2/7/19: Factset: Negative EPS guidance hits the highest 2Q level since 2Q 2006

Bad news for the 'fundamentals are sound' crowd when it comes to justifying stock markets exuberance: based on data from Factset, to-date, the number of companies reporting negative earnings per share (EPS) guidance in 2Q 2019 has reached 87 - the highest number after 1Q 2016, and the highest number for any 2Q period since 2006. Total number of reporting companies to-date is 113, which means that so far in the reporting season, a whooping 77% of reporting companies are guiding negative EPS.

Technology sector leads negative EPS guidance issuance. Per Factset: "Information Technology sector, 26 companies have issued negative EPS guidance for the second quarter, which is above the five-year average for the sector of 20.4. If 26 is the final number for the quarter, it will tie the mark (with multiple quarters) for the second highest number of companies issuing negative EPS guidance in this sector since FactSet began tracking this data in 2006, trailing only Q4 2012 (27). At the industry level, the Semiconductor & Semiconductor Equipment (9) and Software (6) industries have the highest number of companies issuing negative EPS guidance in the sector." Which means the tech sector is singing the blues. Consumer discretionaries and Healthcare are the other two sectors showing underperformance relative to 5 year average.

Which is ugly. Uglier, yet, as we are not seeing any correction in the markets to reflect the deteriorating fundamentals. And uglier still when one considers the fact that the 'S' part of EPS has been gamed dramatically in recent years through rampant shares buybacks, while the 'E' bit has been gamed via opportunistic M&As.

13/9/16: U.S. business investment slump: oil spoil?

Credit Suisse The Financialist recently asked a very important question: How low can U.S. business investment go? The question is really about the core drivers of the U.S. recovery post-GFC.

As The Financialist notes: “Over the last 50 years, there has usually been just one reason that businesses have slashed investment levels for prolonged periods of time—because the economy was down in the dumps.”

There is a handy chart to show this much.

“Not this time”, chimes The Financialist. In fact, “Private, nonresidential fixed investment fell 1.3 percent in real terms over the previous year in the second quarter of 2016, the third consecutive quarterly decline.” This the second time over the last 50 years that this has happened without there being an ongoing recession in the U.S.

Per Credit Suisse, the entire problem is down to oil-linked investment. And in part they are right. Latest figures reported by Bloomberg suggest that oil majors are set to slash USD1 trillion from global investment and spending on exploration and development. This is spread over 6 years: 2015-2020. So, on average, we are looking at roughly USD160 bn in capex and associated expenditure cuts globally, per annum. Roughly 2/3rds of this is down to cuts by the U.S. companies, and roughly 2/3rds of the balance is capex (as opposed to spending). Which brings potential cuts to investment by U.S. firms to around USD70 billion per annum at the upper envelope of estimates.

Incidentally, similar number of impact from oil price slump can be glimpsed from the fact that over 2010-2015, oil companies have issued USD1.2 trillion in debt, most of which is used for funding multi annual investment allocations.

Wait, that is hardly a massively significant number.

Worse, consider shaded areas marking recessions. Notice the ratio of trough to peak recoveries in investment in previous recessions. The average for pre-2007 episode is a 1:3 ratio (per one unit recovery, 3 units growth post-recovery). In the current episode it was (at the peak of the recovery) 1:0.6. Worse yet, notice that in all previous recoveries, save for dot.com bubble crisis and most recent Global Financial Crisis, recoveries ended up over-shooting pre-recession level of y/y growth in capex.

Another thing to worry about for 'oil's the devil' school of thought on corporate investment slowdown: slump in oil-related investment should be creating opportunities for investment elsewhere. One example: Norway, where property investments are offsetting fully decline in oil and gas related investment. When oil price drops, consumers and companies enjoy reallocation of resources and purchasing power generated from energy cost savings to other areas of demand and investment. Yet, few analysts can explain why contraction in oil price (and associated drop in oil-related investment) is not fuelling investment boom anywhere else in the economy.

To me, the reason is simple. Investing companies need three key factors to undertake capex:
1) Surplus demand compared to supply;
2) Technological capacity for investment; and
3) Policy and financial environment that is conducive to repatriation of returns from investment.

And guess what, they have none of these in the U.S.

Surplus demand creates pressure factor for investment, as firms face rapidly increasing demand with stable or slowly rising capacity to supply this demand. That is what happens in a normal recovery from a crisis. Unfortunately, we are not in a normal recovery. Consumer and corporate demand are being held down by slow growth in incomes, significant legacy debt burdens on household and corporate balance sheets, and demographics. Amplified sense of post-crisis vulnerability is also contributing to elevated levels of precautionary savings. So there is surplus supply capacity out there and not surplus demand. Which means that firms need less investment and more improvement in existent capital management / utilisation.

Technologically, we are not delivering a hell of a lot of new capacity for investment. Promising future technologies: AI-enabled robotics, 3-D printing, etc are still emerging and are yet to become a full mainstream. These are high risk technologies that are not exactly suited for taking over large scale capex budgets, yet.

Finally, fiscal, monetary and regulatory policies uncertainty is a huge headache across a range of sectors today. And we can add political uncertainty to that too. Take monetary uncertainty alone. We do not know 3-year to 5-year path for U.S. interest rates (policy rates, let alone market rates). Which means we have no decent visibility on the cost of capital forward. And we have a huge legacy debt load sitting across U.S. corporate balance sheets. So current debt levels have unknown forward costs, and future investment levels have unknown forward costs.

Just a few days ago I posted on the latest data involving U.S. corporate earnings (http://trueeconomics.blogspot.com/2016/09/7916-dont-tell-cheerleaders-us.html) - the headline says it all: the U.S. corporate environment is getting sicker and sicker by quarter.

Why would anyone invest in this environment? Even if oil is and energy are vastly cheaper than they were before and interest rates vastly lower...

20/8/2012: China's 'This Time It's Different' turn?

Two charts and a table that are really self-explanatory. All via http://macromon.wordpress.com/:

This time, it's clearly very different...

Economics 15/08/2009: US rally is unlikely to last - implications for Ireland

Some are making lots of hay out of the idea that Germany, France, the US and the UK economies are improving and that this will have a positive effect on Ireland. Let me play a devil’s advocate here.

Yesterday I wrote about my view of GDP growth debate when the premise of growth is predicated on our exports (here).

One more factor is worth considering in this debate: interest rates and FOREX.

Scenario most likely: US is coming out of the recession in Q1 2010. By then, inflationary pressures are building up in the EU (we might be still below the target rate, but Monsieur Trichet is by then fully cognizant of deflation being over and money supply being out of whack by a thousand miles stretch). US inflation is already there, also below the target, but much closer than Eurozone’s. What happens next? Interest rates rise in the US and in the Eurozone. Dollar/Euro rate heads South, boosting our exports somewhat. But our CPI heads North as a combination of high taxes and rising mortgage financing costs wipes out households’ saving nests. Do you call this ‘growth’? or do you call it a disaster? Brendan Keenan and the likes of Davy seems to be happy to say it is the former. I would conjecture it is the latter.

Scenario less likely: US and EU come out of the recession jointly – around the end of Q1 2010. This means all of the above, but with Euro actually staying strong or even appreciating against the dollar. Double whammy then.

So let us cheer carefully any turnaround in the ‘partner’ economies, then…

But now, consider the whole idea of a turnaround. So far, our not too financially savvy media has been confusing stock market rally with economic fundamentals. I fear this is about to change in September/October. Here are three barometers:

Barometer 1: Personal. Last year, the crisis in our markets spelt a dramatic decline in my own income by ca 80% within a span of August-October. This year, the same process has just started anew with my sources of income falling and companies owing me cash falling further behind on their payments. And we are talking non-trivial amounts backlogged for over 90 days on invoices.

Barometer 2: Global trade. Once again, 2008 is perfectly reflected in 2009. In 2008, crisis in global trade and finance was pre-dated by the bottoming out of commodities cycles in late January 2008. In 2009, the same has happened in February 2009. As economy fell in 2008, Bear Sterns got rescued (March 15, 2008). In 2009 it was the turn for the Obama’s economic stimulus package – signed on March 6, 2009. Now, all along, global trade collapse followed smaller pre-shocks. June-August 2008: Baltic Dry Index, having peaked in May, collapsed 28%. June-August 2009, having peaked for the year in June 2009, BDI falls 25%. All seasonally adjusted, mind you. In 2008 this was followed by massive short selling in the financial markets and bottoming out of stock markets on July 15, 2008. Short-covering leads to a rally thereafter with the next two weeks yielding a 5% rise in S&P500. In 2009 the story is slightly different yet the timings are the same and the net impact is the same as well. Banned naked shortselling implies longer lags for translating expectations into price movements, so July 10 stock markets bottom coincident with the Fed injecting some $80bn into the market for the first time in a month, produce a short-covering rally of 12% (S&P500) in exactly the same period as last year.

Barometer 3: Fundamentals. In the meantime, as 2008 short-covering rally was unfolding, global trade was shrinking fast – chart below.

In case you are still wondering, the same has happened in 2009 so far (chart below):

So in both years we have BDI scissoring away from the S&P500 – right before the main wave hits the shores on Wall Street. The real economy took hold with a delay back in 2008 due to the short-covering rallies triggered by regulatory moves. Ditto this year. And trade flows fundamentals are not alone in showing no support for a sustained rally in the stock markets. Here are some other signs:

Short run dynamics in the stock markets are now firmly showing increasing volatility: VIX has declined from July 2008 through August before taking off up the cliff in September 2008. So far, the same dynamics are present in terms of decline and increasing volatility of VIX itself.

The US consumer sentiment index fell unexpectedly in early August to 63.2 from 66.0 in July - the lowest reading since March, according to the Reuters/University of Michigan index. Now, as the chart illustrates, UofM survey index also peaked in August 2008 before heading rapidly South.
Although the seasonally adjusted output of the US factories, mines and utilities increased 0.5% last month (for the first time since December 2007), reversing course after a 0.4% decline in June, annual output is still down 13.1% in the past year. But the current bounce is fictitious, as capacity utilization increase from 68.1% to 68.5% was minor and on top of the record low of June – so no restart of an investment cycle any time soon. Worse than that – all gains in industrial output in July were due to teh US car makers deciding to re-supply stocks. Motor vehicle production jumped 20.1% on a back of a planned increase following earlier severe production cutbacks as General Motors and Chrysler went through bankruptcy. So ex autos, industrial output for July was off 0.1% while manufacturing output rose just 0.2%. Output of high-tech industries rose 0.4% in July (still down 20% in the past year).

Finally, unemployment – I wrote about this ‘surprise dip’ in last month’s unemployment figures before (all based on an actual fall in the labour force participation rates, not on a slowdown of jobs destruction. But while ordinary unemployment rate is scarry, the duration of an average unemployment spell (the second chart below) is frightening. Since the Department of Labor started collecting data in the late 1940’s, there hasn’t been unemployment spell that lasted this long: July 2009 at 25.1 weeks. The previous highest peak in the average duration of unemployment: July 1983 = 21.2 weeks.


So nothing, short of something strange brewing in Wall Street’s Caffeteria, underpins the last rally. And this means a nasty September/October market is a distinct possibility.

And what does this mean for Ireland? Ok, there is an interesting analysis to be had on the spillover from the potential correction in the US to that in here. In particular, we should look at the fundamentals behind the financial sector risk exposures to any additional shocks. Remember - in 2008 the meltdown of financials was much deeper in Ireland than it was in the rest of the Euroze. And of course in the rest of the Eurozone it was much deeper than in the US.

Why? Risk exposures differentials due to leverage. Americans had a subprime crisis. True. Eurozone had an over-borrowing crisis. Prior to the onset of the financial crisis, US financial sector leveraging was around 40% of GDP, Eurozone stood at 70% of GDP, in Ireland - at well over 350% of GDP. Hmmm... smelling the rat yet?

Well, take a look at the two charts below (courtesy of R&S - Mediobanca):The first chart shows leverage as % of GDP in the financial sector, the second one - risk exposures measured as total securities relative to net tangible equity. Now, for Ireland, the comparable figures are: leverage at 425% (Q1 2009), risk exposure is simply indetrminable as our banks have been engaged in a wholesale re-shifting of liabilities and rewriting of assets, but it is hard to imagine our risk ratios to be less than 15% (given some of our banks are facing 30-39% stress on their loan books).

So if the US were to catch a cold in October, while Europe is to get another bout of flu, Ireland might come down with something so nasty, we wish we had an H1N1 'swine' flu hitting our financial markets...

What's that stock market equivalent of Tamiflu, then?

Daily Economics 27/04/09: Brian Lenihan/NAMA and US opening

GM debt-for-shares swap as an illustrative example for Irish banks?
General Motors is offering an interesting insight into senior debt recovery rates in the US. The company has offered to swap some $27bn worth of new equity in exchange for old debt at 225 common shares per $1,000 in debt - effectively implying a recovery rate of 45% (at flat current price per share of $2.03) on its senior debt. Now, factoring in the dilution effect of the new shares, this implies a discount rate of ca 65-70% on the existent debt.

The lesson for NAMA: although Irish banks are not in bankruptcy, like GM, much of the stressed property-linked assets are virtually there already. If NAMA were to buy these at a discount of 15-30% - the numbers rumored out there in the NAMA-proximate worlds of Irish finance, such a discount would imply that the Irish state believes our property development and investment loans to be some 220-430% more secure than the senior debt of one of the largest corporations backed by the US Federal Government cash.

Being realistic was never a strong point of this Government, I guess.


Brian Lenihan on NAMA: per Reuters report on Brian Lenihan's statement to the RTE yesterday, in addition to repeatedly referring to 'pounds' as Irish currency, our Minister for Finance has managed to state that 'if we nationalise BofI and AIB outright, our entire banking system will be 100% nationalised' (I am using an audio recording transcription here, so the quotes are not exact, but preserve the core of his arguments). Hmmm... one would have thought that the Minister who extended banks guarantee to 6 banks (not just AIB and BofI) and who should be aware of the significant presence of non-Irish banks in this economy would be more careful in phrasing his statements.

'I believe it would be very difficult for Ireland to attract funds from abroad, much more challenging, were we to do that.' Now, in effect, as BL points out (hat tip to him), this amounts to an admission that our state is now at or near the limit of its borrowing capacity. Of course, achieving a miserly 110% cover in 9-year bond last week (a bond of very small volume, one must add: see here) suggests just that, but... an admission from the Minister is an all together new dimension to the state borrowing saga.

on the matter. Now, Funny, of course, the Minister should take the same stance as his adviser, Alan AhearneNAMA would require borrowing ca Euro56-60bn to finance a bond-debt swap, with additional Euro4-8bn in post-NAMA recapitalization. A nationalization outright would involve borrowing just Euro2bn to cover existent equity and Euro5bn to shore up some of the capital losses due to transfer of equity and writedowns on the loans books totalling 50% (while driving Capital ratios down to 8% statutory requirement). If we face tight borrowing markets, surely the logic suggest we should try borrowing Euro8bn rather than Euro68bn?

Ah, logic, as well as economics and finance, and fiscal policy and management of public expenditure, are apparently not the strongest skills in DofF - either at the top or at the bottom... So what is then?


Ireland's corporate insolvencies as predicted back in March, here, (actually, I made a more detailed prediction of the rates of insolvencies increases in 2009 in the December 18 issue of Business&Finance magazine pages 42-43, available here, and that forecast itself was building on the defaults model I created when forecasting corporate defaults back in the spring 2008: here scroll to page 10), Irish companies are facing a dramatic rise in insolvencies in 2009 and the rate of bankruptcies is rising. Table below - courtesy of FGS says it all - Q1 2009 number of insolvencies was 170% above that for the same period of 2008.

Back in December 2008, my forecast was for the average rise of 247% in 2009 across the main sectors of this economy. We are now well on the way to meet this prediction.

Table below summarises two of my previous forecasts, with the later one still holding nicely, in my view... and yes, for those of you aware of it - the first forecast is, judging by the table color, from an even earlier publication (June 2008).

US news front has worsened substantially last week and the stocks snapped their weekly gains accordingly.

Friday’s figures showed demand for durable goods falling 0.8% in March in a seventh monthly decline since July 2008. New orders posted declines in virtually all sectors. Shipments were down 1.7%. On what appeared to some to be a more positive note, inventories fell 1.1% and capital spending by businesses rose 1.5% posting a second consecutive increase, albeit on an abysmally depressing fall-off in January. Both, in my view, are not signs of strength, but of the moderation in the rate of industrial production slowdown. Inventories declines are hardly significant, given rapid and drastic cuts in capacity over the previous months.

The rate of banks closures accelerated. American Southern Bank of Kennesaw, Georgia, was shut down with assets of about $112.3mln and deposits of $104.3mln. Then, Michigan Heritage Bank of Farmington Hills, went bust with total assets of $184.6mln and deposits of $151.7mln. Calabasas, Ca.-based First Bank of Beverly Hills bit the dust with $1.5bn in assets and $1bn in deposits. This time around, no institution stepped up to pick assume the homeless deposits. All within one day – Friday. But before the end of the week, FDIC closed Ketchum, Idaho-based First Bank of Idaho with $374mln in deposits. The grand total of failed US regional banks now stands at 29 since January 1 and 54 since the beginning of this recession. Not many green shoots (other than weeds) out there, amongst the smaller financials.

Now on to more fundamental stuff. I’ve done some numbers crunching and guess what: since 1981, for 27 years S&P500 has outstripped growth rates in the US and global economy in nominal terms. Over the last 27 years annual average growth in nominal GDP in the US stood at 5.8% (2.96% in real terms). Globally, it was 6.2% or 1.37% in real terms. Now, over the same period of time (December 1981-December 2008) S&P 500 moved from 122.55 to 683.38 – a gain of 6.53% pa on average. But this is excluding dividend yield. Thus, should S&P 500 return to some sort of a fundamentals-justified trend, index levels that are justified as sustainable by economic growth standards are in the range between 560-620. In the current range, the implied dividend yield should be around 1.6% pa over the 27-year horizon. In other words, if you think there is something in this economy to drive S&P500 beyond current levels, you better think of a GDP growth rate of 6.2% and a dividend yield of 1.6% in 2009… Otherwise, we are in the over-sold territory.

Then, of course, the US GDP fell 6.3 annualized rate in Q4 2008 and the consensus expectation is for a 5.1% decline in Q1 2009 – adding together to the worst contraction recorded in two consecutive quarters in over 50 years. We shall see this Wednesday when the figures are released.

The data will also give us the trend in inventories and consumer spending contributions to GDP growth. The latter is what many are pinning their hopes on to see the ‘greenish’ shoots of not the recovery yet, but of a stabilization in the rate of decline. Later during the week we will get weekly jobless claims, April consumer confidence and manufacturing sentiment. Of course, the US consumers got some $200bn worth of stimulus in tax refunds and cost-of-living indexation in Q1 2009. (Clearly, not the case in Ireland, where Government advisers, like Alan Ahearne think it’s a bad idea to help consumers by lowering their taxes – see here).

But offsetting the expected consumer spending stabilization will be capital investment. Although there was some increase in capital spending relating to durable goods in March (see above), capital investment is likely to take another hit in Q1 2009 overall, as January and February saw significant cuts in productive capacity by the US firms. Ditto the residential investment: UBS estimated last week that housing investments contracted 38% in Q1.

My bottom line: given that
• inventories did not contribute much to the decline in GDP growth through Q4 2008, and are now likely to show serious deterioration;
• consumer spending is unlikely to post significant upsides despite personal disposable income increases;
• housing and business investment continue to contract; and
• exports are falling precipitously, while most of imports demand contractions have already taken place,
we can expect a 4.9-5.2% fall off in Q1 2009 GDP.

Good luck hunting when the markets open today.

Daily Economics 14/04/09

University Quality & Earnings: this week's paper "University Quality and Graduate Wages in the UK" (IZA Discussion paper 4043, available here) estimates the relationship between the quality of UK universities and earnings of their graduates. From the abstract: "We examine the links between various measures of university quality and graduate earnings in the United Kingdom. We explore the implications of using different measures of quality and combining them into an aggregate measure. Our findings suggest a positive return to university quality with an average earnings differential of about 6 percent for a one standard deviation rise in university quality. However, the relationship between university quality and wages is highly non-linear, with a much higher return at the top of the distribution. There is some indication that returns may be increasing over time."

Of course, these findings present a much expected dilemma for Irish education system. Over proliferation of degrees-issuing organizations: from ITs to various private colleges and state support for increasing the quantity of graduates and post-graduates produced by our education system have done nothing to improve the quality of degrees in Ireland. With only 3 universities making it into top 1,000 world rankings, Ireland is hardly in the league of top performance by the quality of our research or post-graduate supervision. With less than 1/2 of the top professorial staff actually teaching students, we are not in the top league of teaching either. What have we been paying for over the last 15 years when it comes to the third level education?


Good & Bad Volatility: Before news, a quick note for those of you who are interested in academic finance. Per materials I have covered in my recent MSc course on Investment Theory, here is an interesting study of volatility designed to deal with the issue of skewness. The author argues that asymmetric nature of distribution of conditional returns (skewness) is predicated on the existence of two different dynamic processes underlying volatility of returns. In other words, the author tests whether positive returns volatility and negative returns volatility are driven by different dynamic processes. Good read.

Here is another interesting paper, from different field: "Do More Friends Mean Better Grades?: Student Popularity and Academic Achievement" from RAND looks at 'peer interactions' (socializing) role in student academic achievement. The results indicate that, controlling for endogenous friendship formation results in a negative short term effect of social capital accumulation. In other words, social interactions crowd out activities that improve academic performance. Who would have thought that hanging out at frat parties, attending football matches and going out boozing were supposed to be good for academic achievement in the first place, you might ask? The paper has tons of references to the studies that actually claimed this to be the case...


Thin newsfront today due to Easter break, but the US markets have started another week of the ongoing prolonged (some would say overextended and overbought) rally with a small correction. Despite ending trading in the negative, the markets held firm above 8,000 mark - psychology in action. So it's a 'green shoots' theme for now.

Goldman Sachs reported some good results on higher earnings and revenue and announced commencement of a $5bn common shares issue. GS has been a relative out-performer for the sector since the beginning of the crisis. GS said net earnings to March 31 were $1.8bn ($3.39 a share), compared to $1.5bn ($3.23 a share) in the same period a year earlier. This beats (by 2:1 margin) the analysts forecasts. Analysts expected earnings of $1.64 a share, according to Thomson Reuters data. Revenue net of interest expense rose to $9.4bn from $8.3bn. It is hard to estimate how much of this increase came from lower interest rates and access to preferential (TARP etc) lending. GS said that it intends to use proceeds of the $5bn shares issue to help redeem "all of the TARP capital." Good news indeed.

Wells Fargo & GS however are not enough to convince me that we are in a bounce off the bottom. Rather, it looks to me like a cyclical bear rally is upon us, driven by the simple shift of liquidity out of fixed income, commodities and cash and into equities. Thus, the volumes are starting to fall and it is worth tracing this dynamic:
most importantly, see the volumes. Needless to say - once the support folds, liquidity will outflow from equities and the new rally momentum will move onto commodities (assuming the 'green shoots' are still green) or to fixed income (should corporate reporting season turns out nastier than we expect).

And this view is pretty much coincident with the macro outlook predicted by Lary Summers (here): "I think the sense of a ball falling off the table -- which is what the economy has felt like since the middle of last fall -- I think we can be reasonably confident that that's going to end within the next few months and you will no longer have that sense of freefall," said Summers, director of the White House National Economic Council. The recovery is likely to be slowed by "substantial downdrafts" in the economy. "Economies don't go from losing 600,000 jobs a month to a terribly happy path overnight."


Russian markets rally and this means inflation is just around the corner... Yes, I do mean Inflation West of Oder, not in Russia. How? Russian stocks advanced to a five-month high last week, driven by investors taking inflation hedge against oil price increases. RTS index closed up 6.6% at 810.90, breaching 800 mark for the first time in almost 5 months. Ruble-denominated index Micex also rallied. The latest rally brings overall annual gains to 28% since January 2009, beating by 16 percentage points global MSCI emerging markets index. Two big gainers were: state-controlled OAO Sberbank +12% on the strengthening of global finance shares and the largest independent oil producer OAO Lukoil +6.7% on the back of price of oil consolidating above $50pb.

French Leafs of Green? I am less swayed by the claims that the French economy is starting to show signs of stabilization (see the story here). Why? All the data underlying the claim is related to industrial activities that experienced significant - extraordinarily deep - contractions in recent months. A technical bounce is long overdue and signals nothing in terms of bottoming-out. In addition, French data usually is less volatile than that of the US, simply due to significant persistence around the trend. This means shorter falls and smaller rises, shallower recessions that are more prolonged. Timing-wise, I would not anticipate France to come out of the slump before Germany and Germany will lag the US. The former conjecture is simply based on the lack of investment capacity in France internally and the lags in investment inflows into France relative to the US and BRICS. The latter conjecture is based on the nature of two economies - US growth will restart once US consumers de-leverage (a process that is underway for some time now), German economy will restart when foreigners start buying luxury durable goods. This, in turn, cannot take place before the US consumers recover their demand for smaller consumption items...

Daily dose of fun... Courtesy of www.TheDailyStuff.ie is the following test for budding photo journalists out there: You are on an assignment to photograph flood-striken Dublin.
You shoot Sandymount and waves spilling onto the strand. Liffey waters raging to the bay.
You see a man swept by the current, rushed out to the sea ahead. You suddenly realize who it is... It's Brian Cowen! You notice that the raging waters are about to take him under. You think to yourself, you can save the life of Brian, or you can get a Pulitzer Prize winning photo.

QUESTION and please give an honest answer: Would you select
(A) a high contrast colour shot
or (2) a classic black & white?


More to come later...

Daily Economics 10/04/09: Rappers want Euros

Taxpayer champions?
An excellent argument by David Quinn on the need for someone to step out of the shadows and become a taxpayers champion (here). FG to the front, suggests David. Most likely. But in the end, in my view, even Sinn Fein will do? Or a backbenchers'-led revolt in the FF. The country is now at its knees and the ZanuFF's leadership is so out of touch with reality, Cowen is telling us - private sector workers battered by unemployment, wage cuts, higher taxes and unbearable debts - that public sector employees know pain endured by the economy first hand. "I believe that the reality of the crisis we face as a society is particularly evident to public servants who are dealing at first-hand with the consequences – personal, social and economic – of our current difficulties,” said our out of touch leader (here). Tell me Brian - how? Through their jobs-for-life, strike-for-any-reason, guaranteed-pensions, increments-wage-rises, Partnership-giveaways, excessive-holidays, take-your-time-to-do-anything positions?


Consumer prices... deflation is of little help to the consumers: Per yesterday's figures on Irish CPI, see my comment in today's Irish Independent (here). And a quick comment to the Wall Street Journal from me relating to the latest Gov plan for a 'bad' bank (here).


And Gerard O'Neill has an excellent post on Partnership (here). Stockholm Syndrome at the IBEC and:
"Oh, I forgot: there's the Enterprise Stabilisation Fund - a grand total of €50 million this year. Let's work it out: say there's 1,000 companies eligible for support (about par with the numbers Enterprise Ireland works with every year). That equates to €50,000 in support - or stabilisation - for each company. Jaysus lads, this time next year we'll be millionaires..."
Actually it is even worse - of the €50mln, only €25mln is in new allocations to DETE, the other €25mln is coming from somewhere else - already in existence. And there was no support for export credits - a mad lunacy of the Government that is willing to waste billions on bad developer loans, but pinches an odd €10mln to provide short-term credit to companies with exports waiting at the dock and willing buyers on the other end. Instead of this virtually risk-free financing, we have the net 'stimulus package' is €25mln - a slap in the face to private sector Ireland and a clear indication of the arrogance and incompetence at the head of DETE.


A solution at hand for Cowen, Lenihan and Coughlan... Here is an excerpt from the post (here) by a celebrity masseuse, Doctor Dot:
"Tonight... I massaged the best looking President on earth, Mikheil Saakashvili... He is the President of Georgia and super fun to talk to. He originally wanted only a 30 minute massage but 90 minutes later, he told me my massage is "the best massage I have had in my life so far". Mikheil had body gaurds [sic] outside the massage room the whole time, who were all over 6 feet tall and like 4 feet wide. One spoke English really well and told me his favorite group is Metallica. Ha. He said "I am a rocker!" so we got along fine, whilst waiting for the President to finish his work out. I was excited to finally get to massage a President. I have massaged the Prince of Saudi Arabia before and a few Mayors, but this was the first President for me."

Thus we have a prescription to presidential joy: get your economy demolished, country demoralised, make some spectacularly disastrous decisions across the board, appease your cronies, get your country into debt to the EU and then, get a massage...

Doctor Dot, we have three Saakashvilli equivalents here in Ireland - not as good looking and with less pleasing body guards, but otherwise, even more spectacular disasters... Massage sessions on taxpayers' bill?


Inflation cometh... Here is an excellent recent blog post from Marc Faber on the issue of upcoming inflation (and a related blog here). I've spotted the risk a while ago (here), so I am happy to report that we are now seeing more and more commentators beginning to concerns themselves with the obvious problem: where can all the liquidity that the Fed and other Central Banks are pumping into the global economy go. From the point of view of the long-term policy consistency for the Irish Government, this is a proper conundrum.

Having raised taxes in 2008-2009, what will Brian do when we have externally imported inflation hammering households, the ECB hiking rates killing off scores of Irish homeowners and we have no control over tax levers (because we have borrowed so much that rising interest rates will simply make it impossible to cut tax rates as the inflationary spiral uncoils)? Oh, I get it - he will simply remind us all of our patriotic duty to keep paying his wages.


Hopes are rising?.. No, not in Ireland, but my hedge funds networking group website has been inundated with jobs offers - sales, technical, trading etc - from US headhunters. For the first time since early 2008, the usual daily page of posts has been dominated not by 'distressed assets for sale' or 'looking for a position' memos, but by jobs offers. May, just may be, should jobs situation abroad stabilise, by the mid 2009 we will have that Irish solution to an Irish problem - emigration - becoming available to Irish financial sector professionals. Then we'll truly arrive in the 1980s scenario.


On the US data: Yesterday's data from the US is painting an interesting, and cautiously encouraging picture.

First, the jobs front. First-time claims for unemployment benefits fell a seasonally adjusted 20,000 to 654,000 in the week ended April 4. The level of first-time claims is 83% higher than the same period in 2008. The four-week average of th2 initial claims fell 750 to 657,250. However, for the week ended March 28, the number of people collecting state unemployment benefits reached yet another new record, up 95,000 to 5.84mln - double the level in 2008. Per Marketwatch, "continuing claims have gained for 12 consecutive weeks, and have reached new weekly records since late January." The 4-week average of continuing claims was up 146,750 to a record 5.65mln. The insured unemployment rate - the proportion of covered workers who are receiving benefits - rose to 4.4% from 4.3%, reaching the highest level since April 1983. All of this signals that while the new unemployment may be bottoming out, workers are not seeing an increase in new jobs availability. Of course, unemployment itself is a lagging indicator relative to, say, capital investment. Inventories declines, posted in recent days, have probably more to say about the underlying dynamics, signalling potentially a flattening of the downward trend in economic activity.

Corporate earnings... Two major corporates announced pre-reporting updates last night. Wells Fargo & Co surprised the markets yesterday with the Q1 2009 earnings note claiming that earnings will rise to $3bn - ahead of analysts forecasts - on the back of falling impairments and rising mortgage lending. Earnings figures were quoted net of dividends on preferred securities, including $372mln due to the Treasury Department. Analysts expected earnings of ca $1.94bn.

Total net charges will be $3.3bn, compared with Q4 2008 net charges of $2.8bn. Wachovia - purchased by Wells Fargo on December 31, 2008, will see net charges of $3.3bn. Provisions will be about $4.6bn in the quarter compared to $8.4bn in provisions during Q4 2008.The news drove US financials to significant gains yesterday as the markets were delighted to see the bank finding a way of generating profits out of free Federal money it received. Who could have thought that possible.

Aptly, US stocks jumped higher across the board, with the Dow Jones Industrial closing its first five-week stretch of gains since October 2007, rising 246.27 points, or 3.1%, to finish at 8,083.38, up 0.8% for the week. The S&P 500 added 31.40 points, or 3.8%, to end at 856.56, a 1.7% rise in the week. The Nasdaq Composite climbed 61.88 points, or 3.9%, to 1,652.54, a weekly rise of 1.9%.

But there were some side-line noises from the real (i.e non-financial) side of the US economy when Chevron and Boeing issued earnings warnings on the back of lower oil prices, high production costs and falling demand for aircraft respectively. No free money from the taxpayers in their sectors has meant that the real economy continues to push lower.

World's new reserve currency... We have arrived - the Euro is becoming a reserve currency. The dollar is toast per BBC's latest report (here). And no, Euro's gains are not just in the market for Russian mafia wealth (remember those €1,000 bills issued in hope of diverting some of 'cash' reserves away from dollars). In fact, it is well diversified. As BBC reports, for some time already there has been a strong movement of US rappers out of dollars into euro. And there has been growing trade in services for euro-based money laundering by the drug cartels. At last, the hopes for a reserve currency challenge on the dollar are being realised.

I am of course being sarcastic - a disclaimer I have to put up for all Brusselcrats so concerned about any criticism of the euro. But to be honest, do we know how much of the EU paper been stuffed into the black markets? Seriously: rappers, mafia, drug barons... and Chinese Government - all think euro is the best thing since sliced bread... we've arrived.


And here is the latest take on the Budget (hat tip J):

A tale of a missing bonds rally

US markets have seen some strong rally momentum in recent days. Here is a good piece on bond markets in the US.

"If there really are signs of financial recovery, nobody told the bond market. Treasury Secretary Timothy Geithner's plan to rescue the financial system sent the S&P 500 soaring 7% on Monday alone, bringing its gains from March 6 to an impressive 19% through Wednesday. But credit markets have hardly budged. Corporate debt is still priced for disaster... Until investors recover confidence in financial assets, credit spreads are unlikely to tighten significantly. And without a sustained improvement in the credit market -- the seat of the crisis -- it seems irrational to expect a durable move higher in equities."

Yes, pretty much on the money. Here's how the numbers work: in my post on personal income by states - California is overdue a democratic party payoff and it will come, so the municipals markets and TIPS are going to be a good bet for some time to come. But the stock market is running too hot on absolutely nothing new - US Treasury's latest plan is a net transfer to
shareholders, which, obviously, first reduces any possible haircuts for bondholders, thus giving a fundamentals support to bonds ahead of shares.

What does this mean? If shares rises in the last 20 days is justifiable by fundamentals, there
should be at least a noticeable rally in bonds (although not as strong as in stocks, since bonds have already priced in all seniority over equity, thus a boost to equity holders yields is not going to be translated into 1:1 gains on bond prices).

My estimate would be as follows: for a 19% rally in equities, were the new valuations to set a new 'floor', we we will see a 5-6% gain on equity yields (including cap gains) over the next 3 years.

This would imply a yield differential compression to comparable corporate bonds relative to underlying equity. Assuming average yield differential for equity relative to corporate bonds of 8-10% in favour of bonds prior to equities rally, our post rally differential is ca 7.5-9.5% range. So bond prices have an upside potential of ca 16%. This is just straight math.

Now, take a cautious assumption that a part of equity rally is due to a fall in the perceived risk of default on equities (the recovery rate priced in CDS stays put, but expected recovery rate rises). Say 1/2 of the rally is just that. Then, price upside on corporate bonds is in the regions of 8-11%, holding YTM fixed. Until we see at least such a movement, the equity markets are overshooting the floor. And they are doing so pretty dramatically.

Daily Economics Update 22/03/2009

So we are in a rally, at least in the US.
Financials are again in the lead, as chart below showing.10-year treasuries rise, dollar falls
What can one expect from a relatively rational(ized) market when it is faced with a renewed $1trillion push of cash into draining the toxic pool of mortgages-linked securities.

The DJIA ended gaining 6.84% to close at 7,775.86, the S&P 500 closed at 822.92 (+7.08%), the Nasdaq Comp ended the day at 1,555.77 (op 6.76%).

A friend - high up in international finance - asked me again if this is a sign of a thaw. I again said, it is not - just a rational reaction to a massive push on the dollar. Real values are not changing much, but what is happening is the wholesale repricing for the dollar to reach 1.45-1.50 to euro once again. Here is an illustration of why I am still not buying the permanent rebound hypothesis (courtesy of dshort.com):
What about the Geithner Plan (GP)? Well, whatever one can say about it, words 'original' or 'innovative' are not something that comes to mind. It falls short of a nationalization and nationalization is what will probably be needed. Not a wholesale take over, but certainly not a 20% equity take by the Feds in exchange for a 97% capitalization, as the GP envisions.

Financial services lap-dog economists loves the thing, though. For example, one senior economist from Wells Fargo claimed that the plan "will go a long way toward getting banks... to lend more aggressively and break the deleveraging feedback loop" now in place. This is the lunatic asylum stuff, for it assumes, without even stating so much, that there are hordes of willing borrowers gathering just outside the banks doors. And it further assumes that deleveraging is bad. Given that the whole mess was brought upon us by the excessive leveraging in the first place, either I am losing my mind, or the entire world is now rushing head on to create a new bubble in place of the old one.

The main problem with GP is that it comes on top of the TARP and a host of other asset-purchasing arrangements. Now, all were offering lenders some set of prices for distressed assets. These prices were set arbitrarily high to incentivize the banks to unload their troubled loans. But clearly, TARP was not sufficient, so the GP will have to set prices even higher - at some premium to TARP to further induce the loan holders to part with their distressed paper. And here is a catch. Since inception of TARP, the quality of the loans still on the books in banks have fallen - steadily and rather rapidly. Will this imply that investors are now being incentivized to bid for loans at a price above their true market value? Of course it will and this is precisely why the Feds are offering the bidders a 97% financing package in return for 80% equity in the loans purchased, with Federal financing done on the back of non-recourse loans (loans that are collateralized against the value of the securities purchased alone).

The GP will in effect act as a subsidy to the banks. Hence that nice climb in banks shares in recent days. Geithner's idea is to have a free lunch served to the banks today, for which the taxpayers will pay tomorrow and the restaurant staff (the investors) will get paid a day later. It is, as the Calculated Risk blog puts it, "a European style put option - it can only be exercised at expiration. The taxpayers will pay the price of the option in the future, the investors receive any future benefit, and the banks receive the current value of the option in cash. Geithner apparently believes the future value will be zero, and that is a possibility. If so, this is a great plan - if not, the taxpayers will pay that future value (and it could be significant)."

Note to the Derivatives students: this could have made a good question for exam...

On a somewhat more positive note: sales of existent homes were up 5.1% in February. Although this figure - the largest percentage gain since July 2003 - (a) comes after a 4.6% contraction in yearly sales and (b) was the result of deep price discounts (especially due to rising tide of foreclosures and short sales that accounted for 45% of all transactions), sales rose in all regions. Full 65% of the potential buyers expect the market to bottom out within the next 12 months.

Inventories of unsold homes - once again a sign of deepening foreclosure pools - on the market rose by 5.2% to 3.80 million, equating to a 9.7-month supply at the February sales pace. Although seasonally inventories usually rise ca 5% in February, this time around the increase came after a prolonged period of stalled construction activity. In other words, there is little reason for rising new inventories other than an acceleration in forced sales and foreclosures.

In fact, just as the subprime tsunami recedes by May-June 2009, the next wave of homeowners defaults is about to start hitting the US markets, as the following two charts (sourced here and here) illustrate: