APRIL MACRO INVESTMENT FOCUS

GOLD - The Only Long Term "Buy and Hold" Asset in a Fiat Currency Regime.

The chart below is in normalized terms courtesy of Bill King’s The King Report.

According to King, Gold has risen 37.43 fold since 1967. That is more than twice the performance of the Dow over the same time period (18.45 fold). So much for the claim that stocks are a better investment than Gold long-term.

Indeed, once Gold was no longer pegged to world currencies there was only a single period in which stocks outperformed the precious metal. That period was from 1997-2000 during the height of the Tech Bubble (the single biggest stock market bubble in over 100 years).

In simple terms, as a long-term investment, Gold has been better than stocks.

Q1 EARNINGS - Scramble to Pre-Announce Earning Estmate Reductions

UKRAINE - BRICS Back Russia On Crimea

Why Did BRICS Back Russia On Crimea? 03-31-14 Zachary Zeck of The Diplomat, via ZH

There’s been no shortage of reports and commentaries on the crisis in Ukraine and Crimea, and Russia’s role in it. Yet one of the more notable recent developments in the crisis has received surprisingly little attention.

Namely, the BRICS grouping (Brazil, Russia, India, China, and South Africa) has unanimously and, in many ways, forcefully backed Russia’s position on Crimea. The Diplomat has reported on China’s cautious and India’s more enthusiastic backing of Russia before. However, the BRICS grouping as a whole has also stood by the Kremlin.

Indeed, they made this quite clear during a BRICS foreign minister meeting that took place on the sidelines of the Nuclear Security Summit in The Hague last week. Just prior to the meeting, Australian Foreign Minister Julie Bishop suggested that Australia might ban Russia’s participation in the G20 summit it will be hosting later this year as a means of pressuring Vladimir Putin on Ukraine.

The BRICS foreign ministers warned Australia against this course of action in the statement they released following their meeting last week. “The Ministers noted with concern the recent media statement on the forthcoming G20 Summit to be held in Brisbane in November 2014,” the statement said. “The custodianship of the G20 belongs to all Member States equally and no one Member State can unilaterally determine its nature and character.”

The statement went on to say, “The escalation of hostile language, sanctions and counter-sanctions, and force does not contribute to a sustainable and peaceful solution, according to international law, including the principles and purposes of the United Nations Charter.”As Oliver Stuenkel at Post Western World noted, the statement as a whole, and in particular the G20 aspect of it, was a “clear sign that [the] West will not succeed in bringing the entire international community into line in its attempt to isolate Russia.”

This was further reinforced later in the week when China, Brazil, India and South Africa (along with 54 other nations) all abstained from the UN General Assembly resolution criticizing the Crimea referendum. Another ten states joined Russia in voting against the non-binding resolution.

In some ways, the other BRICS countries’ support for Russia is entirely predictable. Thegroup has always been somewhat constrained by the animosities that exist between certain members, as well as the general lack of shared purpose among such different and geographically dispersed nations. BRICS has often tried to overcome these internal challenges by unifying behind an anti-Western or at least post-Western position. In that sense, it’s no surprise that the group opposed Western attempts to isolate one of its own members.

At the same time, this anti-Western stance has usually taken the form of BRICS opposition to Western attempts to place new limits on sovereignty. Since many of its members are former Western colonies or quasi-colonies, the BRICS are highly suspicious of Western claims that sovereignty can be trumped by so-called universal principles of the humanitarian and anti-proliferation variety. Thus, they have been highly critical of NATO’s decision to serve as the air wing of the anti-Qaddafi opposition that overthrew the Libyan government in 2011, as well as what they perceive as attempts by the West to now overthrow Bashar al-Assad in Syria.

However, in the case of Ukraine, it was Russia that was violating the sanctity of another state’s sovereignty. Still, the BRICS grouping has backed Russia. It’s worth noting that the BRICS countries are supporting Russia at potentially great cost to themselves, given that they all face at least one potential secessionist movement within their own territories.

India, for example, has a long history of fluid borders and today struggles with potential secessionist movements from Muslim populations as well as a potent security threat from the Maoist insurgency. China suffers most notably from Tibetans and Uyghurs aspiring to break away from the Han-dominated Chinese state. Even among Han China, however, regional divisions have long challenged central control in the vast country. Calls for secession from the Cape region in South Africa have grown in recent years, and Brazil has long faced a secessionist movement in its southern sub-region, which is dominated demographically by European immigrants. Russia, of course, faces a host of internal secessionist groups that may someday lead Moscow to regret its annexation of Crimea.

The fact that BRICS supported Russia despite these concerns suggests that its anti-Western leanings may be more strongly held than most previously believed. Indeed, besides backing Russia in the foreign ministers’ statement, the rising powers also took time to harshly criticize the U.S. (not by name) for the cyber surveillance programs that were revealed by Edward Snowden.

The BRICS and other non-Western powers’ support for Russia also suggests that forging anything like an international order will be extremely difficult, given the lack of shared principles to act as a foundation. Although the West generally celebrated the fact that the UN General Assembly approved the resolution condemning the Crimea referendum, the fact that 69 countries either abstained or voted against it should be a wake-up call. It increasingly appears that the Western dominated post-Cold War era is over. But as of yet, no new order exists to replace it.

US MONETARY - Why "Tapering" Is a Mirage and the Fed May Be Loosening Instead

Duration Risk: Why "Tapering" Is a Mirage and the Fed May Be Loosening Instead 06-27-14 Cris Sheridan FSN

John Butler made an interesting comment in his recent interview with the Financial Sense Newshour. He said, when you look at the Fed’s balance sheet, one can argue that the Fed really isn’t pulling back on its stimulus to the markets at all. In fact, Butler explained, it may actually be loosening instead:

“The Fed may be tapering its purchases in nominal dollar amounts but in terms of the amount of interest rate risk it is assuming vis-à-vis the private commercial banking system, actually the Fed is continuing to assume additional interest rate risk at an elevated rate. And so from a bank balance sheet or liquidity management perspective, Fed policy is no tighter today than it was last year. And I can’t stress this point enough: It’s just as loose today as it was pre-taper…and arguably looser depending on how you define interest rate risk.”

In case you don’t understand the above, what Butler is saying is that while the Fed is buying less and less debt each month in dollar terms, it is simultaneously buying a larger amount of long-dated bonds, which has the overall effect of keeping conditions loose.

Here’s a recent chart from the St. Louis Fed showing how they’ve ramped up their purchase of long-dated Treasuries (ten years or more) over the last few years, while pulling back on shorter maturities:

Source: St. Louis Federal Reserve

With the above in mind, Butler stated that tapering "is something of a mirage…as long as the Fed continues to absorb more and more long-dated bonds, the banks will have an incentive to increase lending and leverage, notwithstanding the ‘taper’.”

Via email, Butler explained in more detail why this is so:

Ever since the 'taper' talk began I have been making the point that by only looking at the face amounts of debt purchased by the Fed we do not get the full picture. Indeed, recall when the Fed made a big deal about long-maturity purchases in the first place? Well, they were doing so to emphasize that they still had massive firepower to stimulate credit by buying long-dated bonds. 'Duration' is a fancy word for 'maturity' which incorporates the specific coupon and principal repayment schedule of a given bond or portfolio of bonds. More subtle is the concept of 'convexity' risk, which is only significant in longer 10y+ maturity bonds as it increases non-linearly with maturity.

Consider what banks are: they are financial intermediaries that borrow short to lend long. This means they are exposed not only to the level of interest rates, but to the term structure. The Fed has the power, through debt purchases, to affect both. In short maturities, however, there is little 'duration' or 'convexity', so the nominal amount of debt the Fed purchases is a proxy for the amount of interest rate risk it assumes from the banks. The less risk, the more long-term lending the banks can make, and the greater the implied, potential 'money multiplier' they can generate.

In long maturities (beyond 10 years), the Fed takes far more 'duration' and 'convexity risk’ off the banks, yet the banks receive the new money and can lend it out nevertheless. So the risk/reward for banks can shift dramatically when the Fed purchases 10y+ bonds instead of, say, 1y bonds, and the flexibility here can easily compensate or even overcompensate for the 'taper' currently underway. And the data show the Fed is continuing to increase its purchases of 10y+ bonds, the ones that really take the bulk of interest rate risk off the banks.

So based on this, you can argue fairly that the 'taper' is something of a mirage. Bank risk and liquidity managers know this and they think in 'duration' and 'convexity' terms. As long as the Fed is continues to absorb more and more 10y+ supply, the banks will have an incentive to increase lending and leverage, notwithstanding the 'taper'.

I'm a bit surprised more has not been written about this. There was an article in the FT two years or so back making this point but now there is an odd silence. Has any US bank published on this? If not, why not? Do they not want to? Does the Fed not want them to? If the Congress or others learned that the 'taper' really isn't a 'taper' at all, would there be repercussions? I don't know, but if the 'taper' was a PR campaign [see story] rather than a true change in policy all along then this would make more sense.

In the FT article, Brian Sack, executive vice president of the Federal Reserve Bank of New York, explained how the Fed views this very process of increasing the duration risk of its portfolio as an important aspect of stimulus:

If economic developments lead the FOMC to seek additional policy accommodation, it has several policy options open to it... One option is to expand the balance sheet further through additional asset purchases, with the just-completed purchase program presenting one possible approach. Another option involves shifting the composition of the SOMA [System Open Market Account] portfolio rather than expanding its size. As noted earlier, a sizable portion of the additional risk that the SOMA portfolio has assumed to date came from a lengthening of its maturity, suggesting that the composition of the portfolio can be used as an important variable for affecting the degree of policy stimulus.

Later in the interview, Butler noted that the reason the market probably hasn't reacted that much to the "taper" so far is precisely for this reason:

"[Those] who have a direct line to the Fed, who are involved in the whole primary dealer liquidity distribution network for Treasury securities and swaps and everything else, these people are well aware that conditions have not materially tightened and their institutions can act accordingly when they receive those internal reports from people actually in the know. Say one thing, do another. That’s kind of the way the Fed is operating. And that may help to explain why the U.S. equity market has still been able to shrug off a lot of what’s been taking equity markets down elsewhere in the world.

Q1 EARNINGS -

GLOBAL GDP ESTIMATE TAKEN DOWN

GDP estimates for 2014 of 2.78% which is a 15% shrinkage in expectations from one year ago.

US Q1 GDP ESTIMATE TAKEN DOWN DRAMATICALLY

US MACRO

Top-down economic data has plunged to its lowest in 19 months

EARNINGS TAKEN DOWN BY 5%

MID-TERM PRESIDENTIL ELECTION CYCLE