Financial Review

The Courage to Act, or Not

Sinclair Noe — October 5, 2015

Podcast: Play in new window | Download (Duration: 13:16 — 6.1MB)

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DOW + 304 = 16,776
SPX + 35 = 1987
NAS + 73 = 4781
10 YR YLD + .07 = 2.06%
OIL + .72 = 46.26
GOLD – 2.50 = 1136.90
SILV + .40 = 15.77

The Dow Industrial Average has gone from a low of 16,013 Friday morning after the jobs report to an intraday high today of 16,798, or a swing of 785 points. The S&P 500 rose for a fifth session in a row, its longest winning streak this year

The US, Japan and 10 other Pacific Rim economies have reached agreement to strike the largest trade pact seen anywhere in two decades. The Trans-Pacific Partnership covers some 40% of the global economy and will create a new Pacific economic bloc with reduced trade barriers relating to the flow of everything from beef and dairy products to textiles and data as well as new standards and rules for investment, the environment and labor.

Former Fed Chairman Ben Bernanke has published a new book, entitled “The Courage to Act” and so he’s making the rounds. In a CNBC interview, Bernanke said that slow productivity growth is weighing on the economy, and there’s too much reliance on the central bank. He said other policymakers in the government need to step up. He refused to second guess current Fed Chair Janet Yellen on her decision not to increase rates at the Fed’s September meeting.

In an interview with USA Today, Bernanke said that more corporate executives should have gone to jail for their misdeeds. Bernanke explained that the Fed did not have the authority to jail anyone. Rather, it was the Department of Justice’s responsibility to do that. And while a few folks here and there went to prison for various violations, it’s largely been the financial entities that have paid the penalties.

“A financial firm, of course, is a legal fiction,” Bernanke explained. “It’s not a person. You can’t put a financial firm in jail.”

“It would’ve been my preference to have more investigation of individual actions because obviously everything that went wrong or was illegal was done by some individual, not by an abstract firm,” he continued. “In that respect, there should’ve been more accountability at the individual level.”

So, on the one hand you have the former Federal Reserve chairman saying, after the fact, that people should have gone to jail but the financial firms are abstractions. Then on the other hand you have the former attorney general Eric Holder’s infamous quote that some financial institutions became so big, “that it does become difficult for us to prosecute them when we are hit with indications that if you do prosecute, if you do bring a criminal charge, it will have a negative impact on the national economy, perhaps even the world economy.” And on the other hand we have the Supreme Court, which has determined that corporations are people, even if Ben Bernanke says they’re fictitious and he can’t figure out how to lock them up.

The U.S. Supreme Court this morning rejected a U.S. Justice Department bid to restore the insider trading convictions of two hedge fund managers and reverse a lower court’s ruling that prosecutors contend will make it harder to bring such cases. The justices left in place a December ruling by the 2nd U.S. Circuit Court of Appeals in New York that threw out the 2012 convictions of hedge fund managers Todd Newman and Anthony Chiasson for engaging in a scheme involving tips about Dell and Nvidia.

In overturning the convictions, the appeals court said prosecutors needed to show that the person disclosing the information received a clear benefit, something more than the nurturing of a friendship. The appeals court also said the person being prosecuted had to know about the benefit. That issue wasn’t before the Supreme Court.

Yes, the Supremes are back in session, and they have some important cases on the docket, including: Evenwel v. Abbott, which will dig into the concept of one-person, one vote; also, Friedrichs v. California Teachers Association, which pits the practical needs of collective bargaining against the First Amendment and could have huge political consequences by crippling public employee unions and possibly all unions; and waiting in the wings at the high court are two politically incendiary cases: one involving abortion, the other birth control under Obamacare.

Saudi Arabia cut prices on oil sales over the weekend as it plays catch-up with OPEC and other producers in the region. State-run Saudi Aramco reduced prices significantly on oil sent to Asia and the U.S. The Saudi strategy is to keep producing oil at high levels in anticipation of improved demand at lower price points. Meanwhile, Russia is ready to meet with members of the Organization of Petroleum-Exporting Countries (OPEC) — as well as non-member oil producers — to discuss the situation facing global oil markets.

The Institute for Supply Management said its services index fell to 56.9% from 59% in August. New orders and prices paid were down, but any reading above 50 indicates growth, and this report marks the 68 consecutive month of growth in the services sector of the economy.

General Electric has drawn a big investment from activist shareholder Nelson Peltz. Peltz’s Trian Fund Management has accumulated $2.5 billion in GE shares since the middle of May —a roughly 1% stake —making it one of the company’s top 10 shareholders. While Trian has some criticism of the company, both sides say they are in agreement on most aspects of GE’s current direction, which includes the sale of the majority of its giant financing arm. Trian hasn’t requested a GE board seat.

Twitter has announced that co-founder and interim CEO Jack Dorsey will stay on as permanent chief executive. As Dorsey formally takes on the Twitter CEO job — after more than three months of drama and speculation — investors are bound to wonder which of Dorsey’s two companies will get short shrift. As Dorsey is reprising his role as Twitter CEO, he is also going to be taking his second company, mobile payments startup Square, public.

American Apparel filed for Chapter 11 bankruptcy in Delaware. The company plans to keep stores open while it seeks approval for its restructuring plan with lenders through the bankruptcy court.

Shares in Google have stopped trading, and have in fact ceased to exist. Instead, you can now trade Alphabet, the parent company for Google. Alphabet is a group of companies, many of which were acquired or developed internally by what used to be Google Labs. The biggest part of Alphabet stock that investors need to watch is the now-focused subsidiary of Google internet businesses.

All those advertising dollars that drove GOOG stock before will still do so, and they will come from this unit. Both GOOG stock and GOOGL stock will continue to trade separately, and at the same previous prices. They are ownership stakes in the parent company, Alphabet. GOOG stock will represent Class C shares of Alphabet, but with no voting rights, while GOOGL stock represents Class A shares with one vote each.

If you trade stocks on Scottrade you might want to be a bit more vigilant. Hackers had access to Scottrade’s network for “a period of several months” in late 2013 and early 2014. The retail brokerage posted a notice on its website. The company said it believes that contact information, names and addresses were the focus of the breach, although “sensitive data” such as Social Security numbers and email addresses were also in the system that was breached. The information of 4.6 million clients was contained in the targeted database, and Scottrade is providing a year of identity protection services to those clients. Scottrade said it is directly notifying clients who had an account before February 2014 that their data may have been accessed.

The FTSE 100 was up about 2.5% and almost the entire move can be attributed to Glencore. The commodities giant Glencore was briefly up 21% in London, and it had jumped by as much as 70% in Hong Kong trade after rumors circulated that management would listen to takeover offers. The company’s board disputed those claims in a press release, however, saying, “It is not aware of any reasons for these price and volume movements or of any information which must be announced to avoid a false market.”

Canadian fertilizer company Potash has backed out of its $8.8 billion takeover attempt of its German rival K+S. According to Potash, it’s dropping the bid because of market conditions and a lack of commitment from K+S management. Back in August, K+S said Potash’s bid undervalued the company and would eliminate jobs

Ford reached a key agreement with a union representing workers at an F-150 plant in Missouri. The UAW workers still need to vote on the deal which covers employment conditions, not the wage levels being negotiated on a national level. The development is crucial for Ford as the Kansas City-area plant is a major producer of the new F-150. Any slowdown in production would create a ripple of worry with F-150 sales continuing to gain momentum in the U.S.

Volkswagen will hold a special board meeting to review n internal investigation on the emissions cheating crisis. One of the biggest challenges for the VW board is how deeply to cut into Volkswagen’s investment budget in order to try to stave off credit agency downgrades.

Air France said last week it was planning cuts to jobs, jets, and routes in the absence of a deal with pilots, who had been asked to work more hours for the same pay to help end annual losses that began in 2011. Air France workers “stormed” the company’s headquarters at Charles de Gaulle Airport near Paris after it threatened to cut 2,900 jobs, interrupting a meeting with union representatives and ripping executives’ clothes off.

Financial Review

Justice Deterred

Sinclair Noe — September 10, 2015

Podcast: Play in new window | Download (Duration: 13:16 — 6.1MB)

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DOW + 76 = 16,330
SPX + 10 = 1952
NAS + 39 = 4796
10 YR YLD + .04 = 2.22%
OIL + 1.51 = 45.66
GOLD + 5.10 = 1111.90
SILV + .10 = 14.81

Wholesale inventories decreased by 0.1% in July, while wholesale sales dropped 0.3%. At July’s sales pace, the inventory-to-sales ratio was unchanged at 1.30 months.

The number of Americans getting laid off from their jobs remains near the lowest level in decades. Initial jobless claims fell by 6,000 to 275,000 in the period running from Aug. 30 to Sep. 5. New claims have been under the key 300,000 level for 27 straight weeks. The last time the pace of layoffs was even lower for such a long stretch was in 1973.

The prices the U.S. paid for imported goods fell by 1.8% in August, marking the biggest decline since the start of the year. Oil prices fell sharply again and strong dollar has also made foreign products cheaper for Americans to buy. Excluding fuel, U.S. import prices declined by a 0.4% last month. Meanwhile, the price of U.S.-made goods exported to other nations dropped 1.4%.

Mortgage rates were little changed ahead of the Federal Reserve’s key rate decision next week. Mortgage buyer Freddie Mac said the 30-year fixed rate mortgage averaged 3.90% in the week ending Sept. 10, up from 3.89%. The 15-year fixed-rate mortgage averaged 3.10%.

Oil prices rallied today.  Energy Information Administration data showed demand for gasoline over the latest four-week period was up almost 4 percent from a year ago, bullish for late-summer consumption of the motor fuel. Gasoline inventories, meanwhile, rose just about half of expected levels last week. Crude oil stockpiles rose nearly 2.6 million barrels last week, more than double expectations. Bottom line, when gas prices are low, we tend to take road trips.

Standard & Poor’s has cut Brazil’s investment-grade credit rating to junk for the first time since 2008, warning that it could lower the grade again in the coming months. The agency pointed to political challenges that are putting a balanced budget at risk as a reason for lowering the rating to BB+. Fitch and Moody’s still have Brazil at investment grade – for now – but if either one follows suit, as the country’s situation rapidly degrades, it would trigger massive cash outflows from pension funds.

The Justice Department is renewing its efforts to charge individuals in corporate investigations. Justice Department officials issued a memo Wednesday to prosecutors outlining best practices and recommending that they only consider a company to have cooperated in an investigation if that company turns over information about the actions of individuals at the firm, “regardless of their position, status or seniority.” And this is not first time the DOJ has tried this scheme. In 2014, then-Attorney General Eric Holder announced that “no company was too big to jail”, and of course since that declaration, no company has been jailed.

The new memo, released by Deputy Attorney General Sally Yates, claims that this new direction “deters future illegal activity, it incentivizes change in future corporate behavior”. This was a point emphasized by Matthew Schwartz, a former prosecutor at the United States attorney’s office in Manhattan who told the New York Times: “The main reason you bring these cases is to send messages to the business community”.

However, they are both wrong; the main reason to seek criminal charges and incarcerate criminals is to punish them, next on the list is deterrence, followed by rehabilitation. That has been the Department of Justice’s longstanding guideline. In fact, in a speech by then-AG Holder in August of 2013, he said “we need to ensure that incarceration is used to punish, deter, and rehabilitate”. It may seem a subtle distinction, but the difference in priorities is huge; especially because it confirms that we have a two-tiered system of justice: one for bankers, and the other for everyone else.

Of course punishment has never been the DOJ’s guideline when dealing with bankers. For many years AG Holder subscribed to the idea of going easy on the banks; it came to be known as the Holder Doctrine, which stems from his now-famous June 1999 memorandum — when he was deputy attorney general — that included the thought that big financial settlements may be preferable to criminal convictions because a criminal conviction often carries severe unintended consequences, like loss of jobs and the inability to continue as a going concern.

The new memo seems to say that the plan is to talk tough in the hope of deterring illegal activity. The memo says “To be eligible for any cooperation credit, corporations must provide to the Department all relevant facts about the individuals involved in corporate misconduct.” In other words, identify your rogue traders and low-level scapegoats before you try to cut a deal. In fact, the memo goes to great lengths to explain how it is so very, very difficult to bring a case against individuals and especially against executives.

Also, the memo seems to forget the idea from Holder that “no company is too big to jail”. If you want a deterrent effect, how about the idea that a corporate charter can be revoked; imagine if JPMorgan or Goldman Sachs faced the prospect of losing their charter for their crimes; that might prompt directors and officers and shareholders to think twice. Of course that will never happen; the banks really are too big to fail, and nothing has been done in the last 7 years to change that fact.

Since 2009, 49 financial institutions have paid various government entities and private plaintiffs nearly $190 billion in fines and settlements, according to an analysis by the investment bank Keefe, Bruyette & Woods. That may seem like a big number, but the money has come from shareholders, paid out as corporate expenses, and in some cases, tax deductible. For the banks, justice is just a check that somebody else has to write; not much deterrence there.

Wall Street has assumed control over the government, its agencies, and our legal system. The DOJ says it will increase its efforts in deterring Wall Street crime. Forgive me if I seem skeptical.

Meanwhile, New York regulators have sent letters seeking information to big banks that are primary Treasury dealers as part of a probe into the potential manipulation of bond auctions. The banks – including Barclays, Deutsche Bank, Goldman Sachs, Societe Generale, and Credit Suisse – aren’t charged with specific wrongdoing at the moment, as the investigation is still in its early stages. Boston’s public employee pension fund, State-Boston Retirement System, sued 22 primary dealers in July alleging conspiracy to manipulate Treasury auctions.

Companies raised $28 billion of investment-grade bonds in U.S. markets yesterday as the corporate-debt market roared back to life after a three-week hiatus that was partly due to worries about China. Nineteen companies issued debt, including Gilead Sciences with a $10 billion deal, home-improvement retailer Lowe’s and hotelier Marriott International. Overall, firms have sold $1.2 trillion worth of new debt in the U.S. this year, including junk-rated paper, putting the market on course to set a record for a fourth consecutive year.

XPO Logistics has agreed to acquire trucking and logistics company Con-Way for $3 billion including debt. The agreement is the latest in a string of transactions that have helped XPO grow into a major player in the global logistics market: since 2011, the company has completed at least 14 mergers and increased its revenue to a projected $6.7 billion this year from $177 million.

Bombardier surged 24% in Toronto yesterday, the most in a single day since 1988, amid growing optimism over the potential value of the company’s rail unit and the sales prospects for the firm’s CSeries jet. According to earlier reports, Bombardier rejected a bid by Beijing Infrastructure Investment for 60%-100% of Bombardier Transportation that gave the business an enterprise value of as much as $8 billion.

Ikea’s sales climbed 11% to €31.9 billion-euro in the year to August as the world’s largest furniture retailer enjoyed strong growth across different regions. “China remained the fastest-growing Ikea Group market, followed by Russia,” Ikea said. “Germany showed record growth and North America performed well. Also south Europe demonstrated positive progress.” The Swedish retailer aims to earn annual revenue of €50-billion-euro by 2020.

Dell intends to invest $125 billion in China over the next five years as the world’s third-largest computer manufacturer continues its expansion in the country. CEO Michael Dell said, “Dell will embrace the principle of ‘In China, for China’ and closely integrate Dell China strategies with national policies”. The plan includes strengthening the company’s research and development team in the country.

A new visitors’ center and museum opens today at the Flight 93 National Memorial in western Pennsylvania, one day before the anniversary of the Sept. 11 attacks. Fourteen years after the 40 people on board the hijacked United Airlines flight forced the plane into the ground as terrorists aimed it toward Washington, their story is on display for the hundreds of thousands of visitors who come to central Pennsylvania, near a town called Shanksville, each year to visit the Flight 93 National Memorial. Much of the visitors’ center deals with the final 35 minutes of the flight, as passengers fought the hijackers and the crew tried to keep control of the flight. The field has become a full-fledged national monument, financed by a public-private partnership and operated by the National Park Service.

Markets Were Full Of Sound And Fury, Signifying ... Not Much?

Financial Review

Sound and Fury

Sinclair Noe — July 10, 2015

Podcast: Play in new window | Download (Duration: 13:15 — 6.1MB)

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DOW + 211 = 17,760
SPX + 25 = 2076
NAS + 75 = 4997
10 YR YLD + .11 = 2.41%
OIL + .04 = 52.82
GOLD + 3.50 = 1163.80
SILV + .23 = 15.72

For the week, the Dow rose 0.17 percent while the S&P fell 0.01 percent and the Nasdaq ended down 0.23 percent in its third straight weekly decline. The markets were full of sound and fury, signifying nothing, perhaps.

Greece faces a Sunday deadline to reach a deal with its creditors. Yesterday, Greek Prime Minister Alexis Tsipras submitted a proposal that appears to meet most creditor demands in exchange for a new €53 billion-euro bailout. The package of spending cuts, pension savings and tax increases almost mirrors that from creditors on June 26, which was rejected by Greek voters in a July 5 referendum. Eurozone decision makers are set to assess the plan during crisis meetings on Saturday and Sunday. Meanwhile, Tsipras took the proposal to the Greek parliament to see if they will stand behind the deal. Outside, anti-austerity protestors rallied against the deal; which makes sense; last week a strong majority voted against the very type of deal Tsipras is now trying to sell. The Greek blueprint for pension cuts and VAT increases is essentially copied word-for-word from the June 24 European proposal; it does not appear to include debt relief. The unsustainable Greek debt from 2 weeks ago still seems unsustainable today.

The euro and stocks surged on the prospect of a resolution to end a near-six-month standoff. We are still waiting to see if this deal will stick with the IMF, the ECB, the Greek parliament, the Greek people, and of course, the Germans. And even if a deal is struck, the bigger question is whether Greece will be able to pull itself out of economic decline. But for now, movement. We’ll have to wait and see if that movement equates to progress.

Chinese stocks rose sharply for a second day today. Chinese Regulators ordered listed companies to submit plans to stabilize their stock prices, via measures such as share buybacks and employee shareholding plans. However, it still remains to be seen whether the rally can overcome the steep declines that wiped out $3.9 trillion in value from Chinese equities over the past four weeks. The Shanghai Composite closed up 4.6% (although it’s still off 25% from its June high).

So, Greece might be nearing a deal and China bounces back with 2 days of solid gains following a month long meltdown. Everything is coming up roses. Not so fast. The Greek deal could still fall apart or if they take the deal, Greece could fall apart; for all we know, Tsipras may have just destroyed Greece and the Eurozone. Chinese markets could still stumble and crash and bring down much of Asia as they fall. Or not. Even if we get past both of these problems, it will likely take some time to work through details and mop up excesses. The global system has the ability to manage through each of these shocks, though not without some stress. It could even handle them both together, provided nothing else goes wrong. Yet success is not guaranteed. It requires much better coordinated and more comprehensive policy responses. And should such responses continue to struggle, asset prices will converge down towards the lower levels warranted by fundamentals

Federal Reserve Chair Janet Yellen deliver a speech today in Cleveland. Yellen maintained her call for an interest rate increase this year, saying: “I expect that it will be appropriate at some point later this year to take the first step to raise the federal funds rate and thus begin normalizing monetary policy.” Yellen said the job market had not fully recovered but the overall assessment of the economy was upbeat. She made no mention of China in her speech, and only a passing reference to Greece. Absent an unexpected meltdown, Yellen was prepping the markets for a rate hike.

Kansas City Fed President Esther George spoke yesterday, saying: improvement in the job market and stable inflation suggest that “modestly higher” short-term interest rates are appropriate, and “Economic trends and experience suggest…we would be wise to act modestly but act now.”

The Commerce Department reports that wholesale inventories rose 0.8% in May.  Inventories of durable goods, such as autos and machinery, increased 0.6%. Meanwhile, inventories of nondurable goods rose 1.2%. Wholesale sales rose 0.3% in May, following growth of 1.7% in April. At May’s sales pace, the inventory-to-sales ratio remained at 1.29.

The International Energy Agency has warned in its widely followed monthly report that the rebalancing of the oil market that started last year has yet to run its course and a bottom in prices “may still be ahead”, because the world remains “massively oversupplied.” In its first oil-consumption assessment for next year, the IEA, which advises industrialized nations on their energy policies, said global oil demand growth is forecast to slow to 1.2 million barrels a day in 2016. That compares with an average 1.4 million barrels a day this year.  In a bearish assessment of market conditions, the IEA said the adjustment process would “extend well into 2016″.

IDC estimates global PC shipments fell to 66.1 million in the second quarter; that follows a 6.7% drop in PC sales in the first quarter.  Gartner is offering their own analysis, estimating shipments fell 9.5% to 68.4 million. Factors blamed for the decline: Inventory reductions ahead of the Windows 10 launch (set for July 29), a strong dollar (which has led to higher overseas prices), and the end of Windows XP support.

Apple’s Mac continues to be one of the few bright spots in the PC industry. Mac shipments reached 5.1 million during the second quarter, representing 16% year-over-year growth. Apple was the only of IDC’s top six global PC makers to grow shipments last quarter. The global leader in the PC world is…Lenovo, with a 20% market share.

U.S. quarterly earnings season kicked off earlier this week, with Pepsi and Alcoa reporting better-than- expected sales. However, corporate earnings are estimated to have fallen 3.1 percent in the second quarter, according to Thomson Reuters data.

Investors poured $14.1 billion into stock funds in the past week, according to tracking firm Lipper. This marks the biggest inflows since mid-December. The inflows were the first in three weeks. Funds that specialize in U.S. shares attracted most of the new cash, at $12.6 billion, while funds that specialize in foreign shares attracted $1.6 billion to reverse the prior week’s $1.1 billion in outflows.

The NYSE shutdown this week was probably just a glitch. When trading shutdown for 3 hours, it generated all kinds of cyberterrorism, hacky kind of conspiracy theories. It happened on the same day as United Airlines suffered a glitch, and those hundreds of grounded flights are most likely a preview of things to come. As airlines switch to electronic luggage tags and more travelers swap paper tickets for boarding passes stored on smartphones, industry consultants say the impact of technology disruptions will keep growing. The airlines are just a big flying computer. It was most likely just a software glitch. The problem is that software now runs the world, and that software was built fast and cheap; and it has been patched over and over and over.

Our dominant operating systems, our way of working, and our common approach to developing, auditing and debugging software, and spending (or not) money on its maintenance, has not yet reached the requirements of the 21st century. You know we have infrastructure problems; failing bridges, dangerous railroad intersections, potholes, crumbling water pipes. Turns out, our cyber-infrastructure is also a mess. And we are on the verge of transitioning to the “internet of things”; which is kind of like building a high rise on top of a Quonset hut. The NYSE shutdown this week was probably just a glitch, which is really, really scary.

Checking in on the Libor trial in London, former UBS and Citigroup trader Tom Hayes has been testifying that he was open about his attempts to influence rates and that his managers were aware of it and that the practice was widespread in the industry. Hayes said he had been made a scapegoat to protect more senior figures, accusing UBS of “sheer hypocrisy” for disowning him when regulators got involved, even though senior managers at the bank had known all about his trading practices.
Checking in on Eric Holder, the former US Attorney General has landed on his feet; actually he landed back at his old job at Covington & Burling, a high powered law firm that regularly represents some of the biggest financial firms in the country; he even landed back in his old office, which the firm kept empty, waiting for his return. Holder will settle into a $2.5 million a year contract; not bad for a guy who could not get a single conviction in court for any crimes related to the financial crisis.

Right now a piano-sized spacecraft is barreling through space at over 36,000 mph. The target is Pluto. So far the New Horizons spacecraft has traveled nearly 3 billion miles. This week it got close, by space standards, just a few million miles away; which was close enough to snap a few good photos. The new pictures show some details we have never seen before. Pluto has distinctive contrasting dark and light colors on its surface. A large light colored region, about 1,000 miles across, is kind of shaped like an enormous heart.  NASA has carefully calibrated the spacecraft to fly within 7,600 miles of Pluto on Tuesday. The spacecraft should be able to tell if there are impact craters on Pluto’s moon, and close enough to take detailed pictures of something the size of a football field; just in case someone is playing football on Pluto.

Financial Review

A Question for the New AG

Sinclair Noe — February 10, 2015        

              

Podcast: Play in new window | Download (Duration: 13:16 — 6.1MB)

DOW + 139 = 17,868
SPX + 21 = 2068
NAS + 61 = 4787
10 YR YLD + .04 = 1.99%
OIL – 2.10 = 50.76
GOLD – 5.00 = 1234.70
SILV – .06 = 17.01

Small-business sentiment slipped in January on a decline in optimism over sales growth and business conditions, according to a gauge released Tuesday. The National Federation of Independent Business said its small-business optimism index fell 2.5 points to 97.9, with seven out of 10 components declining.

Good news if you are looking for a job. The Labor Department said job openings surged to 5.03 million in December, the highest level since January 2001, from 4.85 million in November. Hiring jumped to a seven-year high and the number of job seekers for every open position, a key measure of labor market slack, fell to 1.73 in December, the lowest since 2007. The bad news is that there are still about 9 million people looking for a job.

Wholesale inventories barely rose in December, up just 0.1%. Together with data last week showing a 0.3% fall in manufacturing inventories in December, today’s report suggests the boost to GDP growth from restocking in the fourth quarter was probably not as large as initially thought.

Halliburton is cutting as many as 6,500 jobs. The oil company, facing up to the reality of crude oil prices, announced that it’s slashing between 6.5% and 8.5% of its global workforce. The cuts are doing little to assuage investors; Halliburton’s stock is down 3% today.

In the past 2 weeks oil prices bounced 20% from lows around $44 a barrel. The recent surge in oil prices is just a “head fake” and West Texas crude as cheap as $20 a barrel may soon be on the way, according to a new research report from Citigroup’s global head of commodity research. The prediction is that oil will drop to $20, then bounce back to $75, all this year. It’s the stuff of a commodity trader’s dream. Wall Street lusts for it. Hedge funds can hardly contain themselves at the mere thought of it. So whose book is Citi talking up?

If the price of oil stays in the current range, liquidity for much of the oil patch will run out in 2016, and that’s when waves of defaults will begin to cascade through bank and private-equity balance sheets. And beyond that, investment banks stand to lose a lot: in 2014, Citi earned $492 million in energy-related investment-banking revenues – more than any other bank; More even than JP Morgan. So Wall Street must have a V-shaped recovery in place by 2016, or else.

Tomorrow we will get a better idea of the direction of oil prices, at least for the short-term, when the Department of Energy releases its weekly report on inventories. US commercial crude-oil supplies stood at a record high of 413.1 million barrels in the week ended Jan. 30. Analysts are estimating that inventories will hit a new record high, up 4 million barrels for the week. Oil dropped, but closed above $50.

So, what are Americans doing with some of the money they’re saving from cheap gas? They are buying more fuel.  Demand is up. At the same time, faster economic growth and a big influx in hiring over the past year means more Americans are now taking part in the daily commute. According to Nicolas Colas chief market strategist of ConvergEx: “We’ve finally discovered where American consumers are spending some of the savings from lower gasoline prices: they are buying more gasoline.” Plunging prices are encouraging Americans to drive more often and buy more trucks. The best-selling vehicle in the US in December was the Ford F-150; SUVs were also popular. Apparently, when gas prices drop, we forget all about conservation.

The squeeze on U.S. farmers is getting worse as low crop prices and rising costs erode incomes that not long ago were the highest ever. Farm income in the U.S., the world’s top agricultural producer and exporter, is poised to drop for a third straight year in 2015. While raising livestock remains profitable, as tight meat supplies keep prices high, growers of corn, soybeans and wheat saw crop and land values fall faster than many of their costs.

Net-cash income from all farm activity will drop 22% to $89 billion, the biggest drop since 1932 and the lowest since 2009, the U.S. Department of Agriculture said in a report today in Washington. Last year’s slump was 12% to $115 billion. Net income, including the value of inventory and non-cash income, was forecast to drop 32% to $73 billion, with expenses at a record $370 billion.

The drought in California continues. We’ve been hearing a lot about extreme weather lately; historic snowfall in Boston, and last weekend saw more than a foot of rain in some parts of northern California. Water is water and anything can make some difference but the rain last weekend was of the tropical variety and it didn’t result in much snow. California meets most of its water needs from the snowpack; as the snow melts in the summer months, it replenishes the reservoirs. For now, the reservoirs remain far below capacity. And the rain in northern California didn’t make it down to southern Cal. Rainfall totals in the south are anemic, and falling further behind. California has two more months in the traditional winter rain season. Trends could flip and several warm tropical storms could barrel into Southern California, evening the score. But for now, residents of the Southland are getting nervous.

Europe is powering ahead with wind. Europe already has quite a lot of wind turbines, and it seems to be the preferred way to generate electricity. Across the 28 countries that make up the European Union, 11,791 megawatts of wind power was connected to the grid in 2014—worth up to €18.7 billion ($21.1 billion)—according to a report by the European Wind Energy Association. New coal added 3,305 megawatts, while new gas capacity totaled 2,338 megawatts—less than half of the wind installed. Germany and the UK accounted for 60% of the new wind installations. The EU could now produce 10.2% of the electricity it needs from wind, up from 8% the year before.

Hoping to defuse a standoff that has set Europe and financial markets on edge, Greek officials intend to propose a detailed compromise plan at an emergency meeting with creditors on Wednesday in Brussels. The plan will include the possibility of tapping part of a bailout loan disbursement of $7.9 billion, which Athens had been saying it would reject. Greece still plans to reject some of the harshest austerity conditions attached to Greece’s bailout loans, but will propose retaining about 70% of the terms. Now, the proposal was just tossed out there and there won’t be a meeting until tomorrow, but already Germany has shot down the idea.

Another big meeting in Europe tomorrow; in Minsk, Belarus, the leaders of Germany, France, Ukraine and Russia are due to meet to try to hammer out a peace agreement. Failure to reach an agreement will lead to further EU economic sanctions against Russia, which were delayed at yesterday’s EU foreign minister’s meeting to allow time for the diplomatic offensive tomorrow. Failure to achieve a negotiated peace might draw the US into the conflict, at least as an arms supplier to Ukraine.

Hopes of an orderly resolution to Puerto Rico’s debt crisis suffered a heavy blow after a court voided the island’s restructuring law, raising fears it may be heading for a longer, messier debt overhaul. A US federal judge ruled that the commonwealth’s so-called Recovery Act, which made some of Puerto Rico’s agencies eligible for court-supervised debt restructuring, violated the US constitution by allowing a state government to modify municipal debt. The decision will likely result in a resolution being dragged out over a longer period of time, having the administrative costs incurred eat into the ultimate recovery for the bondholders. Puerto Rico is expected to appeal the ruling, kicking off lengthy litigation with a hard to predict outcome and possibly delaying for months the matter’s final resolution.

In the final stages of a long-running investigation, the U.S. Department of Justice has recently informed Barclays, JPMorgan, the Royal Bank of Scotland and Citigroup that they must plead guilty to criminal charges that they manipulated the prices of foreign currencies, NYT reports. Last November, regulators fined five major banks a total of $3.4B for failing to stop traders from trying to manipulate the foreign exchange market, following a year-long global investigation.
In a separate probe disclosed today, the NY Department of Financial Services was reported to have sent subpoenas to Goldman Sachs, Credit Suisse, BNP Paribas and Societe General, expanding its investigation of whether the banks’ electronic forex trading platforms allowed them to front-run clients. At issue is a latency period between the time an offer is floated and accepted. The department is already probing Barclays and Deutsche Bank over similar concerns and installed monitors at those banks in recent months.

Reuters reports an unnamed official says HSBC could see its 2012 deferred prosecution deal with US authorities over anti-money laundering reopened as a result of separate, ongoing probes into the bank’s alleged role in manipulating currency rates and helping Americans evade taxes. Obama’s nominee for attorney general, Loretta Lynch negotiated a deal with HSBC two years ago that saw it avoid criminal charges but Lynch says DoJ still has powers to act. In the 2012 settlement HSBC was fined $1.9 billion over money-laundering with Mexican drug cartels, including the notorious Sinaloa Cartel, and breaches of US sanctions; it is the largest money laundering case in history; the fine equals about 5 weeks profits. No individual at HSBC was fined or charged. The harshest punishment appears to be partial deferral of some bonuses.

Lynch has sent a letter to Senator Chuck Grassley of the Senate Judiciary Committee, writing that the 2012 Deferred Prosecution Agreement (DPA) “addresses only the charges filed in the criminal information, which are limited to violations of the Bank Secrecy Act for failures to maintain an adequate anti money-laundering program and for sanctions violations. The DPA explicitly does not provide any protection against prosecution for conduct beyond what was described in the Statement of Facts.”

Lynch is scheduled to replace AG Eric Holder, who essentially avoided prosecuting big banks out of fear that it might create global uncertainty if a bank was criminally prosecuted and lost its charter. I’m not sure how being a bagman for drug cartels and tax cheats promotes global financial stability. Maybe that’s something the new AG can answer.

FINANCIAL REVIEW

The Failure of the Holder Doctrine

Sinclair Noe — September 25, 2014

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Financial Review

Podcast: Play in new window | Download (Duration: 13:16 — 6.1MB)

DOW – 264 = 16,945
SPX – 32 = 1965
NAS – 88 = 4466
10 YR YLD – .06 = 2.51%
OIL – .32 = 91.21
GOLD + 5.30 = 1222.90
SILV – .18 = 17.60

In economic news:
For the week ending Sept. 20, seasonally adjusted initial claims for unemployment compensation were 293,000, up 12,000 from the previous week’s revised level of 281,000. For the comparable week of 2013, the figure was 316,000.

Orders for durable goods dropped 18.2% in August; which sounds absolutely horrible until you put in in perspective; durable goods orders were up 22.5% in July. It sounds like the economists behind this report need to step away from the crack pipe, but the real reason for the volatility is airplane orders, which are for big expensive durable goods, and usually in big, expensive contracts. For example, Boeing took orders for 107 new planes in August, but that’s down from 324 orders in July. Stripping out the transportation sector, order rose 0.7%. Orders for core capital goods – a broader measure of business investment – climbed by 0.6% in August.

Tomorrow the government will reveal the third of three regular estimates of growth in the period of April to June. The gain in GDP is likely to be raised to 4.7% from a prior estimate of 4.2%, mainly because fresh data show that consumers spent much more on health care than initially estimated. If so, that would mark the fastest spurt of growth since the recession ended in mid-2009. The third quarter ends in just a few days, and it is estimated that 3Q GDP expanded at about a 3.2% pace.

The war continues. French fighter jets struck ISIS targets in Iraq and US fighter jets struck ISIS targets in Syria. A third night of air raids by the United States and Arab allies targeted ISIS controlled oil refineries in eastern Syria that have been a major source of revenue for the terrorist group. Britain announced today that it too would join air strikes against ISIS in Iraq, after weeks of weighing its options. Prime Minister David Cameron recalled parliament, which is expected to give its approval tomorrow.

Iraq’s Prime Minister Haidar al-Abadi, in New York to attend a UN meeting, said he had credible intelligence that ISIS networks in Iraq were plotting to attack US subways and French metro trains. US intelligence officials say they have no evidence of specific threats.

The Russian parliament is considering a proposal that would allow the Kremlin to seize foreign assets on Russian soil, and there are a lot of foreign assets in Russia, many of them oil related.

Attorney General Eric Holder is resigning. He will step down when a successor is confirmed for the post. Holder has been Attorney General for nearly six years, making him one of the longest serving AGs in our history. He was also the first African American AG. White House officials are already pushing out narratives about Holder’s “historic legacy of civil rights enforcement and restoring fairness to the criminal justice system,” but there is one area where Holder was an absolute failure: going after the banksters on Wall Street.

As of today, there has been no significant surge in criminal cases stemming from the financial crisis, to the profound annoyance everyone who sees aggressive prosecution as the only deterrent for future fraud. Instead, Holder has preferred blockbuster civil settlements, including a recent $13 billion deal with JPMorgan Chase CEO Jamie Dimon and an impending agreement with Bank of America that could top $12 billion. That sounds like a lot of money, but the actual amounts are…, well nobody really knows what the actual amounts are; we do know that it is significantly less than the headline numbers after factoring in tax accounting and credits for actions already being undertaken by the banks; what has come to be known as “soft” consumer relief; things like banks getting credited for the amount of a short sale that was going to happen anyway. And there has been lack of transparency around how these penalties are being paid to aggrieved consumers. One federal judge, rejected a settlement with Citibank in 2011, called the fine “pocket change”. Holder’s Justice Department appealed; making certain the fine was not too harsh for the banking giant.

Under Holder, the Justice Department greatly expanded the use of deferred prosecution agreements with large corporations, from financial firms to agricultural giants. These are arrangements that take the place of criminal prosecutions; instead, the offending corporation supposedly admits wrongdoing, pays a fine, which is typically a small fraction of yearly profits, and agrees to remedy internal problems that lead to the crime. In return, the government agrees not to prosecute.

There are a couple of problems with the deferred prosecution agreements, or DPAs. First the banksters never really got around to admitting wrongdoing. The admissions of wrongdoing have been incredibly vague, at best. In at least one case, involving Libor rate rigging, the CEO of Barclays gave a written admission as part of the DPA, and then went out and made public claims that he had done nothing wrong. Another problem with DPAs is that they do not act as a deterrent. The idea is supposed to be something similar to a probationary period for the bank; stay out of trouble and the prosecutors will not go after harsher punishment. The reality is that DPAs are repeatedly violated without consequence.

Perhaps the most egregious example came when Justice allowed HSBC to enter deferred prosecution for wide-ranging multibillion-dollar money laundering at the bank on behalf of large illegal drug operations and also terrorist groups. There was ample evidence that HSBC had set up separate teller windows at its Mexican bank branches to accept the large trays of cash coming from the Mexican drug cartels. And there was solid evidence that HSBC had conducted business with Iran, and Cuba and other entities on a sanctions blacklist. The punishment amounted to about 2 months’ profits. If you’re going to put people in jail for having a joint in their pocket or for slinging dime bags on the corner in a city street, you cannot let people who laundered $850 million for the worst drug offenders in the world walk. But that’s exactly what Holder did, time after time after time.

In March, the Justice Department’s own inspector general released a report that found that the criminal division’s efforts to hold Wall Street executive accountable were a low priority, and in some cases the lowest possible priority, despite Holder’s claims that it was at the top of his to-do list.

Holder has tried to explain his lack of prosecutions relating to the 2008 collapse by claiming the cases were too hard to prove, but that is a weak argument. The Sarbanes Oxley Act, for example, would provide a straightforward template: it makes it a crime for executives to sign inaccurate financial statements, and there is ample evidence that Wall Street CEOs were aware of the toxicity of the sub-prime mortgages sold by their firms.

Late last year, Judge Jed Rakoff of the Federal District Court of Manhattan published an essay titled, “The Financial Crisis: Why Have No High-Level Executives Been Prosecuted?” Rakoff cited the Financial Crisis Inquiry Commission report that found multiple examples of fraud. He suggested a doctrine of “willful blindness” at Holder’s Justice Department and said “the department’s claim that proving intent in the financial crisis is particularly difficult may strike some as doubtful.” Needless to say, it is rare that a sitting judge publicly calls out the nation’s top cop for what amounts to cowardice. Advocates for financial accountability often point to the Savings and Loan crisis as a counter-example of Holder’s failure to prosecute: despite much smaller-scale fraud, 1,000 bankers were convicted in federal prosecutions and many went to prison.

Holder’s failure to prosecute had a name: the Holder Doctrine; and its origins go back to the days of Enron and the prosecution and conviction of Arthur Andersen, the former “Big Five” accounting firm convicted of obstruction of justice for destroying documents relating to the Enron scandal. The prosecution and collapse of Arthur Andersen cost many otherwise decent accountants their livelihood. Holder admitted as much in Senate testimony last year. He said:
“I am concerned that the size of some of these institutions becomes so large that it does become difficult for us to prosecute them when we are hit with indications that if we do prosecute — if we do bring a criminal charge — it will have a negative impact on the national economy, perhaps even the world economy,”… “I think that is a function of the fact that some of these institutions have become too large.”

Holder continued, acknowledging that the size of banks “has an inhibiting influence.” He said that it affects “our ability to bring resolutions that I think would be more appropriate.”

According to the Holder Doctrine and Justice Department guidelines, before bringing a criminal case, prosecutors must consider “the nature and seriousness of the offense, including the risk of harm to the public, and applicable policies and priorities, if any, governing the prosecution of corporations for particular categories of crime.” The conventional wisdom is that simply charging a company with a crime raises the possibility of putting the firm out of business because customers, suppliers, counterparties and others will stop doing business with it. In other words, the banksters were just too big to jail.

The Holder Doctrine raises all sorts of interesting questions. Should we prosecute corporations ever? Or should we only prosecute small businesses? Should the size of an institution or its systemic importance influence the decisions of prosecutors? Wasn’t Dodd-Frank legislation supposed to fix the too big to fail problem. If the banks are still too big to jail does it also mean they are still too big to fail? If shutting down a huge bank would impose too many costs on society, then why don’t prosecutors insist that the banks be split up as a condition of not dropping the entire C-suite into the deepest hole in the gray bar hotel?

We don’t yet know Holder’s successor at Justice, but there should be a litmus test for the new AG. Keep it simple. Just ask if they believe in justice for all?

Tuesday, August 19, 2014 - It’s Just a Matter of Time

Financial Review with Sinclair Noe

DOW + 80 = 16,919
SPX + 9 = 1981
NAS + 19 = 4527
10 YR YLD+ .02 = 2.40%
OIL (sept) = 94.48
GOLD – 2.00 = 1296.20
SILV - .18 = 19.50

The consumer price index rose a seasonally adjusted 0.1% in July. Food prices rose 0.4%, but energy costs declined 0.3%; the first drop in energy prices since March. Consumer prices have risen an unadjusted 2% over the past 12 months, down slightly from June. Prices surged in the early spring but have since tapered off. Excluding volatile food and energy prices, the core rate has risen 1.9% in the same span, unchanged from the prior month. Almost all of the increase in consumer prices can be traced back to housing costs, or shelter prices; over the past year, shelter prices are up 2.9%.

Hourly wages have risen about 10% overall since June 2009, to $24.45 an hour. But over the same span they’ve slipped 0.3% in “real” or inflation-adjusted terms. Since the Great Recession ended five years ago, the amount of money Americans earn each hour after adjusting for  inflation has actually fallen. And that largely explains why the economy is growing so slowly.

The Federal Reserve should be in no hurry to raise interest rates because there is no serious threat from inflation, at least not now.

According to the US Travel Association and GfK, a market research firm, you might not take a vacation this year. About 40% don't plan on using all of our paid time off. The share of American workers taking vacation is at historic lows. In the 1970s, about 80 percent of workers took a weeklong vacation every year. Now, that share has dropped to a little bit more than half. The declining popularity of vacation has wide-ranging effects not just on workers, but also on their employers and indeed the overall economy. Studies have found that taking fewer vacations is correlated with increased risk of heart disease; other research has shown that workers who take vacations, or even a small break during the workday, are more productive when they return. This vacation aversion is a North American phenomenon; the US is the only “advanced” economy that doesn’t require companies to give paid vacation days.

Housing starts rose to an eight-month high in July. Groundbreaking for new housing jumped 15.7% last month to a seasonally adjusted 1.09-million unit annual pace; this follows 2 straight months of declines. Groundbreaking for single-family homes, the largest part of the market, increased 8.3% in July to a seven-month high. Starts for the multi-family homes segment, such as apartments, jumped 33%.

Home Depot reported quarterly profit today. Profit rose 14% to $2.05 billion. Sales rose 5.7% to $23.8 billion. The number of transactions rose 4.2%. Home Depot said it expects same store sales to grow faster in the second half of the year, as more people take on remodeling projects. However, Home Depot maintained its full-year sales growth forecast of about 4.8%. Lowe's, the world's second-largest home improvement company, is scheduled to report results tomorrow.

Back in 2006 bust, when the housing market went bust, Phoenix was one of the first cities to get hammered with lower prices; in 2011, Phoenix was one of the first cities to snap back; prices, off by nearly 60% from peak, then rebounded sharply; home prices are up nearly 46% from the 2011 low. The number of homes in some stage of foreclosure has fallen to about 4,300 homes today from more than 50,000 four years ago.

Now, prices and sales are cooling off. Inventories of homes listed for sale have climbed to their highest level in three years while the number of houses sold in June fell 12% from a year earlier. Investors accounted for nearly 15% of homes bought in June, down from about one-quarter last year and one-third of sales in June 2012. The market is moving away from from bargain-hunting investors, who typically pay cash for distressed properties, to traditional buyers with mortgages. The Phoenix market is slowly moving back to normal, but there is still a long way to go.

Employment in Phoenix, after expanding at an average annual pace of 2.6% and 2.8% in each of the last two years, is up just 1.5% so far this year. When people don’t have a job or are not secure in their jobs, they don’t buy houses. The sluggish local economy is compounded by consumers still too battered from the bust to think about getting a loan. Some don't have sufficient equity to turn a house sale into an adequate down payment on their next purchase. Others suffered credit blemishes or income hits that make banks reluctant to lend.

Reuters reports Phoenix based PetSmart is exploring a potential sale of the company. Jana Partners, which has reported a 9.8% stake in PetSmart, has been calling on the company to pursue a sale after what it calls years of financial underperformance. There is no guarantee the review will lead to a deal and PetSmart could still determine that it would be better off on its own.

Today marks the ten year anniversary of Google. The company went public August 19, 2004 at a price of $85 a share; and it’s gone up 1,304% since then. A few stocks have done better over that time, but only a few, and of those, only Apple was in the S&P 500 10 years ago when Google went public. Today, Google’s revenue tops $65 billion, more than all but 40 US companies. Net profit margins exceed 20%, higher than all but three. Ten years ago, Google had a forward PE of 52; today, the forward PE is 20. So as share prices have constantly moved higher, valuation has constantly moved lower; which is a neat trick.

Over the past 10 years, or you could say over the past 25 years, a great deal of wealth has flowed to the tech giants of Silicon Valley; which means that the wealth has flowed away from Wall Street. And the techies have finally figured out they don’t need Wall Street bankers to make a deal. According to data from Dealogic, approximately 70% of the tech deals completed in early August have been sealed without a Wall Street bank consultant helping the buyer identify the transaction. And over the past two years, the trend has been growing, with more than half the tech deals in 2012 occurring without a banker working on behalf of the buyer. This M&A consulting shift highlights a subtle but growing divide between fee-eager bankers and the tech giants of today.

Maybe the problem is that the banks just have a hard time remembering who their clients are. Case in point: you may remember the story of Standard Chartered, the British bank, which back in 2012 paid about $667 million to settle charges that it had engaged in money laundering by making transfers for clients in Iran and other countries that were covered by American sanctions. They had to add compliance monitors. A few months later the bank’s chairman denied any wrongdoing, which was a direct violation of the settlement; and he was forced to quickly recant. Today, it seems that all of those new legal staffers and crime-fighting committees also didn’t get the memo about what they are meant to be doing. New York’s financial regulator slapped another $300 million fine on Standard Chartered for “failures to remediate anti-money laundering compliance problems as required” in its previous settlement.

Part of the bank’s 2012 agreement included hosting an independent monitor permanently installed by regulators on-site to vet anti-money laundering procedures. This monitor was back-testing the bank’s processes and found them lacking, particularly when it came to flagging suspicious dollar transfers from its Hong Kong and United Arab Emirates affiliates.

In a statement, Standard Chartered said that it “has already begun extensive remediation efforts and is committed to completing these with utmost urgency.” And this time they really, really mean it; not like last time. So, this raises the question of how many times a bank can break the law, and get away with a slap on the wrist. What does a bank have to do before they forfeit their charter?

The New York State regulator, Benjamin Lawsky, said: “If a bank fails to live up to its commitments, there should be consequences. That is particularly true in an area as serious as anti-money-laundering compliance, which is vital to helping prevent terrorism and vile human rights abuses.”

So, the penalty is nearly $1 billion in fines over the past couple of years, but actually works out to about 12% of bank profits over the same time.

You might also remember last month when Attorney General Eric Holder announced the $7 billion settlement with Citigroup for its role in packaging troubled mortgages into securities and selling them as investments in the years before the crisis, even though a bunch of Citigroup bankers knew better and did it anyway. And last November, there was a settlement with JPMorgan. And there is a chance that later this week we will see a settlement announced with Bank of America.

It all falls in line with the “too big to fail” idea known as the Holder Doctrine, which stems from a 1999 memo, when then Deputy AG Holder included the thought that big financial settlements may be preferable to criminal convictions because a criminal conviction often carries severe unintended consequences, like loss of jobs and the inability to continue as a going concern. Holder was thinking of the collapse of Arthur Anderson after the collapse of Enron. So, now Holder holds to the idea of settlement over prosecutions.  Instead of the truth, we get from the Justice Department a heavily negotiated and sanitized “statement of facts” about what supposedly went wrong.

The problem is, of course, that these settlements allow for the Wall Street bankers to get away with their bad behavior without being held the slightest bit accountable. And with no real deterrent, as Standard Chartered has just confirmed, it’s just a matter of time until they do it all over again.

Monday, July 14, 2014 - Clearing Up Outstanding Issues

Financial Review with Sinclair Noe

DOW + 111 = 17,055
SPX + 9 = 1977
NAS + 24 = 4440
10 YR YLD + .03 = 2.55%
OIL + .22 = 101.05
GOLD – 32 = 1307.80
SILV - .54 = 21.00

The Dow Industrial Average hit an intraday high of 17,088, but couldn’t close above the old closing high of 17,074 from July 2.

I woke up this morning and checked the Euro markets; the headline read: Global Stocks mostly higher as Portuguese debt concerns ease. Banco Espirito Santo’s parent company sold part of its stake in the bank to pay off short-term debt, so everything is cool. Portuguese bond prices popped. Nothing to see here. Move along, move along.

Just to refresh your memory, Banco Espirito Santo is 25% owned by Espirito Financial Group, which is in turn 49% owned by Espirito Santos Irmaoes, which in turn is wholly owned by Rioforte investments, which in turn is wholly owned by Espirito Santo international. What’s the point of owning a bank if you can’t make loans to yourself; and that’s what happened, until last week, when Espirito Santo International, the parent company failed to make a payment on short-term debt. The collective companies under the Espirito Santo umbrella have borrowed several billion from the bank, and then the bank made about 8 billion euros in loans to Angola, and that has a non-performance rate approaching 90%. And I know you’re wondering why you should be concerned about loans to Angola, and it’s because everything in finance is leveraged. No loan lives in isolation.

Panic ensued. The fear was that creditors and/or depositors might be on the hook in the event of a shortfall; no one could be certain because of a lack of transparency. But the bank says they have a cushion; the parent company sold a few assets to come current on the loan. Hopefully, I’ve cleared up the transparency issue. Regulators say there’s nothing to worry about and they should know because they didn’t see this coming in the first place, and so there’s nothing to worry about; the situation in Portugal is contained, and global stocks moved higher.

Here in the US, we know a thing or two about banks behaving badly. Today, as expected, Citgroup agreed to pay $7 billion to settle civil claims the bank misled investors about toxic mortgage backed securities leading up to the 2008 crash. Citigroup admitted it was aware that "significant percentages" of sample loans did not comply with underwriting guidelines but the bank pooled them into securities anyway. In one 2007 deal, a Citigroup trader told colleagues in an email he had reviewed a due diligence report on the poorest quality loans, and that they "should start praying." Many of the loans listed unreasonable borrower incomes or home values below the original appraisals, the trader wrote, saying he "would not be surprised if half of these loans went down." Citigroup still securitized loans from the pool. Quite simply, they knew the mortgage backed securities were full of bad loans, they lied about it to make the sale.

Under the agreement, Citi will pay $4.5 billion in cash and provide $2.5 billion in aid to low-income tenants and struggling homeowners; details of terms of the help and how many will benefit are not yet known, but there’s no indication people they will go back to help make people whole. Some homeowners with Citi mortgages could see the amount of their loans reduced, or could have their interest rates reduced. There will also be down payment and closing cost assistance to future homebuyers. But none of that starts until 2018. I don’t know why.

Last year Citi settled with the FHFA for $250 million. The regulator of Fannie Mae and Freddie Mac had sued the bank over soured mortgage securities sold to the taxpayer-owned entities. The cash portion consists of a record $4 billion civil payment to the Justice Department, double JPMorgan’s penalty in November, and $500 million to resolve claims from five state attorneys general and the Federal Deposit Insurance Corp.

And there is a little gift for Citi; the state AG and FDIC payments would be deductible, along with any costs Citigroup actually incurs in relation to consumer relief, which could be less than the $2.5 billion amount of relief in the settlement.

As part of the settlement, Citigroup “will take a charge of approximately $3.8 billion pre-tax in the second quarter of 2014." Second-quarter earnings results were also posted this morning, and if you exclude the multi-billion dollar settlement, Citi beat expectations. The settlement wipes out the quarter’s earnings, but if you look the other way, it was a kick ass quarter for earnings. Citigroup exceeded Wall Street expectations in the second quarter with adjusted earnings of $1.24 a share. On that basis, analysts had been expecting Citigroup would earn $1.05 a share. Citi posted a 15% drop in trading revenue. Investment banking revenue rose 16% from a year ago. Mortgage originations were down.

This is a civil settlement, not a criminal settlement. Attorney General Eric Holder at a press conference said: “Citi settlement doesn’t absolve bank, employees from criminal charges.” Of course nobody expects the Department of Justice to pursue criminal charges. Citi is also under investigation for possible fraud and money laundering in its Mexican unit. And if you look at all the wrongdoing, you might come to the conclusion that this is just a corrupt organization.

If you’re wondering where the next subprime meltdown will occur, well you can pick from a wide selection of possibilities. Markets seem to be considering only a very narrow spectrum of potential outcomes. They have become convinced that monetary conditions will remain easy for a very long time, and may be taking more assurance than central banks wish to give. Debt ratios in the developed economies have risen by 20 percentage points to 275% of GDP, since the Lehman crisis. Credit spreads have fallen to wafer-thin levels. Companies are borrowing heavily to buy back their own shares, and 40% of syndicated loans are to sub-investment grade borrowers, a higher ratio than in 2007, with fewer protections from loss.

The Bank of International Settlements, the central bank for the central bankers of the world, warned it is annual report two weeks ago that equity markets had become "euphoric". Volatility has dropped to an historic low. European equities have risen 15% in a year despite near zero growth and a 3% fall in expected earnings. The cyclically-adjusted price earnings ratio of the S&P 500 index in the US reached 25 in May, six points above its half-century average. Overall, it is hard to avoid the sense of a puzzling disconnect between the markets’ buoyancy and underlying economic developments globally.

Some of you might pick the student loan market, with over $1 trillion in outstanding loans and growing. The deeply indebted college graduate has become a stock character in the national conversation: the art history major with $50,000 in debt, the underemployed barista with $75,000, the struggling poet with $100,000. That’s not really typical of student loan debt. Only 7 percent of young-adult households with education debt have $50,000 or more of it. By contrast, 58 percent of such households have less than $10,000 in debt, and an additional 18 percent have between $10,000 and $20,000.

That’s not to say student loan debt is not a concern, it is, and it is growing. In 2010, 36 percent of households with people between the ages of 20 and 40 had education debt, up from 14 percent in 1989. The median amount of debt, among those with debt, more than doubled, to $8,500 from $3,517, after adjusting for inflation. Student loan debt is a problem, but it isn’t a new problem, it’s just a trillion dollar problem now, but it hasn’t imploded in the past 2 decades and there doesn’t seem to be an immediate catalyst.

How about a bubble in energy? Ambrose Evans- Pritchard writes: Data from Bank of America show that oil and gas investment in the US has soared to $200 billion a year. It has reached 20% of total US private fixed investment, the same share as home building. This has never happened before in US history, even during the Second World War when oil production was a strategic imperative.

The International Energy Agency (IEA) says global investment in fossil fuel supply doubled in real terms to $900 billion from 2000 to 2008 as the boom gathered pace. It has since stabilized at a very high plateau, near $950 billion last year. Output from conventional fields peaked in 2005. Not a single large project has come on stream at a break-even cost below $80 a barrel for almost three years….

There are, of course, other candidates for the bubble prize of the current economic cycle, now into its 22nd quarter and facing the headwinds of US monetary tightening. China’s housing boom has echoes of the Tokyo blow-off in 1989, and is four times more stretched than US subprime in 2006, based on price-to-income…Emerging markets have racked up $2 trillion in foreign currency debt since 2008. They are a much larger animal than they were during the East Asia crisis of the late 1990s, so any crisis would do more damage.

Yet the sheer scale of “stranded assets” and potential write-offs in the fossil industry raises eyebrows. IHS Global Insight said the average return on oil and gas exploration in North America has fallen to 8.6%, lower than in 2001 when oil was trading at $27 a barrel. What happens if oil falls back towards $80 as Libya ends force majeure at its oil hubs and Iran rejoins the world economy?

And that’s before we get to another threat to fossil fuel investments that Evans-Pritchard mentions: that governments might get serious about climate change and impose meaningful restrictions, like hefty carbon taxes. Right now, that seems like a tail risk, but the crisis just past was a tail event as well. And much higher energy prices resulting from restriction on fossil fuel production would slow down economic activity markedly, which again could blow back to leveraged investors in unexpected ways.