Financial Review

Fuld Again

Sinclair Noe — May 29, 2015

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DOW – 115 = 18,010
SPX – 13 = 2107
NAS – 27 = 5070
10 YR YLD – .04 = 2.09%
OIL + 2.62 = 60.30
GOLD + 2.20 = 1191.00
SILV + .04 = 16.80

The Dow Jones industrial average ended about 115 points lower after falling more than 150 points during the session. The blue chip index posted a 0.9 percent gain for May. The S&P 500 ended up 1.1 percent for the month, and the Nasdaq outperformed with a 2.6 percent monthly gain.

Year to date the Dow Industrials are up about 1 percent, the S&P 500 is up about 2 percent, and the Nasdaq is up about 7%. This has been an extremely tight trading range to start the year. Another way to look at it is consolidation. And at some point the markets will break out of this tight range. The question is whether it will be a breakout or a breakdown. And if you’re looking for a divergent signal, the Dow Transports traded down for the day, for a 3.4 percent loss in May. The index is down 9 percent for the year.

Today’s big economic report was that first quarter Gross Domestic Product in the U.S. shrank at a 0.7 percent annualized rate, revised lower from a previously reported 0.2 percent gain. The revisions showed the trade gap widened more than previously estimated, inventories grew at a slower pace but consumer spending climbed less than previously estimated. That was partly offset by a gain in home building. Income adjusted for inflation rose at a 1.4 percent annualized rate. While the income and GDP should theoretically match, the different methods used in calculating the numbers cause them to sometimes diverge. And that suggests the GDP may be understated, or maybe income is overstated.

Trade was the biggest drag on top-line GDP figures in the opening months of the year. U.S. exports of goods fell by the most since the first quarter of 2009 while overall imports climbed. The widening deficit subtracted 1.9 percentage points from economic growth. A stronger dollar has tamped down overseas demand for US-made goods while making foreign products cheaper to import. Meanwhile, congestion at West Coast ports constrained trade earlier in the year.

The GDP report included a look at inflation; the price index for personal consumption expenditures fell 2.0% in the first quarter of the year. Prices excluding food and energy rose a downwardly revised 0.8%, well below the Fed’s 2% inflation target. Consumers cut their spending in the first quarter of the year, one factor behind halting economic growth. Personal consumption expenditures rose at a downwardly revised 1.8% rate from January through March. Spending on services climbed 2.5% but purchases of goods rose a modest 0.5%. By contrast, consumer spending was up at a 4.4% pace in the final quarter of 2014.

The GDP revision was not as bad as most analysts anticipated; still, it was a big drop from the initial estimate 0.2% growth. And there will be a third revision. Sometimes it seems the numbers are, shall we say – quirky. True enough, but it isn’t easy to calculate the output of the entire country. It probably is less than precise, but it is what we have.

The University of Michigan consumer sentiment index dropped to 90.7 from 95.9 in April. It marked the biggest decline since the end of 2012. Consumers remain cautious about the current economy this month, but the report also said consumers are optimistic about their future financial situations. A separate report showed Chicago-area manufacturing activity contracted; the Chicago PMI unexpectedly fell to 46.2 in May versus a read of 52.3 in April; new orders and inventories slipped.

US crude oil inventories fell for a fourth straight week. Crude oil inventories fell by 2.8 million barrels last week, down for the fourth week. OPEC meets next week to set policy for the next six months and is widely expected to maintain a collective production target of 30 million barrels per day, although they have actually been overproducing by about 1 million barrels per day.

The dollar traded flat, with the euro above $1.09 and the yen near 13-year highs. The greenback is on track for a monthly gain after posting a loss in April.

The United States warned of a possible accident for the world economy if Greece and its creditors miss their June deadlines to avert a debt default. Germany said there was no sign of a breakthrough. IMF Director Christine Lagarde says: “A Greek exit is a possibility.” With Athens struggling to make repayments due next week, the debt stand-off between Greece and its European Union partners overshadowed a meeting of policymakers from the Group of Seven.  US Treasury Secretary Jack Lew repeated warnings not to minimize the global stability risk of Greece sliding out of the euro zone.

Payments are due on June 5^th and it is looking like the best possible outcome is to kick the can further down the road because no real resolution is in sight. Economist Nouriel Roubini said he expects “pots of money” to materialize to avoid a Greek default. He didn’t specify from where those pots might be unearthed. If he’s wrong, June might finally be the month when the curtain closes on the Greek tragedy.

The State Department has removed Cuba from the list of state sponsors of terrorism. The decision was expected following a review earlier this year. In a statement, the department said it still has significant concerns and disagreements with a wide range of Cuba’s policies. But the department found that Cuba has not provided any support for terrorism in the last six months and has provided assurances that it will not do so in the future.

The New York Post reports Intel is close to a deal to buy fellow chipmaker Altera for about $15 billion, and a deal is “likely by the end of next week.” Altera reportedly rejected an Intel $54/share bid just a few months ago and then broke off sales talks, but that was before Altera issued disappointing earnings. Intel also has the option to launch a hostile bid after June 1, when its standstill agreement with Altera expires.

The corruption scandal engulfing FIFA is having corporate sponsors ponder whether to back away from the powerful marketing outlet, although severing ties will not likely be easy. FIFA collected $1.6 billion in sponsorship money in the four years leading up to the 2014 World Cup, nearly half of which came from its six top “partners”: Visa, Adidas, McDonald’s, Coca-Cola, Emirates, and Hyundai. Prosecutors say some of the bribery money was funneled through major global banks including JPMorgan, Citigroup, Bank of America, UBS, and HSBC.  Meanwhile, in a vote this morning Sepp Blatter was re-elected to a fifth term as FIFA President, despite the many calls for him to step down. Protesters stormed the building in Zurich where the vote was held.

And we wrap up today’s commentary with another edition of “Banks Behaving Badly.” Today’s Triple B features some old names: Jamie Dimon and Dick Fuld.

At JPMorgan’s annual meeting last week, only 61 percent of votes cast endorsed the bank’s executive compensation, which confirmed Jamie  Dimon’s $20 million a year plus pay package. Thirty-six percent backed plans to separate Chairman and CEO Jamie Dimon’s dual position after he leaves. Dimon went on a rant against shareholders who followed recommendations from advisory firms like Institutional Shareholder Services and Glass Lewis. Dimon said: “God knows how any of you can place your vote based on ISS or Glass Lewis. If you do that you are just irresponsible, I am sorry. And, you probably aren’t a very good investor, either. I know some of you here do it because you are lazy.”

I am pretty certain that you wouldn’t talk to the owners and/or customers of your company or business this way. I know I wouldn’t talk to the ownership or customers of my business like that, but then again, I am not an elitist banker that takes bailout money from taxpayers. Dimon didn’t stop there. He took part of his time at the conference to rail against Goldman Sachs suggestion that JPMorgan would be worth much more if it was split up into parts. Dimon argued that bigger is better. Then in a separate announcement JPMorgan Chase will lay off more than 5,000 workers by next. The cuts began earlier this year and will reduce JPMorgan’s workforce by at least 2 percent.

Dimon also said that JPMorgan’s criminal guilty plea for rigging the foreign exchange market was “a terrible thing” to go through, and the bank would probably lose some business because of it. Yep, it probably is a terrible thing to get caught. And upon further consideration the shareholders who voted to give Jamie Dimon $20 million in pay probably are stupid and lazy. If they were smart and had some gumption, they would have paid him spit.

Meanwhile, Dick Fuld crawled out from under his rock. You may remember that Fuld is the disgraced former CEO of Lehman Brothers. He appeared at a conference in New York to deliver a keynote address titled, “How Emerging Growth Companies Can Succeed in Today’s Capital Markets: Perspectives from My Journey.” What he actually talked about was a little different. Fuld blamed regulators, borrowers and rumors for the end of the 158-year-old, $47 billion firm he led to the largest bankruptcy in US history. It was a “perfect storm” that sank Lehman, not his own leadership or decisions, Fuld said, while touting Lehman’s “success” to the audience. He also claimed that every one of the 27,000 employees who once worked for Lehman had been a risk manager, because they owned stock in the firm.

If your memory goes back a full  seven years, you might recall that Fuld actually thought the worst of the financial upheaval was over in 2008 and pushed employees to take more risk, marginalizing or firing any who questioned him; even as Fuld scrambled, ineptly to find suitors. At one point he took a question from an attendee at the conference; they asked why he didn’t stay low profile. Fuld answered: “Why don’t you just bite me?”

Thursday, May 08, 2014 - Monetary Policy Is Not A Panacea

Financial Review with Sinclair Noe

DOW + 32 = 16550
SPX – 2 = 1875
NAS– 16 = 4051
10 YR YLD + .01 = 2.60
OIL – 01 = 100.24
GOLD - .10 = 1290.80
SILV - .15 = 19.25

Stocks were mostly lower today. The closing numbers looked quiet but it was a roller coaster ride with the Dow Industrials up about 150 points. The Nasdaq also squandered early gains to finish in negative territory. The Nasdaq ended lower for a third straight session, its longest losing streak since early April. A late selloff in utilities and energy, among the best performing sectors recently, dragged the S&P 500 lower. Of 445 companies in the S&P 500 that have reported earnings, 68.2% beat expectations, above the 66% beat rate for the past four quarters. Profits are expected to rise 5.3% this quarter.

The number of people who applied for new unemployment benefits last week fell to the lowest level in a month. Initial jobless claims dropped by 26,000 to a seasonally adjusted 319,000.

The federal government had a budget surplus of $114 billion in April. That is $1 billion more than a year ago and would be the biggest April surplus since 2008. For the fiscal year to date, CBO estimates the deficit to be $301 billion, down $187 billion compared to the same period in 2013.

Retailers posted modestly higher sales in April. Results from March and April are generally viewed together because of the shifting nature of Easter, which fell about three weeks later this year and moved into April from March last year. For the two-month period, retailers reported 3.4% growth, down from 3.5% a year earlier.

Consumer credit balances increased by $17.5 billion in March to a total of $3.141 trillion. The gain was a bigger increase than the $15.5 billion expected by economists. This was the biggest month-over-month growth rate since February 2013. Nonrevolving debt like college and auto loans grew by $16.4 billion. Revolving debt like credit cards increased by $1.1 billion.

At 4.21%, the 30-year fixed-rate mortgage is at its lowest since the week of November 7, 2013, so says Freddie Mac in their new weekly report on national mortgage rates. Last week, it averaged 4.29%. A year ago, it was 3.42%. Since the housing market crashed, the Federal Reserve has used extraordinarily easy monetary policy to keep interest rates like mortgage rates low in its effort to bolster the housing market and stimulate the economy.  Lately, various housing-market metrics such as existing-home sales, new-home sales, and mortgage applications have all been flagging. Last week, we learned that the US homeownership rate was at a 19-year low, and some experts think it'll never come back.

Yesterday, Fed Chair Janet Yellen said, "One cautionary note, though, is that readings on housing activity—a sector that has been recovering since 2011—have remained disappointing so far this year and will bear watching. The recent flattening out in housing activity could prove more protracted than currently expected rather than resuming its earlier pace of recovery." That was the big takeaway from Yellen’s Congressional testimony yesterday.

Fed Chair Janet Yellen was back on Capitol Hill today for a second day of testimony. She appeared before the Senate Budget Committee.  Yellen’s favorite new line is, “Monetary policy is not a panacea.” That pretty much says it all.

There are a couple of trends that concern Yellen; long term unemployment; there are about 3.5 million workers who haven’t found a job for at least 6 months. Also, income inequality is pulling down spending and slowing the economy. Yellen would like to do something about these disturbing trends, but you know, “Monetary policy is not a panacea.”

Meanwhile, the European Central Bank was meeting to determine monetary policy for the Euroland; they decided to leave interest rates unchanged at 0.25%. ECB President Mario Draghi’s favorite line is “whatever it takes” and he’s been saying it for a couple of years. Euroland is slogging along with persistently low inflation and high unemployment. Draghi says something should be done, but he did not say what; and the ECB might address stimulus of some sort or another next month or so.

Perhaps Draghi is waiting to see how the situation in Ukraine plays out; right now the picture is smoky and very gray. Rebels in eastern Ukraine say they will proceed with a referendum this weekend seeking autonomy even though Russian President Putin appeared to withdraw his support for the vote. Putin yesterday presided over nationwide army drills, a day after he softened his tone by promising to withdraw troops from the border. The government in Kiev says a referendum would be illegal. Putin also indicated he would pull Russian troops from the Ukrainian border, but satellite images show that probably isn’t happening. The situation involving the tug of war between the West and Russia regarding Ukraine has steadily worsened over time and now involves outright economic warfare; sanctions on one side and the threat of energy shortages on the other.

Even former Treasury Secretary Tim Geithner is coming out of exile to hawk a new book. Geithner says there had been talk about nationalizing banks back in the crisis days. On the legacy of the bailouts, Geithner rejects criticism that the Troubled Asset Relief Program benefited the rich rather than ordinary Americans. And yet he acknowledges that the too big to fail banks are bigger and more dangerous than ever.

Have you ever seen a boxer knocked out? The devastating blow is the one you don’t see coming. Mark Carney, governor of the Bank of England and head of the Financial Stability Board, an international watchdog set up to guard against future financial crises, was recently asked to identify the greatest danger to the world economy. He answered shadow banking. It is huge and growing fast, and little understood, and even less transparent. We don’t even know exactly what counts as shadow banking; basically, it refers to lending by non-bank institutions and it involves more than $70 trillion in assets, up from about $25 trillion ten years ago.

A broader definition, however, would include any bank-like activity undertaken by a firm not regulated as a bank: it could be bond trading platforms set up by technology firms, or payment systems offered by Paypal or financing offered by a retailer such as Sears, or peer-to-peer lending, or money market funds, or who knows what. At the core is the concept of credit and lending. Shadow banking fills a void left by traditional banks, which have become miserly with lending.

Yet shadow banking is poorly or non-regulated. Think of the structured investment vehicles, a legal entity created by banks to sell loans repackaged as bonds. These were notionally independent, but when they got into trouble they pulled in the banks that had set them up. Or money market funds, which seemed like a nice safe place to park cash as a stop-gap measure; they seemed conservative, nearly risk free, until they suffered a run.

Banks must now incorporate structured investment vehicles on their balance-sheets. Money-market funds must hold more liquid assets, to guard against runs. Limits on leverage have been imposed or are being considered for many forms of shadow banks. American regulators are still allowing some money-market funds to create the impression that an investor can never lose money in them. The problem for banks is that they are involved in shadow banking, either in the form of loans to shadow banks, or because the banks buy the products created by shadow banks.

One of the biggest paces for concern is China. Banks there are banned from expanding lending to certain industries, and from luring deposits by offering high returns. So they do both of these things indirectly, through shadow banks of various sorts. Some firms are setting themselves up as pseudo-banks. It is hard to imagine that all the shadowy loans to unprofitable steel mills and overextended property developers will pay off. At which point the Chinese government will likely step in a take control, but there will be a cost.

Nouriel Roubini, the New York University professor and chairman of Roubini Global Economics is known as something of an economic pessimist, and now he thinks we’re on the verge of a bubble, but not a collapse. Roubini says the Federal Reserve will keep its key lending rate low even after it lifts off from near zero, where it has rested for the few years. That slow process of normalization will keep the spigot of borrowing flowing, helping support the economy. But it will also lead to risky lending practices. Hence, a bubble is inflating that could eventually pop.

Roubini cited the return of some of the key characters associated with the period before the last financial collapse: Lots of low quality bond sales, debt without strong protections for bondholders. Roubini says: “All the risky things that were happening back in ’06 and ‘07 are back again to the same level, if not more. So we are in the beginning of a credit bubble, but just the beginning.”

Nonetheless, Roubini doesn’t see the reversal happening immediately, citing money that continues to rush into the market. For now, credit investors appear to be stuck in an uneasy equilibrium.

He’s by no means the first person to make this claim: the question of financial stability is one of the key criticisms of the Fed’s accommodative policies. Roubini didn’t criticize the central bank, so much as say that the Fed is damned-if-you-do, damned-if-you don’t.

Yeah, well, we’ve all learned that monetary policy is not a panacea.