law in 1999, while simultaneously squashing any effort to regulate the financial derivatives market. The day trading American public didn’t even look up from their computer screens. Over the next nine years Wall Street went on a fraudulent feeding frenzy rampage which brought the country to its knees and then held the American taxpayer at gunpoint to bail them out. The Federal Reserve arranged rescue of LTCM in 1998 gave the all clear to Wall Street that any risk was acceptable, since the Fed would always bail them out. Just as they did in the 1920’s, the Federal Reserve set the table for financial disaster with excessively low interest rates and non-existent regulatory oversight.           

The downward spiral of our empire towards an Orwellian/Huxley merged dystopian nightmare accelerated after the 9/11 attacks.

Within one month those looking to exert hegemony over all domestic malcontents had passed the 366 page, 58,000 words Patriot Act. Did the terrified masses ask how such a comprehensive destruction of our liberties could be written in under one month? It is apparent to anyone with critical thinking skills that the enemy within had this bill written, waiting for the ideal opportunity to implement this unprecedented expansion of federal police power. Electronic surveillance of our emails, phone calls and voice mails, along with warrantless wiretaps, and general loss of civil liberties was passed without question under the guise of protecting us. Next was the invasion of a foreign country based upon lies, propaganda and misinformation without a declaration of war, as required by the Constitution. Our government began torturing suspects in secret foreign prisons. The shallow, self-centered, narcissistic, Facebook fanatic populace has barely looked up from texting on their iPhones to notice that we have been at war in the Middle East for eleven years, because it hasn’t interfered with their weekly viewing of Honey Boo Boo, Dancing With the Stars, or Jersey Shore. They occasionally leave their homes to wave a flag and chant “USA, USA, USA”, as directed by the media, when a terrorist like Bin Laden or Boston bomber is offed by our security services, but for the most part they can live their superficial vacuous lives of triviality unscathed by war.

The creation of the Orwellian Department of Homeland Security ushered in a further encroachment of our everyday freedoms. They attempted to keep the masses frightened through a ridiculous color coded fear index. Little old ladies, people in wheelchairs and little children are subject to molestation by lowlife TSA perverts. Military units conduct “training exercises” in cities across the country to desensitize the sheep-like masses, who fail to acknowledge that the U.S. military cannot constitutionally be used domestically. DHS considers military veterans, Ron Paul supporters, and Christians as potential enemies of the state. The use of predator drones to murder suspected adversaries in foreign countries, while killing innocent men, women and children (also known as collateral damage), has just been a prelude to the domestic surveillance and eventually extermination of dissidents and nonconformists here in the U.S. We are already becoming a 1984 CCTV controlled nation. DHS has been rapidly militarizing local police forces in cities and towns to supplement their jackbooted thugs. Obama’s executive orders have given him the ability to take control of industry. He can imprison citizens without charges for as long as he deems necessary. Attempts to control gun ownership and shutdown the internet is a prologue to further government domination and supremacy over our lives when the wheels come off this unsustainable bus.

The last week has provided a multitude of revelations about our government and the people of this country. The billions “invested” in our police state, along with warnings from a foreign government, and suspicious travel patterns were not enough for our beloved protectors to stop the Boston Marathon bombing. After stumbling upon these amateur terrorists by accident, the 2nd responders, with their Iraq war level firepower, managed to slaughter one of the perpetrators, but somehow allowed a wounded teenager to escape on foot and elude 10,000 donut eaters for almost 24 hours. The horde of heavily armed, testosterone fueled thugs proceeded to bully and intimidate the citizens of Watertown by illegal searches of homes and treating innocent people like criminals. The government completely shut down the 10th largest metropolitan area in the country for an entire day looking for a wounded 19 year old. The people of Boston obeyed their zoo keepers and obediently cowered in their cages.  

The entire episode was an epic fail. The gang that couldn’t shoot straight needed an old man to find the bomber in his backyard boat. The people of Boston exhibited the passivity and subservience demanded by their government. Since the capture of the remaining terrorist, the shallow exhibitions of national pride at athletic events and smarmy displays of honoring the police state apparatchiks who screwed up – allowing the attack to occur and looking like the keystone cops during the pursuit of the suspects, has revealed a fatal defect in our civil character. We are living in a profoundly abnormal society, with millions of medicated mindless zombies controlled by a vast propaganda machine, who seemingly enjoy having their liberties taken away. Most have willingly learned to love their servitude. For those who haven’t learned, the boot of our vast security state will just stomp on their face forever. We’re realizing the worst dystopian nightmares of Orwell and Huxley simultaneously. This abnormalcy bias will dissipate over the next ten to fifteen years in torrent of financial collapse, war, bloodshed, and retribution. Sticking your head in the sand will not make reality go away. The existing social, political, and financial order will be swept away. What it is replaced by is up to us. Will this be the final chapter or new chapter in the history of this nation? The choice is ours.                         

“If you want a vision of the future, imagine a boot stamping on a human face – forever.
- George Orwell

“There will be, in the next generation or so, a pharmacological method of making people love their servitude, and producing dictatorship without tears, so to speak, producing a kind of painless concentration camp for entire societies, so that people will in fact have their liberties taken away from them, but will rather enjoy it, because they will be distracted from any desire to rebel by propaganda or brainwashing, or brainwashing enhanced by pharmacological methods. And this seems to be the final revolution” -Aldous Huxley, 1961

STATISM - The Power and Majesty of Dissent Over Statism

From Viet Nam Defiance to Boston Surrender 04-28-13 BATR.org

CRONY CAPITALISM - Corruption Blatantly & Unchecked, Running Out of Control

Matt Taibbi Explains How "Everything Is Rigged" 04-26-13 Matt Taibbi of Rolling Stone,via ZH

Everything Is Rigged: The Biggest Price-Fixing Scandal Ever

The Illuminati were amateurs. The second huge financial scandal of the year reveals the real international conspiracy: There's no price the big banks can't fix

Conspiracy theorists of the world, believers in the hidden hands of the Rothschilds and the Masons and the Illuminati, we skeptics owe you an apology. You were right. The players may be a little different, but your basic premise is correct: The world is a rigged game. We found this out in recent months, when a series of related corruption stories spilled out of the financial sector, suggesting the world's largest banks may be fixing the prices of, well, just about everything.

You may have heard of the Libor scandal, in which at least three – and perhaps as many as 16 – of the name-brand too-big-to-fail banks have been manipulating global interest rates, in the process messing around with the prices of upward of $500 trillion (that's trillion, with a "t") worth of financial instruments. When that sprawling con burst into public view last year, it was easily the biggest financial scandal in history – MIT professor Andrew Lo even said it "dwarfs by orders of magnitude any financial scam in the history of markets."

That was bad enough, but now Libor may have a twin brother. Word has leaked out that the London-based firm ICAP, the world's largest broker of interest-rate swaps, is being investigated by American authorities for behavior that sounds eerily reminiscent of the Libor mess. Regulators are looking into whether or not a small group of brokers at ICAP may have worked with up to 15 of the world's largest banks to manipulate ISDAfix, a benchmark number used around the world to calculate the prices of interest-rate swaps.

Interest-rate swaps are a tool used by big cities, major corporations and sovereign governments to manage their debt, and the scale of their use is almost unimaginably massive. It's about a $379 trillion market, meaning that any manipulation would affect a pile of assets about 100 times the size of the United States federal budget.

It should surprise no one that among the players implicated in this scheme to fix the prices of interest-rate swaps are the same megabanks – including Barclays, UBS, Bank of America, JPMorgan Chase and the Royal Bank of Scotland – that serve on the Libor panel that sets global interest rates. In fact, in recent years many of these banks have already paid multimillion-dollar settlements for anti-competitive manipulation of one form or another (in addition to Libor, some were caught up in an anti-competitive scheme, detailed in Rolling Stone last year, to rig municipal-debt service auctions). Though the jumble of financial acronyms sounds like gibberish to the layperson, the fact that there may now be price-fixing scandals involving both Libor and ISDAfix suggests a single, giant mushrooming conspiracy of collusion and price-fixing hovering under the ostensibly competitive veneer of Wall Street culture.

Why? Because Libor already affects the prices of interest-rate swaps, making this a manipulation-on-manipulation situation. If the allegations prove to be right, that will mean that swap customers have been paying for two different layers of price-fixing corruption. If you can imagine paying 20 bucks for a crappy PB&J because some evil cabal of agribusiness companies colluded to fix the prices of both peanuts and peanut butter, you come close to grasping the lunacy of financial markets where both interest rates and interest-rate swaps are being manipulated at the same time, often by the same banks.

"It's a double conspiracy," says an amazed Michael Greenberger, a former director of the trading and markets division at the Commodity Futures Trading Commission and now a professor at the University of Maryland. "It's the height of criminality."

The bad news didn't stop with swaps and interest rates. In March, it also came out that two regulators – the CFTC here in the U.S. and the Madrid-based International Organization of Securities Commissions – were spurred by the Libor revelations to investigate the possibility of collusive manipulation of gold and silver prices. "Given the clubby manipulation efforts we saw in Libor benchmarks, I assume other benchmarks – many other benchmarks – are legit areas of inquiry," CFTC Commissioner Bart Chilton said.

But the biggest shock came out of a federal courtroom at the end of March – though if you follow these matters closely, it may not have been so shocking at all – when a landmark class-action civil lawsuit against the banks for Libor-related offenses was dismissed. In that case, a federal judge accepted the banker-defendants' incredible argument: If cities and towns and other investors lost money because of Libor manipulation, that was their own fault for ever thinking the banks were competing in the first place.

"A farce," was one antitrust lawyer's response to the eyebrow-raising dismissal.

"Incredible," says Sylvia Sokol, an attorney for Constantine Cannon, a firm that specializes in antitrust cases.

All of these stories collectively pointed to the same thing: These banks, which already possess enormous power just by virtue of their financial holdings – in the United States, the top six banks, many of them the same names you see on the Libor and ISDAfix panels, own assets equivalent to 60 percent of the nation's GDP – are beginning to realize the awesome possibilities for increased profit and political might that would come with colluding instead of competing. Moreover, it's increasingly clear that both the criminal justice system and the civil courts may be impotent to stop them, even when they do get caught working together to game the system.

If true, that would leave us living in an era of undisguised, real-world conspiracy, in which the prices of currencies, commodities like gold and silver, even interest rates and the value of money itself, can be and may already have been dictated from above. And those who are doing it can get away with it. Forget the Illuminati – this is the real thing, and it's no secret. You can stare right at it, anytime you want.