Category Archives: Financials

Illinois And The Tsunami

Apparently the standoff between Governor Rauner and Speaker Madigan continues. As it should. Madigan’s willingness to dispense unfunded largesse to his supporters is largely responsible for the state’s financial woes. Today also the state was ordered by a Federal court to pay its backlog of Medicaid bills, which will be interesting as the state is already cash flow negative.

However the biggest issue is the unfunded state employee pension obligations. This article from Bloomberg contains a nice graphic ostensibly showing the funding levels of most states (no data for California? Really? just check this blog)

These reported funding levels are a cruel joke. These funds continue to assume 7-8% returns, despite the fact that they have not achieved them for years. Just look at the column showing the decline in funding ratio from 2014 to 2015. Not only are the assumptions high, but they are for long-term averages, so that they adjust future return estimates higher to compensate for below-average realized returns. John Hussman’s work shows more or less zero returns for the next 12 years, with the high likelihood that there will be a major drawdown in that period. Drawdowns are lethal to pension funds because the payment of benefits continues, sapping the capital base and making recovery to previous levels nearly impossible.

Pension funds used to invest in bonds. The trustees would meet once a quarter, review the actuarial forecast of liabilities and approve adjustment of the laddered bond portfolio’s maturities to exactly meet the liability schedule. Then there would be lunch and golf. The future returns would be locked in and the contributions needed to fund the bond portfolio would be obtained from the sponsor. Everyone got to sleep at night.

Then Wall Street decided that pension funds had a lot of money, and not enough was being siphoned off into Wall Street pockets. So the sales force went out, armed with charts showing that stocks had historically offered higher returns than bonds. Higher returns mean that less contributions would be needed, so fund sponsors bought the pitch. Yes, stocks have offered higher returns but for a reason – much higher risk. Well, we’ll just assume a long-term average return and surely it will average out. GLWT.

The End Of Hope

I had hoped that Donald Trump’s presidency would see some change in Washington. The attack on Syria finally dashed this hope.  The neocons’ campaign to demonize Russia has shaken his confidence to the point that they are now back in charge. This is a catastrophe, for which there is no one to blame but Trump.

Almost as seriously, presumably at the urging of the Goldmanites, he has not only failed to even attempt to slow the financial bubble, of which his pre-election statements show he is well aware, but has cynically relished it as proof of his success. This failure is likely to be his downfall.

We are so screwed. Sauve qui peut.

Ouch

Well the Trump bond slaughter has not been good to the portfolio. However, the strong dollar and the rapidly falling oil price are both powerful deflationary forces. Dr. Copper spiked, but was rapidly crushed today. Foreclosure filings increased 27% MoM in October, the largest increase since the run-up to the last property crisis. All of this bodes well that, once the powers that be feel that they have achieved their goal of getting the unwashed out of bonds and into equities in time for the real slaughter, happy days will be here again. In which light, it is amazing to see that the Russell 2000, an index with an undefined PE – due to aggregate lack of positive E – is the stellar performer. This smacks of a massive degree of (emotional?) retail participation in the Trump stock rally.

So I’m sitting tight.

BTW, my target for oil is $15-20, EUR is $0.80-0.85 and CAD $0.60-0.65.

Pitter Patter Of Little Feet

Well it appears that my advice of yesterday with respect to DB was not needed:

Millennium Partners, Capula Investment Management and Rokos Capital Management are among about 10 hedge funds that have cut their exposure, said a person familiar with the situation who declined to be identified talking about confidential client matters.

So the next question is to the dip buyers:

“Are you feeling lucky, punk?”

Really?

The world is awash in oil. But price is being kept afloat by an endless string of rumors and fantasies. Today, oil is up 5% after a rumor that OPEC will announce some kind of output-limiting agreement. Really? Even if there is an agreement, since when has OPEC been able to keep it. Not since the 1970s, is the answer. This one will be no different, especially since the Saudis’ ability to finance their deficits in the US will be crippled by lawsuits any day now, as Obama’s veto has been over-ridden by the Senate (97-1) and is highly likely to be over-ridden by the House.

And the other rumor that kept Europe on the upswing overnight was that Germany would bail out the criminal enterprise known as Deutsche Bank, which is finally facing some consequences for its insane behavior. Given the current administration, it seem unlikely that Germany would ignore the EU rules limiting such bailouts and anyway it would be political suicide for Merkel. Of course the German government denied any plan for a bailout, but such denials are as likely to be true as the original rumor so the net information content of the pair is zero.

What one can say with some confidence is that it would be wise to very, very carefully consider one’s net position with respect to DB.

You Never Say No

European bankers are once again calling for publicly funded bailouts. I was amused to read (zero hedge) about Dijsselbloem’s comments:

Italy’s ongoing attempts to bend Europe’s bail-in rules and revert to the “older” bailout protocol continue to run into problems. The latest confirmation came from Eurogroup head Jeroen Dijsselbloem who earlier today said he was not “particularly” worried about Italian banks. More interesting was his insistence that “there have always been and will always be bankers that say ’we need more public money to recapitalize our banks…. and I will resist that very strongly because it is, again and again, hitting on the taxpayer.” He then added that “the problems with the banks need to be sorted out in the banks and by banks.”

He sided further with the Merkel camp when he said that he finds the ease in which bankers ask for public funds to sort out problems is “very problematic.”

Dijsselbloem added that “there has to come an end to” bankers asking politicians to solve their problems.

His statement comes just a day after David Folkerts-Landau, the chief economist of Deutsche Bank, called for a €150 billion bailout for European banks, confirming that it is no longer just an “Italian” issue.

I am reminded of an episode earlier in my career. One of our very largest customers was making a habit of demanding aggressive pricing, so a senior executive was dispatched to discuss the matter at the executive level. He asked why they were so hard on us on pricing. The customer executive looked at him and said “Because you never say no.”

That, Geachte Heer Dijsselbloem, is why bankers ask for public money.

Heart’s Desire

Well markets got what they wanted today when both the BoE and the ECB indicated that they would be doing “more” – in the case, QE – over the summer.

The Fed did its bit after the close yesterday by authorizing the big banks (except Deutsche Bank, which is probably doomed anyway) to buy back their shares. Of course, they all promptly announced massive buybacks, which they will fund by borrowing from one another thus piling on more debt.

So the debt bubble gets bigger, the banks get worse, the pension funds struggle, the economy slowly dies and it goes on and on. It is becoming farcical.

It is the last day of June, the second quarter and the first half. So much window dressing and manipulation to manage reporting is going on. Notably the (record) Treasury shorts just slammed the bonds as they appeared to be running away to the upside and that wouldn’t look good.

The Madwoman Of Chaillot

For some reason Janet Yellen makes me think of the French play, La Folle de ChaillotIn the play, the dotty Countess Aurelie, who lives in something of a idealized fantasy world, comes to realize that a group of businessmen who are planning to drill for oil under Paris could ruin her happy and beautiful dream. So she organizes a mad tea party. right out of Alice, with her mad friends. The party consigns the businessmen, seduced by the smell of oil, to a bottomless pit, thus returning life and joy to the world.

Janet Yellen also lives in an idealized fantasy world and runs a mad tea party. Unfortunately, she is consigning all of us, seduced by free money which isn’t really free at all, to a bottomless pit.

Today she passed on what is probably the last opportunity to start to move interest rates back to something sane. Her failure to act confirms  that, Beige Books notwithstanding, the Fed sees the incoming economic data as weak. By the July meeting, I expect that the pressure to “do something” to rescue the foundering economy will have become extreme and she will not resist.

Nothing To See Here

US-delinquencies-commercial-industrial-loans-2016-q1

As the market soars this morning, one may wish to take a moment of quiet contemplation and examine the Fed’s chart above. The red circle marks the so-called “Lehman moment” from the last bubble collapse.

This is not supposed to be happening according to the Fed’s models and therefore it is not on Ms. Yellen’s “dashboard.”

What Are They Thinking?

Well the market is closing today without substantial change again, having been brought back one more time, most likely by the HFT boyz.

Of course, they have been ably assisted in this mission by the dip buyers, and by the absence of any real selling. I have no idea what anyone sitting on a long position in this market is thinking.

The Fed most likely realizes that it has created a disaster with excessively low rates and is trying to correct the problem. In my opinion, it is likely to raise rates at the next meeting regardless of economic data flow between now and then. Any raise is likely to produce a re-pricing of markets.

Yes,  the economy is rolling over fast.  There’s nothing the Fed can do about that, and it probably knows that. All it can do is try to deflect the blame, which is why it will raise rates regardless of the economic data flow.

Yes, sentiment is bearish. But it has been excessively bullish all the way up the rally and the market went up regardless. Sentiment is over-rated as an indicator in my opinion in a market driven by central banks and algos. This market can go down despite bearish sentiment.

Yes, oil is still going up in price. Even today, and in the face of steadily rising inventories. $50 oil puts many of the shale producers back in business and I’m sure they are selling futures at these prices with both hands. The muppets will eventually figure this out, and stampede.

The bears will soon have their day.