Editor’s Note: In this series of articles, we include important or interesting videoclips with our comments. This is an article that expresses our personal opinions about comments made on Television and in Print. It is NOT intended to provide any investment advice of any type whatsoever. No one should base any investing decisions or conclusions based on anything written in or inferred from this article. Investing is a serious matter and all investment decisions should only be taken after a detailed discussion with your investment advisor and should be subject to your objectives, suitability requirements and risk tolerances.
1. The Awful Non-Farm Payroll Number
We won’t waste ink on the details of this atrocious number. The U.S. economy added ZERO jobs in August. Enough said.
2. Do European Politicians Have to Leave Europe To Speak or Act Honestly?
In the 1980s, people asked routinely whether Indians have to leave India to become successful. That was when India followed the socialist model, when companies were what produce and in what quantities. At that time, even awful Indian organizations like Indian Railways built and managed efficient entities outside India. As a result, India became nearly bankrupt by 1990. Then reforms were introduced, regulations were liberalized. We bring this up simply to illustrate that our title has nothing to do with ethnicity or location.
We thought of this title as we witnessed the transformation of Christine Lagarde. Ms. Lagarde was the Finance Minister of France until she became the head of the IMF. She demonstrated her transformation at Jackson Hole when she urged a recapitalization of European Banks, a Euro-TARP if you will.
What we call transformation, the Europeans called betrayal. The European Elite were outraged. Everyone from Ministers, ECB Officials, to Bankers like Josef Ackerman, CEO of Deutsche Bank, rejected Lagarde’s call.
So the European crisis will simply go from bad to worse until something breaks. That break could hopefully come from Trichet if he lowers interest rates swiftly or aggressively. Or it could come from a problem with the Greek bailout. It could also come from the German courts who could simply rule against EFSF.
For a depressing view about Europe, we point to a summary by CNBC’s Bob Pisani of the views of Hans Joachim-Voth, an economic historian. Mr. Voth expects anarchy in Europe due to austerity and he gives the Euro another five years. He expects Germany to leave the Euro.
3. The U.S. Stock Market, Bond Market, Gold & Currencies
Before one could feel relieved about the end of the awful August, the September decline began. The news on Friday was awful and the decline in stocks seemed rational. But as gloom swept over Financial TV networks, we wondered whether the decline was modest compared to the news.
The stock market had rallied about 100 S&P points in almost a straight line. So a serious correction was inevitable. Is the September decline a beginning of a serious new down leg or is it a correction of a volatile move up from the capitulation of about 2 weeks ago? We don’t know but at this stage we are inclined to favor the latter.
Gold again rose like a phoenix from its last week’s outside day reversal. It closed up over 3% on Friday. What will it do next week? We don’t have a clue.
The Treasury market closed this week with a spectacular rally. The 10-Year Treasury closed, we believe, at a new low yield level breaking below the closing low yields in December 2008. The shorter part of the curve also closed at record low yields. The outlier was the 30-year which still trades at a yield much higher than its December 2008 low.
What about Corporate Bonds? Almost everyone on CNBC told viewers to buy Corporate Bonds because Treasury yields are so low. One prominent asset allocator disagrees. The track record of Richard Bernstein demands that you listen to him in clip 2 below.
4. Prospects for QE3 or Operation Twist
A couple of months ago, David Rosenberg (that’s why we describe him as prescient) wrote that the Bernanke Fed would probably bring back Operation Twist, a relic from the 1960s. In this “Twist”, the Fed would buy long maturity Treasuries and sell or let its short maturity Treasuries mature. This would be a direct exercise in bringing down long maturity Treasury yields and flatten the yield curve.
Mr. Rosenberg, as we recall, said that the goal would be to bring down mortgage rates to such a low level that housing would “inevitably” improve. At that time, Mr. Rosenberg also argued that Chairman Bernanke would prefer to keep the 30-year yield high, perhaps because the Pension Funds need that high yield and perhaps because the 30-Year yield is not as material to mortgage rates as the 10-Year yield.
As an aside, we desperately hope that Chairman Bernanke understands, understands well that low mortgage rates are worthless unless homeowners can refinance without putting up any additional capital. So we wonder whether President Obama is going to announce a no-questions-asked refinancing option for homeowners who hold Fannie Mae, Freddie Mac mortgages. If he does, then Chairman Bernanke can announce Operation Twist at the Fed meeting on September 20. Such a quick & easy refinancing program would put several hundred dollars in the pockets of homeowners. It would also reduce the value of mortgages held by Fannie Mae & Freddie Mac and create far greater losses for these quasi-government entities. Is that another reason why, we wonder, FEHA sued the 17 Banks on behalf of Fannie Mae and Freddie Mac on Friday?
The Treasury market agreed with half of what Mr. Rosenberg had argued. Operation Twist was the rage on Friday as the 10-year yield plummeted below 2%. But the real action was in the 30-Year Treasury which rose by over 2 & 1/2 points with its yield falling by 13.5bps. The Treasury market apparently believes that the Bernack would also buy the 30-Year Treasury in his QE3. It could also be the normal reaction of the Treasury market to an economy sliding towards recession.
We have argued that the 30-10 year yield spread has been abnormally high since the launch of QE2 last year. This spread, which has almost always been below 100 bps, climbed above that major level and has remained above it since QE2. So is the flattening of the yield curve due to Bernanke’s potential purchases of the 30-year Bond or is it due to QE3 prospects being reduced by the markets? We do not know.
David Rosenberg reminded Bloomberg’s Betty Liu on Friday that “while Bernanke is aggressive, he is never early.” In other words, Rosenberg expects some form of QE3, an aggressive QE3-type effort but not just yet.
If you think the Fed is a political animal, then you should read what Rick Santelli said on Friday morning:
- My own opinion is there will be no QE3….I think you could argue or debate how politics influences the Fed, how the Fed affects the public, but I think that in this political atmosphere we’re in, if the Fed does QE3, I think they will place themselves squarely in the middle of some major issues regarding the platforms that will drive the election. I don’t think they are into that.
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5. FHFA Sues 17 Banks over Losses in Mortgage Securities
In an Alice in Wonderland type of a tale, the Federal Housing Finance Authority sued 17 Banks claiming that such mortgage securities were misrepresented by the Banks who sold the securities to Fannie Mae and Freddie Mac. The claim that Fannie Mae and Freddie Mac didn’t understand the mortgage securities they bought seems wildly ridiculous to us. Presumably, FHFA is doing so because the statute of limitations runs out on next Wednesday, coincidentally the day before the big Jobs speech by the President.
Rick Santelli thought it was nuts as well and described it as “picking the scab off before the wound heals“. For a longer set of comments about this lawsuit and its impact, see clip 3 below for Dick Bove’s interview with Bloomberg’s Margaret Brennan.
But wait a minute. We got an idea as we were writing this subsection. Imagine the next Fed Chairman suing all the Investment Banks in a few years because they “misrepresented” the Treasury securities they sold to the Bernanke Fed during QE2. This can be done when interest rates are higher (are we ever going to be so lucky?) and the Fed is generating huge losses in its massive Treasury portfolio.
6. Prospects for a Recession
David Rosenberg told Bloomberg’s Betty Liu on Friday:
- “I don’t think at this stage there is a lot the Fed can do to prevent a recession from happening.…We don’t have the fiscal policy bullets like we had a few years ago, and at the same time interest rates are zero”.
- “We’ve reached a stall speed in the economy, not just in the U.S., but in the euro zone and the UK. We see probably a 60% probability of recession next year and unfortunately we’re running out of policy tools. Every country is doing fiscal austerity and there will be a fiscal drag. The ability to backstop the banks is now impossible because of political constraints and sovereigns cannot bail out their own distressed banks because they are distressed themselves”.
- “I don’t see a global recession in the sense that Emerging Markets, which account for about half of the global economy, are still gonna grow robustly”.
- “That’s an open question, It has has been persistent but it has not been pronounced enough for us to make a recession call…We can’t rule one a recession out, I would rather rule one in…….we now have slow growth and high turbulence = more recessions….”
- “…in the near term, there is nothing…I am sorry but that is the truth….policy can do a lot, medium and long term….. but the moment to act on a cyclical basis is not today, it was last spring“.
One prominent guru disagrees with the above recession calls. Richard Bernstein told CNBC’s Steve Liesman that he sees “at best a 25-30% chance of a recession“ (see clip 2 below).
7. Now the Political Season Begins Again:
The comments by Rosenberg, Roubini and Achuthan that very little can be done now to avoid a slowdown are important to markets. But these are likely to be completely ignored by the Obama Administration. To acknowledge that he should have acted differently last year and to admit that there is very little he can do now would be politically suicidal.
So we expect an overdose of rhetoric, and announcement of plans that are likely to generate intense opposition by those who argue fiscal conservatism. The political temperature will rise. TV anchors will play the blame game while pretending to preach the virtues of compromise and the need to work together.
The reality is that there are two separate views about the future of American society. One is what President Obama, self proclaimed “progressives” and transfer of wealth proponents want. The other is a view that society should spend responsibly and within its means, a view that argues that prosperity is to be achieved by one’s own hard work and such prosperity has to be guarded from profligates.
To our simple way of thinking, these two views are polar opposites. There is no middle ground here. A compromise is simply postponing the inevitable. We have seen how well Europe has done by procrastination. This struggle will reach its conclusion next November. Until then, let the cannons fire.
This is essentially what Sean Egan of Egan Jones said on August 9 on CNBC. It is what Pimco’s Tony Crescenzi said on August 10 on CNBC. This week, Rick Santelli said it with patriotic passion. See clip 6 below for Rick’s own words. Here is a brief excerpt:
- Hey Sully, when they were writing the Constitution or Declaration of Independence, do you think it was all meetings with please and thank you? I‘m sure by today’s standard, it would have been called nasty and a bit ugly. Nasty and Ugly to Americans is okay. We’re not Europe. We have a very thick skin here, but I think the media needs to figure this out. Alcoholics anonymous is not the nasty part. The addiction is. Get it right, guys
8. Kudos to Bloomberg TV
Friday, September 2, was an important day for the markets. Normally CNBC does a good job covering such days. But this Friday, Bloomberg TV literally blew away CNBC in the morning. The Bloomberg shows with Margaret Brennan and Betty Liu (lnac, remember) did a far better job than CNBC’s morning shows. Their shows were more focused and their guests were must watch. But apart from Steve Liesman and Rick Santelli, there was virtually no reason to watch CNBC Friday morning.
We saw a similar outperformance the day the “Lloyd Blankfein retains Weingarten” story broke. Almost immediately, Bloomberg’s show with Carol Massar and Matt Miller featured three different interviews with attorneys while CNBC did virtually nothing.
We like CNBC’s entertainment aspect but come on CNBC, your main purpose is to cover stories and add investment value.
9. The Australian View On CNBC
Some time ago, CNBC invited Amanda Drury from Australian CNBC to anchor its shows in America. This week, Oriel Morrison from CNBC Australia made her appearance on US CNBC. Now if CNBC gets Karen Tso to join her ex-colleagues, CNBC can launch their own version of The View, an Australian View, a visually consistent View, if you will. This is a highly positive comment, in case any one has doubts. And it has a purpose.
This little segue way allows us to introduce our own ideas for integrating Australian talent into the American dream. Read our main article of today – How Does America Break Out of This Slump – Here’s How!. You could consider it interesting or you could attribute it to the influence of single malts on a Friday late evening. We would accept either.
Featured Videoclips:
Our zero level clip is Bob Pisani’s look at Ground Zero Rebuilding. The other clips are as below:
- Charles Evans with CNBC’s Steve Liesman on Tuesday, August 30
- Richard Bernstein on CNBC Squawk Box on Tuesday, August 30
- Dick Bove on Bloomberg’s InBusiness on Friday, September 2
- Nouriel Roubini on Bloomberg’s InBusiness on Wednesday, August 31
- Bill Gross on CNBC’s The Kudlow Report on Tuesday, August 30
- High Noon at CNBC Strategy Session on Friday, September 2
0. Ground Zero Rebuilding – CNBC’s Bob Pisani reports – Friday, September 2
September 11, 2001 is a day we will never forget. We had to walk uptown from the corner of Broad & Water in downtown NYC. We can still see the faces of people who walked with us, of people who came down from their buildings to give water to us walkers.
This is a clip for those who remember that day. Bob Pisani says at the beginning of this clip “ I cannot tell you how wonderful it is to see that freedom tower finally poke through the skyline.” He is so right.
This is a feel good clip. Watch it.
1. It’s Very Surprising... – Charles Evans with CNBC’s Steve Liesman – Tuesday, August 30
Chicago Fed President Charles Evans spoke with CNBC’s Fed Watcher Steve Liesman (sort of like Kremlin watchers of the 1970s) and created real news. Speaking personally, this one conversation has done more to damage the Fed’s credibility than anything said before.
Scott Wapner of CNBC asked a straight question (minute 03:07 of the clip):
- Mr. Evans, let me ask. You say we would be so much worse off without QE2. Those were your words this morning with Steve. How do you reconcile that against the view of some that Fed’s actions created not only a commodity bubble but inflation around the globe that may, in fact, have hurt the recovery?
- you know, I think that it’s very surprising that anybody could characterize that as a bit of accommodation that the Fed supplied..
- when you look at China and India, emerging markets, over a billion people are coming online putting pressure on scarce resources, they are building their infrastructure in China, putting tremendous pressure on commodities and energy in a way that small moments in monetary policy could not even possibly have that effect. I mean, remember, let’s think about what this argument is. on one hand we get criticized because monetary policy isn’t effective enough to do anything. other hand it is effective it can create oil prices over $100. I struggle to under that. then we had agriculture issues, droughts in Russia, earthquakes. the list goes on. it’s an extraordinary period of time. and to find evidence of monetary policy could have influenced all of that. I don’t find it compelling.
Mr. Evans also demonstrated that he does not understand the central criticism against QE2, that it did nothing to improve the US economy and instead raised commodity inflation globally. In fact, he laughed at this dichotomy.
The only conclusion we can draw is that Mr. Evans does not understand today’s globalized world in which China maintains a dollar peg. Therefore, he does not understand that any liquidity created by the Fed is first transmitted to China and Emerging Markets rather than in the US. And this liquidity first creates inflation globally, commodity inflation in particular, which enters the USA in the form of higher gasoline and food prices and hurts American consumers, thereby damaging the American economy and defeating the Fed’s central purpose.
This is the scariest moment in our Fed watching experience. It is the clearest evidence that voting members of the FOMC Committee have no clue about how markets function. They are just as ignorant as the members of the Japanese Ministry of Finance were (& perhaps still are) in the past two decades. No wonder US Treasury yields are following the path of Japanese Government Bond yields.
For the complete text of the comments of Charles Evans interview, see the Transcript on CNBC.com.
2. Fed’s Naivete! – Richard Bernstein on CNBC Squawk Box – August 30, 2011
We heard this clip after we wrote our comments about the first clip above. May be, that is why we like Mr. Bernstein’s views so much. His is a great mind, ours is probably at the other extreme. But our views tend to be congruent.
Mr. Bernstein’s views of the Fed:
- ..I have been amazed, shocked, however you want to call it, for the last decade at what appears to be the Fed’s naivete in terms of how monetary policy affects the financial markets. This goes back to Alan Greenspan when I was at Merrill, we used to write about this all the time and they really don’t appreciate how monetary policy affects the global financial markets.
- The Fed’s outlook is if we lower interest rates, we will get people to take risks. They don’t talk about which economy. Remember they are the risk free rate, the Fed sets the risk free rate for the global markets. There is no guarantee that by lowering interest rates in the United States, that will affect the US economy. In 2003, I wrote something when the Fed brought Fed Funds to 1%, unheard of at the time, I said that is probably going to do more for the Chinese Economy than it will for the US economy.
- ..This is not a monetary issue, it is a fiscal issue….the point being Can we solve a monetary bubble with monetary policy? The Answer is No.
- I think everybody in Washington has been accommodative. I think the problem is targeting it. Again, I think Washington thinks, monetary & fiscal policy, that we are a closed economy and that’s the way they form things. If you really want to get the economy going, you target the fiscal policy to the domestic 50 states.
- I still like the defensive stuff, Staples, Utilities, Health Care, Treasuries, Developed Markets over Emerging Markets
- Oh yeah, I have been a fan of Treasuries, I am still a fan of Treasuries. It is the only diversifying asset class. They have a negative correlation with traditional equities. I think you want to hold them from a diversification point of view. I am not sure you want to own them if you are just interested in yield but if you are still interested in total return, there is still a reason to hold Treasuries. Although I can make the argument that stocks are attractive as well. I really like US assets. I think the risk is outside the US.
- I say 25-30% we will have a recession. But I would have said that before too.
- It makes no sense to me to overweight corporate bonds within a well-diversified portfolio. If one thinks that corporate bonds are going to outperform treasuries, then one should simply buy stocks, in my view. If one thinks that stocks will continue to correct, then treasuries will likely give more protection to the portfolio than would corporate bonds.
3. Banks as Tobacco & Asbestos Companies? – Richard Bove on Bloomberg’s “InBusiness with Margaret Brennan” – Friday, September 2
Richard “Dick” Bove is a constant presence on Financial TV. He is almost always an entertaining speaker, not in the class of Marc Faber of course, but an interesting listen. We often disagree with Mr. Bove. In this case, he is right in our opinion. In this clip, he speaks with Bloomberg’s Margaret Brennan, Dominick Chu, Jon Erlichman & Adam Johnson (our dedication to lnac or last name alphabetically chronological correctness).
Mr. Bove addresses the lawsuit by FEHA against Banks for “misrepresentation” of securities originated by Banks and purchased by Fannie Mae and Freddie Mac. We thank Ms. Brennan and Bloomberg PR for sending us the detailed summary below (emphasis below is ours):
On the possible price tag attached to this law suit:
“The price tag is unlimited. Basically, we can look at Fannie Mae and Freddie Mac and say they’ve lost $33 billion, supposedly, as a result of buying these bad mortgages, and therefore, those losses should be put back to the banking system. But in essence, if we establish the precedent that anyone can sue a bank if they get a mortgage that doesn’t work out, and there were $5 trillion of mortgages that were securitized through this Fannie-Freddie system over the past number of years. I have no idea how many people would sue, nor how much the courts are willing to give back to these companies and take away from the banks. It’s a very, very negative development.”
On the size of the losses attached to securities sold to Fannie-Freddie:
“It could presumably jump to $53 billion. I don’t think it will, but conceivably it could. Then you’ve got the $20 billion from the state attorney general settlement, if it occurs, the $10 billion that AIG wants, then you’ve got the $900 million that is being asked from U.S. Bancorp. And then you have J.P. Morgan saying it has 10,000 lawsuits against it seeking redress on mortgages.”
“We’re in a situation similar to the tobacco companies or the asbestos companies. We’ve opened up an unlimited amount of money that could be sued against the banking industry, and of course, we don’t know how much of the suits are going to be, we don’t know who is going to win what.”
On bank stocks valuation:
“If in fact all that cash gets taken away in these lawsuits, you are crashing the American banking system. If you make the assumption that all these suits are going to be put in place and they’re all going to be won, then you’re going to wipe out the capital of the American bank industry, you will wipe out the American economy. What is the difference, if you own Apple or Bank of America, you’ll be in deep trouble?”
“The probability of that happening is very low. The cash hoards right now in the banks are so great that they can afford to take on the lawsuits and they can afford to deal with them.”
“The issue is, if you want to attack the capital of the banking industry, first under Basel III you’re saying all the banks in the United States are undercapitalized and they’ve got to have more capital, and then you sue the banks to reduce that capital further. What are the banks going to do? The banks are going to protect their capital by shrinking balance sheets, increasing liquidity, getting rid of loans, firing people and reducing their impact on the U.S. economy. They’ve been doing that since 2008 and apparently there seems to be a desire for that to accelerate that process.”
On whether U.S. banks or European banks are better off, given the legal pressures in the U.S.:
“I think the American banking industry is a much better condition, because the key problem in Europe is that these sovereign nations are incapable of paying their debt and the banks in Europe have refused to mark-to-market the value of their assets, which means their capital is overstated and essentially, they must go through a substantial capital-raising process. Christine Lagarde was absolutely correct, and I really respect her for making the statement that indicates that.”
“The legal bills that the United States banks are going to face are going to be a litigation expense similar to tobacco companies and asbestos companies. Every year, these banks are going to pay out $2 billion, $3 billion, $4 billion, depending on their size, in lawsuits. The question becomes, is that something that the market will accept as an operating cost of these companies, or will the market do what it is doing today, and that is pull back?”
“The one thing which is certain is if the goal of the United States is to create jobs and to assist the housing industry, by constantly suing and attacking the American banking industry, we know what it’s done. It’s increased unemployment in the housing industry, it’s increased unemployment in the finance industry, not just banks, but across the board, but it has not done anything to help housing. Goldman Sachs is a perfect example of what I am talking about. That company was raising money for housing, it was servicing mortgages. Now it is out of that business altogether and not coming back. That source of money, those jobs, are gone, and they are not coming back.”
“All Bank of America has to do, if this slew of lawsuits comes their way, is shrink their balance sheet very aggressively. If they knock 15% off their balance sheet, which is about $300 billion, simply by not renewing loans and not rolling over securities, the capital demands will not increase.”
“Plus, I think this Wall Street Journal article was a total false article, because the Dodd-Frank Act requires that every bank in the United States do what the Wall Street Journal claims is happening to Bank of America.”
4. Nouriel Roubini on Bloomberg’s “InBusiness with Margaret Brennan” – Wednesday, August 31
This is another superb interview by Bloomberg’s Margaret Brennan. We thank Ms. Brennan and Bloomberg PR for sending us the detailed summary below (Again the emphasis below is ours):
Roubini on what the Fed could do at this point to avoid a recession:
- “We’ve reached a stall speed in the economy, not just in the U.S., but in the euro zone and the UK. We see probably a 60% probability of recession next year and unfortunately we’re running out of policy tools. Every country is doing fiscal austerity and there will be a fiscal drag. The ability to backstop the banks is now impossible because of political constraints and sovereigns cannot bail out their own distressed banks because they are distressed themselves.”
- “Everyone would like a weaker currency, but if the currency’s weaker, another has to be stronger. There’ll be more monetary easing and quantitative easing done by the Fed and other central banks, but the credit channel is broken. The velocity has collapsed and all the extra money is going into reserves. There was asset deflation, but it occurred because the economic numbers in August started to improve even before QE was done. This time around the macro data is negative, so yes, the market is rallying on the expectation of QE3, but I think it will be a short-lived rally. The macro data, ISM, employment, and housing numbers will come out worse and worse, the market will start to correct again. We’re going to a recession, we are at stall speed and we are running out of policy bullets.”
On whether there are any monetary policy tools that might be more helpful than others:
- “The ones that are being discussed by the FOMC will not have much of an effect because if you lengthen the maturities, you are buying long-term Treasuries and selling short-term, you are flattening the yield curve in a way that hurts the banks…This time around we will not have an additional purchase of Treasuries or fiscal stimulus. We will have a fiscal drag and the short-term effect of a rally in the market will fizzle out when the real economy is going in the tank. We are entering a recession based on my numbers.”
On what President Obama and Congress could do if Bernanke doesn’t have the ammunition:
- “We certainly need another fiscal stimulus. Much stronger than the one we had before. The one we had before was not enough. Congress is controlled by the Republicans and they’re going to vote against Obama in the realm of fiscal austerity. If things get worse, it’s only to their political benefit.”
- “[The American Recovery and Reinvestment Act of 2009] was effective in the sense that the recession could have turned into a Great Depression. Things would have been much worse without it, so it was very effective in the sense of preventing a Great Depression, but it was not significant enough. With millions of unemployed construction workers, we need a trillion dollar, five-year program just for infrastructure, but it’s not politically feasible and that’s why there will be a fiscal drag and we will have a recession.”
On the yield curve signaling not signaling a recession and whether there’s a distortion with the reporting of the Fed:
- “Traditionally, you can have inversion of the yield curve. Right now, we have policy rates at 0 and we cannot have this inversion of the curve, but the bond market as opposed to the stock market is expecting a recession. We’re having a growth scare in spite of the worries about the credit risk of the sovereign. After the S&P downgrade, bond yields fell from 2.5% to 2% or below. The bond market is telling as a recession is coming and the flattening of the yield curve is telling us that. We cannot have an inversion because you can have negative long-term interest rates. That’s the reason we don’t see the inversion.”
On Europe and what can be done to stop contagion:
- “Not much is going to be enough. Once the FSF is passed they will run out of money in a matter of months and unless you triple the FSF or have euro bonds, then if Italy and Spain lose market access, there will not be enough money to back stop them…I don’t think it is politically feasible to tell the German public they’re going to backstop several trillion dollars of debt of that in the periphery. If we will not have a euro bond, what happened in the case of Greece will happen not just in an exceptional way as they said in Greece, but Portugal, Ireland and eventually Italy and Spain.”
- “The banks in Europe are already in trouble. Banking risk has become sovereign risk when the banks were bailed out by the sovereigns, but now the sovereign risk is becoming banking risk because you have a bunch of distressed near insolvent sovereigns who cannot backstop their own banks. There is a good chunk of the government debt held by the banking system. It is a vicious circle between the sovereign risk and the banking risk. You cannot separate them. The current approach of the Europeans is to muddle through and kick the can down the road. Extent and pretend. It is not a stable equilibrium. It’s an unstable disequilibrium. Either the Europeans go in the direction of a greater economic monetary fiscal and political union or the only other alternative is a disorderly default or work out and eventually break up of the monetary union.”
- “China in the short term can maintain growth because there will be a severe recession and advanced economies will do more monetary and fiscal and credit stimulus. The reality is that their economy is imbalanced. Fixed investment has gone now to 50% of GDP. No country in the world can be so productive and take half of the output to invest into capital stock. You’ll have a surge in public debt, it’s already 80% of GDP including local government…I see a hard landing in China as the likely event, not this year or next year, but by 2013 when this over investment move will go bust.”
- “Even without the slowdown of the U.S., this over investment boom is going to go into a bust in a hard landing. We’re going to have weakness in the U.S., Europe and Japan. That is going to accelerate the climate in which the weakening of China will occur.”
On the possible debt exposure for Chinese banks:
- “If you are looking at the Chinese banks, they have huge exposure to state and local governments and special purpose vehicles that have done the financing of the local investment. There has been at several trillion dollars yuans and we estimate 30% of these loans will go into default and become underperforming. The heat will be on the Chinese banks.”
- “Brazil has some strong economic fundamentals…Our forecast that when the recession in advanced economies hits, economic growth in Latin America, including Brazil, is going to slow down as sharply next year compared to this year. Brazil has its own other domestic problems. If they do the structural reform that’s needed, it could have high potential growth, but the question is whether the new president will be willing to do those structural reforms to reduce the distortion and increase the potential growth of the country. There may be some political economy constraints to doing that.”
5. Bill Gross Backtracks on Treasuries – Bill Gross with CNBC’s Larry Kudlow – Tuesday, August 30
We have been very critical of Mr. Gross in our weekly articles, critical of how he sometimes “spins” his views and critical of his ‘get out of Treasuries’ position of this year. However, we have watched Mr. Gross speak for years and profited from listening to him. We have described him as the Michael Jordan of interest rate trading and we stand by that. Our aim is still to learn to trade like he does.
Our respect for Mr. Gross, always high, went up even more with this candid & honest interview with Larry Kudlow. We applaud him.
- Kudlow – ..you admit to a big treasury bond miss, rates this year went way down, not up. Can you tell us, please, why the interviews right now and what message are you sending?
- Gross – well, you know, I think at Pimco we always try and be open with the press and the public. Isn’t that what voters want from their politicians? Mohamed El-Erian, our CEO writes several op-eds per week and I tweet daily and publish a monthly investment outlook… so we try to give an honest answer to an honest question. And by the way, in terms of the interview with the Journal and with the FT, what I said was that something that I think all bond managers would say if they were honest. they would say wish I’d owned more Treasuries. To say otherwise would be to say something you wish you’d bet on the Miami Heat instead of the Dallas Mavericks. It’s obvious who won, right?
- Kudlow – Well, you’re very outspoken and I respect you for it. Listen, you were here, I look back, June 8th we spoke. So what’s that? Three months ago. At that point, Bill, you repeated the call to get out of bonds. Now the bonds rally more or less from 3% to 2%, today they’re at 2.20. What went wrong? How do you assess what went wrong with your bond call?
- Gross – First of all, I didn’t say get out of Bonds, I said get out of Treasuries and move into Canadian Bonds and Australian Bonds and other alternatives. What went wrong in terms of the treasury call from 3% down to close to 2%, well the economy slowed down dramatically. We had a freeze-up so to speak in terms of Washington with the politicians and policy options. It was recognized that fiscal stimulation, you know, certainly wasn’t going to be something undertaken for the next 6 to 12 months if at all. It was recognized that the Fed was running out of policy options and so the economy was slowing down and was — seemed to be slowing almost permanently in terms of the 0% to 2% growth category.
- Kudlow – Have you basically lost confidence in the economy? You mention, I think, in the FT article, Bill, you call it a new normal minus. Have you lost all confidence in our capacity to grow the economy?
- Gross – well, no. But the problem I have with free market capitalism, Larry, which is your philosophy, is not with the concept. Pimco’s an epitome of the thrust. But the problem I have is with the apparent exhaustion in the face of three equally dynamic economic influences:
- First of all globalization has weakened American economy by siphoning off investments and jobs to emerging nations at 1/10 the wage cost, take China, for example. free market capitalism, in other words, is working for China, it working for Brazil, but it’s not working for America or Euro land.
- Secondly, and just briefly, free market capitalism depends on a balanced market between labor and capital. And clearly we’re reaching a point where impoverished main street cannot afford to buy the goods that capitalism so magnificently produces. So I think there’s an exhaustion here in terms of free market capitalism that has worked so well for 20 to 30 to 40, 50 years, but now is reaching structural impediments that prevent, you know, strong growth that we’re used to.
- First of all globalization has weakened American economy by siphoning off investments and jobs to emerging nations at 1/10 the wage cost, take China, for example. free market capitalism, in other words, is working for China, it working for Brazil, but it’s not working for America or Euro land.
- Kudlow – I want to come back to that towards the back end. But I just want to narrow down for a moment. I want to drill down. According to the reports, you are buying Treasuries, you’re accumulating Treasuries. You have a net positive exposure for the first time. Let me ask you, what if the Bond, the Treasury market has discounted a recession that doesn’t happen? Are you chasing the market? Is there a risk that the rate hikes that you foresaw this year might still come to pass if the economy surprises on the upside?
- Gross – well, that’s possible. we read in the Fed minutes today,…that the two-year 0% or 25 basis point Fed Funds level is conditional. And we know that there are hawks, that there are doves, and it should be a economy recovery to 2%, to 3%, to 4% rate that perhaps inflation looms larger in terms of a threat. So anything’s possible. What I would say at the moment, though, is since the economy is really moving closer to the zero level, since inflation probably will come down gradually, you know, the Fed is at 0% for the next two years and perhaps even longer than that. and that determines significantly the level of Treasury rates and five-year space, ten-year space, and even 30-year space.
- Kudlow – ..it’s interesting, we had Byron Wien, a distinguished investment guru on his own part, he predicted the S&P would rally to 1,400. it’s just over 1,200 today. If that sort of thing happened with better corporate profits, even consumer sentiment, which tanked today, but people are still buying washing machines and cars, retail sales are holding up. if you had a big rally in stocks, the risk trade is back on, that will come out of treasury bonds, and those could — that could drive the bond rates back to 3%. You’re buying bonds now. Are you worried that there’s a potential for whiplash?
- Gross – well, I’m suggesting that the high probability is for interest rates to stay low for a long time. I mean, Byron Wien is basically a mean reversion to cyclical type of analyst. What we’re suggesting is that there are structural impediments to the U.S. economy, to developed market economies that will prevent growth in the 3% to 4% category. Let me ask you in terms of consumerism in terms of the U.S. consumer. If unemployment stays at 9% plus and if wage gains, if real wage gains are non-existent, then where is the spending power coming from? It has to come from a consumer as opposed to businesses. Businesses are waiting on the consumer. The consumer is waiting on business. We have what we call a liquidity trap. What we’re suggesting is not a reversion to the mean, not a cyclical upthrust but basically a structural impediment that. produces growth in the 0% to 2% category for a long time, not just in the US but in Euroland as well.
- Kudlow – all right….have you had any trouble with your fund? I guess the total return fund. because of the bond miss this year, rates went down instead of up. People withdrawing from your fund? What are your customers saying right now?
- Gross – …we have a $245 billion customer base. you know, that customer base is growing. We just got $1 billion contribution from a large corporation this week. There’s been no lack of confidence. and to suggest that a six-month to seven-month time frame for the Pimco total return fund which has produced results for the last 20, 30, or 35 years is a stretch of the imagination. We continue to produce fine results for our clients.
- Kudlow – that’s what everybody says. Everybody I talked to today on the story said exactly what you said. Your record down through the years has been superb. Let me ask you this, are you still buying corporate bonds? And are you still buying foreign bonds? You talked with me about that when you last visited.
- Gross – well, corporate bonds of the highest quality, yes. and that would be A and AA types of corporate, not high-yield bonds because they don’t do well, you know, if we near the recessionary level of 0%. In terms of foreign bonds, let me just cite the comparison. a five-year treasury in the United States at 1% actually a little bit less in Canada, 1.7%, in Euro land, 2.1%, in Mexico, 5.4%, in Brazil, 11%. and these are countries, by the way, Larry, which have what we call cleaner dirty shirts. Mexico has half the debt of the United States, Brazil has half the debt of the United States and has Treasury Reserves as opposed to deficits. And so these are countries with higher yields and better balance sheets.
- Kudlow – ..Scott Nations, your reaction to what Bill Gross said. He acknowledges he missed the direction of rates this year. What are you thinking?
- Nations – Well, I applaud his transparency. Every great trader or money manager has to own their own great mistakes. I think the thing that surprises me that is incredibly pessimistic term structural impediment. I counted him using that term at least three times. That is really worrisome. Because those things he listed are not transient, those point to long-term slow growth here in the United States.
- Kudlow – Dave Goldman, are we destined for long-term slow growth? Or is Mr. Gross, perhaps, making a mistake by now buying Treasuries after the 15% to 20% rally he missed?
- Goldman -.. I think your point about whipsaw is exactly on point. We’ve got two economies. The S&P 500 employment is up 10%, profits are up 20%, and that’s because they have engaged globalization very successfully. And if they can do it, the rest of the economy can do it if we get rid of some of the tax and regulatory burden that is crushing post-bubble main street….There are sources of resilience in the U.S. economy. Bonds are not an income anymore, they’re a put option on the price level. That’s where they’re trading in tandem with Gold. Gold is a call option on the price level. They both trade with volatility and they’re trading in lock step. New regime, don’t own them (Treasuries).
6. High Noon at CNBC Strategy Session – The Voice of Passion, Patriotism & Perspective of Rick Santelli on CNBC – Friday, September 2
The first segment we feature (a CNBC Squawk Box clip) is just after the release of the abysmal Jobs number on Friday morning at 8:30 am. Rick’s comments begin at minute 11;14 of the clip. The people involved are Steve Liesman & Joe Kernen of CNBC, Mark Zandi, President Obama’s favorite economist and Rick Santelli.
- Kernen – Rick you are laughing?
- Santelli – I get a real kick out of how everybody calls what we went through in July and August, the spectacle. The darn spectacle was getting up to these trillion dollars worth of debt and then thinking that some action to try to address it is the spectacle it is exactly half but backwards just like the interpretation that if you dump all this money into the economy, the government will look like they are doing something and that will create a positive dynamic. We have mountain of debt that isn’t going away and all the problems are here to stay and anybody who tells you that is a good thing ought to get out of the business of helping the government down the road. the problem right now —
- Liesman – no. that’s not the problem, Rick.
- Zandi – when the President gets on and says to people that you may not get your social security check —
- Santelli – He was fibbing, he was fibbing. there was plenty of money. your right. that’s the spectacle. Shame on him.
- Zandi – when the congress and administration can’t come together that’s the spectacle and unnerves people. it makes people very, very nervous.
- Liesman – I just disagree. I say shame on people who show no ability to compromise, shame on people who let the U.S. Government default.
- Santelli – Yeah, we compromise. Greece, here we come.
- Liesman – that’s not the future, Rick. the future is not the idea —
- Santelli – It certainly would be. If everybody is so squeamish about addressing your problem. You talk about entitlements like you are tripping the poor of everything they have, they won’t have anything when the country is broke and the lines in the unemployment will be larger. Progressives. what a great strategy that is.
This is a recipe for policies that foster redistribution of income from the relatively wealthier strata to the relatively poorer strata of American society. If left unchecked, these policies will become engrained in the American body-politic. Eight years from 2012, there will be little debate. The income redistribution, wealth transfer policies will be the established politico-economic dogma.
The time to fight this trend is here and now. We think the American middle class, the tax-paying core of America gets this instinctively. That is the core of the battle being waged in American society. It is for all practical purposes a civil war. These are not waged gently, not when the future is at stake.
But Brian Sullivan, a highly paid CNBC Anchor doesn’t seem to get it. At least that is what his arguments suggest in what we call High Noon at CNBC Strategy Session clip on Friday :
- Sullivan – But isn’t that part of the problem? That there is so much rhetoric, there so much division, there is so much just vitriol on both sides.
- Santelli – That’s not the problem at all. Don’t believe that stuff. You can’t have generations of sins cured without a little nastiness….
- Sullivan – I‘m pointing fingers at both parties….. Alexander Hamilton could be the Treasury Secretary and there’s not much anybody in Washington can do and they’re all running around the may pole.
- Santelli – Hey Sully, when they were writing the Constitution or Declaration of Independence, do you think it was all meetings with please and thank you? I‘m sure by today’s standard, it would have been called nasty and a bit ugly. Nasty and Ugly to Americans is okay. We’re not Europe. We have a very thick skin here, but I think the media needs to figure this out. Alcoholics anonymous is not the nasty part. The addiction is. Get it right, guys.
We have seen this before. That is why we wondered back on July 2009 whether Barack Obama is America’s Jawaharlal Nehru? But that discussion is for another day.
Below are Santelli’s words about the U.S. economy and the result of the President’s speech next Thursday:
- Santelli – the charts that Gary showed show that the economy was like a dead frog, If you put a little electricity in it, everything moves a little bit but if you take the electricity away, it doesn’t move anymore. It really wasn’t alive. What we have is an economy that continues to sputter because you cannot fix the top of a building when the foundation is crumbling and that’s the answer. What we have is an economy that continues to sputter because you cannot fix the top of a building when the foundation is crumbling and that’s the answer. and the government still believes that this strategy works. Just think about what’s going on right now. There’s talk about once again, those same banks they gave money to and said you couldn’t not accept it on TARP, they now want to penalize this many years later with regard to trying to get some money back for the Fannies and Freddies and GSEs, so again, they’re picking the scab off before the wound heals. Listen, guys, the time to have dealt with this is when you were dealing with health care when the crisis was going on. To do this now is sad, that’s sad.
- Kaminsky – what are we going to get on Thursday (President’s speech)?
- Santelli – You are going to get a bunch of fiscal conservatives fired up for 2012. I think that’s what you are going to get and I don’t think there is any doubt you are going to be spot on. You are going to see new vocabulary created. So instead of takeover of finance by the government, you are going to hear like an infrastructure bank, it is not like we have cured the last problem with the Government Sponsored Enterprises and here they are wanting to create another one.I agree and I think that speech is just going to enliven the debate that is going to ensue about what size government you want and do you want your tax dollars to run through this big bureaucratic process and make them much smaller when they come out of the other end of the factory.
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