Tunisia/Swiss banks/Gold – What’s Next?

The blow up in Egypt is going to create ripples all over the globe. It will certainly be disruptive for equities and the dollar. It will influence global bond yields and the PM markets. The oil market could be in for a short-term shock. It could have a significant affect on European GDP prospects. So there is a lot of uncertainty. I will make only one forecast of the lasting impacts of what is unfolding. Swiss banks and the Swiss government are in for another pounding over the issue of banking secrecy.

I’m sure that you have heard about the Tunisian leader who looted the vault for $60mm worth of gold as he headed (quickly) out the door. (ZH report) That story made a big stink. This story today from NZZ is going to smell worse:

From the article (my translation):

Last Wednesday the Federal Council announced: Within seven days were reports of "tens of millions of francs," received in Switzerland from the family of the deposed ruler of Tunisia Ben Ali . All assets of the family must be blocked and reported to the Department of Foreign Affairs (DFA). This action was taken by the Federal Council on Regulation by emergency law issued since last Wednesday.

So not only did Ben Ali (and his wife) attempt to steal a ton and a half of gold, they were also attempting to pirate away tens of millions in cash. As with the gold story the authorities in Switzerland moved quickly to seize the ill gotten gains and make things right. Right?

Baloney! Ali had money in Swiss private accounts way before last Wednesday:

The banks and other financial institutions reported suspect funds from the Ben-Ali clan only after the overthrow of the ruler - but not in the long years before, when he was in power and committed the alleged crimes.

Daniel Thelesklaf (first head of the unit for combating money laundering in 2000 and now director of the Basel Institute on Governance) said: “The reporting requirement in the Money Laundering Act has remained largely a dead letter. The case of Ben Ali is the best example of it”.

"There is a gap in the legislation on money laundering and potentates like Ali. Therefore, it is naive to believe that there is no other money in Switzerland of potentates or their accomplices."

Bingo! Ali had money in Switzerland for a long time and other Potentates (Kings) have money there too. This stinks. Once again Switzerland is where the bad guys go with hot money.

In the scheme of things the Tunisia story is not a big deal. The amounts involved were small. Tunisia is yesterday’s news at this point. No one really cares if the former leader tried to stash some cash in Swiss vaults.

But the number of Swiss black accounts and the aggregate amounts in them from the “Potentates” of Egypt, Saudi Arabia, Jordan will prove to be staggeringly large.

There are some folks in Switzerland who are crapping in their pants over this. The question is, “What to do?” Should they attempt to "get ahead" of the coming problem by disclosing that some “Potentates” from other areas also have accounts as did Ali? Or do they wait to see if the Potentate falls and then follow the example set with Tunisia where they act after the fact?

If they get in front of the curve they will have violated banking secrecy rules. To act first and make a public announcement regarding other hot money would cause those poor leaders to fall. For these reasons Swiss Inc. will not take any action until after the next Potentate tumbles.

The Swiss are going to look just horrible as a result. Should we lose another government (we will) and in the carnage it is disclosed that other Potentates have used Swiss banks to stash cash (we will) there is going to be some broader backlash.

Switzerland has addressed the black account problem for Americans. They are doing the same thing for a few other EU countries. That leaves the rest of the world. There is at least a trillion of foreign cash in Switzerland that is watching this aspect of the Tunisia/Egypt story. Should we see the next chapter, where the Swiss “out” some other Potentate based on “new” information, the rest of those account holders are going to get very nervous.

Should we get the headline that the Swiss have acted against another leader I would recommend getting long physical gold, fast. If hot money is not safe in a Swiss account it will go into physical gold.

Social Security will HAVE TO Change - CBO

I have these stories over the last few years on the topic of SS:

It turns out I was right. SS turned a tremendous corner in 2009. That was the last year of cash surpluses. We will never see them again. When I first made this observation I got rained on hard. Liar, charlatan, bond vigilante, "chicken-little" and a few other things were tossed at me. This week the Congressional Budget office took me a bit by surprise and proved what I have been saying all along.

Consider this slide from the CBO. This is their estimate of the surplus at SS all the way out to 2021.

The CBO’s definition of “surplus” includes script interest from Treasury. This script is not a cash item. All other flows into and out of SS are actual cash receipts and disbursements. Therefore the CBO surplus minus non-cash interest is equal to net cash flow. The Social Security Trust Fund projects this interest surplus in their report to congress. Of all of the variables, the interest income is the easiest to forecast. The SSTF estimate for script interest minus CBO surplus produces these results:

That’s right. SS will run a cash deficit forever.  They will run up a trillion dollar (+) cash deficit over the next decade. All of it must be borrowed in the public market. This big nut must be added to the trillion dollar deficits that have to be financed. Even worse is the trend. It starts off slow but then explodes. It is truly a slippery slope that we are now on.

IMHO even the CBO numbers will not be realized. It will be worse. The CBO assumes that there will no economic recessions over the next ten years. History says that is a very unlikely outcome. SS gets killed in periods of low relative employment and high relative inflation (AKA: Stagflation). This economic condition will be the result of ZIRP and QE. Those policies will bring us inflation, but very few new jobs.

The SSTF told Congress, the press and the American people that the SSTF was a 2037 problem in their 2010 report. That date has been used repeatedly in defense of the program. Supporters point to something that is far into the distant future and say, “Worry about something else”. Wrong! The CBO has confirmed it. The future is today.

Shipping News

A friend calls from Athens this morning moaning and groaning about the sorry state of the shipping industry. I ask, “What’s new that makes you so grumpy?” He points me to this story concerning the bankruptcy of a Korean shipping company called Korean Lines (“KL”) .

My friend made the following points on this development:

-KL owns about 30 ships and manages another 120. As a result of the chapter filing almost all of these ships are coming back onto the spot market. The KL financial status was known by many insiders (bankers/brokers/shippers). This was a contributing factor in the big run off of the Baltic Dry index recently.

-Spot shipping rates have nowhere to go but down as a result.

-The Chinese ship construction schedule will bring many new ships into service this year. This will depress rates further. Cargo ship asset values are falling.

-Some banks will take big losses. Other shipping companies like KL are now on the edge.

-The dry bulk cargo industry has crossed (once again) from boom to bust.

This is just one man’s opinion. He happens to own a dozen vessels.

Questions on the WTI/Brent spread

I’m looking at something in the oil market and can’t make sense of it. Possibly someone could straighten me out.

The Brent/WTI spread hit $10 today. I can’t remember that happening before. The spread has been widening for some time. It jumped $4 recently.

The excuse offered is that the Cushing Oklahoma facility that is the settlement for the WTI contract is flush with oil. Not only is it full, a new pipeline is coming.

I find this interesting. It would appear that the US has a cheaper source of oil than does Europe. Yet we import more than half of what we consume. How do we save $10 over Europe? Do we really save that $10?

A significant amount of crude comes to the Gulf coast. That is priced as Light Louisiana Sweet (“LLS”). The LLS is trading at a premium to WTI of $8.50 LLS tracks Brent, at least it is now.

My questions are:

I) Is WTI a good measure of what the real cost of crude for the US is?

II) If the real cost is closer to Brent and therefore pushing $100 does it mean that we are about to see a big bump in gas?

III) Many (like Southwest Airways) hedged their fuel cost. Are “they” long WTI but paying LLS and therefore losing on their hedges?

IV) Is there a two-tiered energy market? If so, which region is paying LLS and which is paying WTI?

My answers, but I’m open to a better interpretation:

I) It used to be. But much less so today.

II) I think so. We will find out in 30 days or so.

III) I think some folks are getting creamed.

IV) I don’t know.

SOTU/SS, FASB on Disclosure & SEC on who's "Sophisticated"

SOTU/SS

The President’s words last night on Social Security (emphasis mine):

To put us on solid ground, we should also find a bipartisan solution to strengthen Social Security for future generations. We must do it without putting at risk current retirees, the most vulnerable, or people with disabilities; without slashing benefits for future generations; and without subjecting Americans’ guaranteed retirement income to the whims of the stock market.

Well that all sounds nice. But how do we accomplish all those great things?

There is zero willingness in congress today to consider any privatization scheme for SS. So the Prez has that right. However, in order to a) not impact current retirees, b) protect those who are vulnerable/have disabilities and c) not cut future benefits; the only possible option is to raise SS taxes across the board. Raising the retirement age and raising the cap on earnings subject to SS withholding are steps that will come. But they do very little to change the outcome. A bigger broader effort is necessary.

So I am left wondering about this. Additional details on how the Administration expects to realize on this promise will be forthcoming (I assume/hope). One thing I am certain about at this point. The “solution” will not be a permanent increase in SS taxes.

What would it take to really “fix” Social Security? According to the Trust Fund annual report it would require an immediate 1.9% increase in SS taxes. That comes to about $100 billion a year. And rising every year thereafter. That is as likely to happen as privatizing SS. So where is the beef on the plan?

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FASB Folds Like a Cheap Suit in the Rain

US accounting board softens fair value proposal

NEW YORK, Jan 25 (Reuters) - In a big victory for banks, U.S. accounting rule-makers moved on Tuesday to reverse a controversial plan that would have forced banks to value many of their loans based on market movements.

A big victory for the banks. Isn’t that lovely. We should all be so happy for them. Now we will never have any clue what their books are really worth. I am disgusted by this.

 

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SEC To Exclude Homes from Net Worth

As of this morning our pals at the SEC have redefined what is an "accredited investor" (“AI”). Once you are an AI you can invest in a different series of investments that are not available to the public. The SEC on this:

An accredited investor is eligible to participate in certain private and limited offerings that are exempt from Securities Act registration requirements.

I am an accredited investor. Every year I have put some money to work using this status. They are aptly referred to as “Club Deals”. Not all of these have worked out, but they vast majority of them have. There is no question that I have made money over time because I am a member of the club.

Generally speaking you get in on the action if you have a net worth greater than $1mm. A significant hurdle. But the SEC has today made that hurdle even bigger:

The proposed amendments would exclude the value of an individual's primary residence in calculating net worth when determining accredited investor status.

The largest asset most people have is their home. By excluding it from the calculation a whole bunch of folks will never make it to the club.

If you wonder why 1% of the population has 80% of the wealth; it is rules like this that make it so. It really is not a level playing field. Never was.

Two AAA Munis?

There are not many AAA muni borrowers around these days. I took a look at two of them. One is small (Maine) the other large (Texas). For the life of me I can’t figure out why they are AAA. First Maine:

In 1972 the state of Maine created the Municipal Bond Bank (“MMB”). The bank borrows from the public muni market and lends the proceeds to a total of 240 municipalities for various purposes (school,water, sewer etc). MMB is rated AAA by Fitch.

MMB has a great balance sheet. $2b in assets, only $1.47b in debt. The conclusion is that there is $558mm of “equity”. That would depend on how you value all of those assets. Fitch comments on the asset quality at MMB:

Fitch estimates that participant borrowers of at least 71% of outstanding loan principal exhibit investment-grade characteristics. Fitch does not express an opinion as to the credit quality of the remaining underlying loans.

Huh? 29% ($600mm) of the book is not investment grade. Even loans that are investment grade are not liquid. There would be a big haircut to mark to market this loan book. But no need for mark to market, right?

BBB earns money off the spread on its loan book. But it is very dependant on state and federal contributions. In 08/09 MMB got $50mm in grant money from ARRA. ARRA is now gone.

My real concern with MMB is not so much with the asset side. It is the liabilities. Consider this maturity schedule.

Under normal circumstances this bond schedule would not be an issue for a borrower with a AAA rating. My concern is that we are not operating under normal circumstances.

Please DO NOT read these thoughts and conclude that Maine’s bonds are not money good. THEY ARE. If you own them you will get your principal and interest on time. My concern is that even good borrowers are going to get crowed out. As and when this happens it will have a very significant consequence on the economy of Maine and elsewhere.

The state of Maine has an admirable AA from Fitch. But the AAA at MMB is the prize. In other words, the higher rating is a result of a CBO structure.  Clever.


Texas does it Texas style. Want to know why this state is thriving while so many others are not? Some of the credit has to go to the Texas Permanent School Fund (“PSF”). PSF is a very interesting operation. As of the most recent report they had $24b of assets. How are they invested? Let’s just say that Texas loves stocks:

I tip my hat to the folks at the PSF. This is a pretty aggressive style. Consider their currency exposure. PSF is a global player.

At the end of their year they had 1,700 cars on the E-mini. If they have a $100mm book of leveraged futures at Q-end I wonder how big they play during the Q?

Again, I’m not knocking the PSF. I like their style. My problem is that PSF is using the $24b as security for their guarantee business. The FSB has its name behind a ton of school debt. The total of principal and interest guarantees came to $134b as of 8/1/2010.


Once again let me say that Texas school bonds guaranteed by FSB are going to pay on time. FSB has deep pockets of liquidity. Texas is doing fine. My concern is that FSB has 6X leverage of total guarantees to equity. And 64% of the equity is invested in the global stock market in an aggressive manner.

Bloomberg reports that the peak to trough of FSB was a swing of 26%. Quite a ride:

The fund stopped backing municipal bonds and cut its contribution to the state last year (2009) after board-managed assets shrunk to $17 billion in March 2009 from a peak of $26 billion in mid-2007. It resumed bond guarantees in February, after the S&P 500 reached a 15-month high.

We have seen it in the recent past. A drop in stocks and FSB freezes up. When it does freeze, it forces munis to suspend new projects and scramble to refinance old ones.

A question given the last three years of history. How does an equity portfolio with an uncertain value create the certainty of a AAA guarantee? 

Fed Speak & the WSJ

It doesn’t seem so long ago that every Thursday at 4 pm I would be strapped in seat hoping for the best and fearing for the worst. Thursday afternoon was when the money supply numbers used to come out. The numbers moved prices, big. Think of how the market reacts to monthly Non-Farm Payroll number today.  Days both pre and post 1st Friday it influences talk and markets. It was the same back then with the Ms.

In many ways if was even worse than the NFPs. The Ms came out 4 times a months instead of just one. And the tape crossed on this exactly at 4pm. There is no market to move size after 4. You had to dump something in Asia or Europe. Often you had to wait to the following morning in NY to find liquidity.

People made/lost fortunes on this. An outfit called Salomon Brothers had a guy named Henry Kaufman. He was good with numbers, and had a real handle on calling the headline. “Henry the K” would whisper in someone's ear and the Brothers made a bundle playing both sides of the casino.

It got so out of hand that they changed the rules. They moved the numbers to a Friday 4pm release. This of course was the worst possible choice for guys like me. You had to wait the whole weekend to see how things would work out. I lost a few weekends worrying about Monday.


Here’s the joke. These numbers mean next to nothing today. They actually stopped keeping track of M3. Money supply is still discussed, but the weekly numbers are a ho-mummer. Think of what a stupid fixation the market had at that time. We might do it again.

I bring this up because I do not believe in coincidences. Here is an example of a “coincidence” that should not be trusted. The first piece is that the Fed is releasing a statement at 2:15 Wednesday. The second is that Jon Hilsenrath wrote (another) article that give a very clear insight into the thinking of Mr. Bernanke.

The bottom line on the Hilsenrath story is that Bernanke is pushing to change monetary policy so that it goes on autopilot when inflation exceeds or falls below clearly defined bands.

Bernanke is an academic. He wants a computer to define when to tighten and when to loosen policy. That view fits in with his orderly view of the world. Oh, that it were orderly.

Ben also wants to introduce this new policy as a defensive move. He knows he is headed for a ton of criticism over QE. Both domestically and internationally. To blunt that he will introduce Inflation Targeting (“IT”). It removes him as a decision maker, so no one can blame him for the consequences. Very convenient. Not unlike the new rules that make it impossible for the Fed to incur a loss.

The Fed statement should be, well, a ho-hummer. No changes to anything. But read through the language and I think you will find:

i) Some talk that the Fed is forming a formal group to review inflation targeting as a policy determiner.

ii) A meaningful increase in the GDP forecast for 2011. If they push this estimate to 3.3% or higher it will fly in the face of continuing QE.

If you play poker you look for “tells”. Something that gives you a better “read” on the other guy’s hand. Should we see some language from the FOMC that confirms they are going forward with IT there will be two tells. The first is that it confirms the cozy link between Bernanke and the WSJ. It will also confirm that Bernanke is calling all of the shots. Everyone else is just saying “yes”. (Look for no dissenters Wednesday. New Board = Yes Ben)

US monetary policy can’t be run by a robot. A pragmatic approach is required. Bernanke is shunning the Fed’s responsibilities. He doesn’t want the Fed to be accountable. Very convenient.

IT won’t work of course. It will drive the market nuts with every blip up and down with every measure of inflation out there. Because the Fed has set visible targets they will be forced to act. Failure to do so would be very damaging to their credibility. But they will inevitably be forced to act at precisely the wrong time and in the wrong fashion. Just like they have done in the past.

The funny thing? 20 years from now someone will write about this and point to the new street bandits that made a killing and conclude, “what a stupid fixation the market had”.

How will they will prop up stocks after QE? An answer?

Bernanke has told us at least a half-dozen times that the primary objective of QE is to jack up stock prices. Let’s give the man his due. It has worked. Rising equities and an improving economy are now synonymous. Daily doses of QE through POMO purchases are creating liquidity. Some of that loose money finds its way to equities.

The problem with QE is that some of that money is also going to unwanted places. And it is a factor in rising inflation around the world. While it is correct to say that the Fed can’t be blamed for everything, it is also correct to say that ZIRP and QE are adding to the problem.

For that reason alone (there are many other good reasons) QE will end this summer. When the connection between the Fed’s easy money and rising global food prices is made in the NY Times (it will be) QE will die.

If that should be the case one would have to expect that a drop in demand for equities (and other things) is going to have to occur at some point this year. It could be as early away as four months (the last month of QE will be of no significance). This creates a problem for policy makers. They can’t let stocks find their own level. After all, it is now proven that we need stocks going up for the economy to expand, it must work the other way round. Right?

I think that there is a solution to this problem. Give the S&P 100 a bunch of money and an excuse to do share buybacks. Something like that just might happen. It is a development that is most certainly worth watching for if you have an eye on the tape.

This headline tells the story:

The NY Times had a story on this last year:

If you have a day with nothing to do read this (61 page) report titled:

The conclusion of the report regarding the 2004 tax holiday for US corporations:

Estimates indicate that a $1 increase in repatriations was associated with a $0.60-$0.92 increase in payouts to shareholders.

The pieces are on the table. The US desperately needs its corporations to make major investments domestically if there is to be any hope on the jobs front. So a deal will be made to bring home the $1trillion that is currently being parked offshore avoiding taxes in the US. The deal will be that this money gets hit with little or no tax. The condition will be (exactly as in 2004) that the money will be invested in domestic R&D. Everyone will hail this as a step in the right direction.

But the reality will be that 60-90% of the money gets leaked back to shareholders in the form of special dividends or share buy backs. The principal motivation for the tax holiday will be to give stocks another lift.

Who knows, this might work. An extra $500b or so coming into the market should keep the froth going for a bit longer. Right? But after the buybacks we still will not have much in the form of new investment.


When might this happen? How long might it benefit the markets? Tough questions. Should our policy makers go this route they are smart enough to time the results. The tax holiday would kick in during the 3rd Q (timed to offset the end of QE2). The benefits (if any) would peak in the summer/fall of 2012. Just in time to influence a big election. Of course under this plan there would be nothing to prop up the market (aka “the economy) on the day after the election.

A friend attended an ISI/Ed Hyman meeting. He shared his notes with me. The following caught my eye. Obama is only concerned with the economy in the summer of 2012. Bernanke is concerned with July of 2011 (end of QE). If there were a tax holiday that was “market friendly” timed for the third quarter it would address both of their concerns. A tax deal would let Ben off the hook.

There is one additional piece to this puzzle. Who is advising the President on these matters? Our boy Jeff Immelt, CEO of GE. The fox is truly in the hen house this time.

More on this topic at Zero Hedge.

Tax Winners/Loser? Obama - Immelt. No conflict?

All sides in Washington agree that the corporate tax structure is a mess. The 35% top bracket is too high. It encourages many US companies to shift operations outside the US. As that happens jobs leave our borders. This has been known and understood by all the deciders in D.C. for a long time.

Could changes in the tax code lead to a reversal of the trend? Possibly. That being the case, “Who might the winners and who might be the losers” is a good question to ask. A partial answer to that question comes from Martin Sullivan (ex Treasury economist) in testimony last week before the House Ways and Means Committee. He used this slide :

The following discussion makes some important points on who gets hit and who will win:

As the table shows, low effective tax rates are common in industries like pharmaceuticals and computer equipment where it is easy to shift technology and manufacturing to low-tax jurisdictions. In industries where customer markets and the provision of services are largely domestic, the opportunities for reducing taxes through cross-border profit shifting are limited.

This list is worth keeping as the issue of changes in the tax code is contemplated. Should the result be that the statutory rate is lowered to ~25% (and foreign breaks are eliminated) those companies who have taken maximum advantage of the existing Code to move profits and operations overseas will get hit the hardest.

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Allow me a rant. In the table above it is quite clear that GE takes the most aggressive action to shift its production/earnings outside the country to avoid paying federal taxes. Another way to put this is that GE has done very well in minimizing its US payroll. At the end of 2009, GE employed 36,000 more people abroad than it did in the U.S. In 2000, it was the opposite. Since Immelt took over in 2001, GE has shed 34,000 jobs in the U.S. But it's added 25,000 jobs overseas.

The shareholders at GE might look at these results and vote to give Mr. Immelt a pay raise. But the American people should look at this and say, “GE is the poster boy for our problems”.

But Obama has just made Immelt his advisor on the economy and jobs creation. The guy who has done such a good job at GE in avoiding US taxes and moving jobs overseas is now advising the President on how to do exactly the opposite.

This is just crazy. The results prove that GE is no friend of America. Jeff Immelt wakes up every morning thinking about what is good for GE shareholders (as he should). But what is best for GE is not best for America. Immelt has a tremendous conflict between his day job and his responsibilities as advisor to the President.

Post the November election Obama is doing all that he can to appear to be a centrist. He is trying to warm up to corporate America. Immelt is his “show pony”. I don’t think he could have made a worse choice. He will regret it before the next election.

"Red lies", "Hysteria" & "Ben bangs Munis"

Red Lies

Yesterday the GOP came out with their plan to save $2.5 trillion smakaroos. Tyler Durden did a run down of the plan. (loved the mohair) I want to focus on just one aspect. This one is a biggie. 80 “large” over ten years. From the Republican proposal:

The legislation will further prohibit any FY 2011 funding from being used to carry out any provision of the Democrat government takeover of health care, or to defend the health care law against any lawsuit challenging any provision of the act. $80 billion savings.

Ah! The savings would come from reversing Obama Care. But from no less a source than the Congressional Budget Office comes the following estimate related to reversing the health care legislation:

CBO expects that enacting H.R. 2 (through 2021) brings the projected increase in deficits to something in the vicinity of $230 billion. (Note: H.R. 2 is the repeal of Obama Care)

So there is a $310 billion difference of opinion. My point being that anyone can spin numbers to say anything they want in D.C.

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Hysteria

The Bond Buyer had this headline today:

From the article:

Muni experts say retail demand is being undermined by a steady drumbeat of fear-mongering news stories.

Well there you go. Bloggers and folks like Meredith Whitney are responsible. There is no substance to the reports that the muni market is dysfunctional.

I was looking at the Unemployment Trust Fund. This is a complicated bit of accounting. There are some interesting rules for the States regarding their ability to borrow money from the federal government to fund UE. From CRE: (PDF)

Mechanism for Receiving a Loan

In order for a loan to be made to a state account, the governor of the state (or the governor’s designee) must apply to the Secretary of Labor for a three-month loan.

That sounds interesting. A three-month loan? Of course the loan can be rolled over. (Can’t everything?) In fact Uncle Sam gives the States a no-interest loans for up to one year! There has to be a catch, right? There is:

States still may borrow funds without interest from the FUA during the year. To receive these interest-free loans, the states must repay the loans by September 30.

So the States can borrow money at no cost provided the pay it back in less than one year. After that they pay interest. (a) Can they continue to borrow money forever and just pay the interest? (b) What is the interest cost?

(a) NO: States with outstanding loans must repay them fully by November 10 following the second consecutive January 1 on which the state has an outstanding loan.

(b) Expensive for ST money! The interest is the same rate as that paid by the federal government on state reserves in the UTF for the quarter ending December 31. States may not pay the interest directly or indirectly from funds in their state account with the UTF.

Note: The States have positive balances in their Trust Funds. They get a VERY high rate (subsidy). Now they have to borrow at that rate. The current UTF is 4%. This is expensive ST money, even for Cali.

Is this a big deal? The States borrow money from the Feds, they pay interest and they do have to pay it back. The NY times thought it was a big deal. Their headline:

This is the outstandings for the top borrowers. Does it surprise you that Cali is on top with $10b? Or that CA, MI, NY, IL & PA have a total of $23b in IOUs out to their dear Uncle? Or that the total is $41b and growing fast?

This could be fixed with the drop of a hat. Congress could just change the rules and restructure the existing UC debt into a thirty-year debt at a low coupon. That would solve this problem. But that would be a bailout. Don’t count on that. What do CA, MI, NY, IL & PA have in common? They are Blue States. The last thing the Red dominated congress is going to do is make it easy on Blue states. They made that very clear last year when they nixed the BABs legislation.

If these debts of the states are not to be restructured they must be paid back. So one can look into the future and see more supply problems in the next few years. Is that hysterical? I don’t think so. Possibly the Bond Buyer can explain how these 50 odd billion are going to be flipped to the public over the next few years.

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Ben Bumps Munis?

I think there is a sub story to the move out of munis. I saw it up close and I wonder if it not a broader factor.

After the Meredith Whitney 60 Minutes deal I got a few calls from folks who thought I may know something of this. They own Munis. And this is the "true nut" of their savings. They don’t want this to be “at risk”. So they are not sleeping at night. This not about making money. It is about not losing money.

I always ask, “Whatta you own?” “How long have you owned it?”

The answer is (in part): “NY State GOs, I've had em forever.”

Next question, “Where are they marked?”

Answer: “What does that mean?”

So this next conversation takes a bit and you end up with a broker’s statement and sure enough; the bonds are all trading at a premium. 5% bonds due in two years are trading at 106+. Why? Bernanke has pushed the under five year maturities so low that even dodgy muni paper can trade at a premium.


I say, “Sell all the stuff that is in the black and take a capital gain. Lighten up the bond funds that are underwater. If the gains and losses are equal you can move out of munis and get back to sleep.”

Response: “If I can do that at break even, I’ll dump the lot.”

ZIRP and QE were supposed to force people into riskier assets. But low interest rates have created an opportunity for long-term muni holders to now sell at a premium. It’s always easier to sell a winner after all. Especially when it's keeping you awake.

Side Deals

A rather bizarre bit of information came to my attention today regarding an old story. Source? Wikileaks, (as usual). Go back in time two years and recall the blowup between the United States and Switzerland. The issue? Banking secrecy.

The US DOJ sued UBS for the American account holders. This created a conflict with Swiss Banking secrecy laws. UBS was caught in the middle. The settlement was a government to government face to face conflict. UBS’s stock took it on the chin as a result.

Keep in mind that this was taking place while the global markets and economies were in a tailspin. Guy’s like Bernanke/Paulson later said things like, “I wasn’t sure we would make it”. The DOJ was hammering not only a major global bank, they were adding to the instability in a critical European financial center.

If you read my blogs you will see that I am no defender of banking secrecy. I’ve taken a ton of flack for that. That said, the timing of this could not have been worse. While all stops were being pulled to put a plug in the economic dike, here was this separate story that was creating another crack. I asked myself a number of times during this drama, “Why now?”I wrote about a critical meeting on March 8, 2009. I voiced my concerns:

If this does take place this week it confirms that DOJ is moving ahead without consideration to the fact that the global financial system is currently very vulnerable.

The following comes today from NZZ, a leading Swiss newspaper. They, in turn, rely on information from a Norwegian publication Aftenposten.

When the final deal between USA/UBS/CH was cut in 09 there were two side deals that the US required:

(I) Two prisoners held in Guantanamo were transferred to Switzerland.

(II) A company registered to do business in Switzerland called Colenco was forced to suspend operations. What was Colenco doing? Recycling uranium for Iran. (a contract to do it in Iran, not Switzerland.).

Leuthard (former Economics Minister) stressed that these two activities are linked to the conclusion of a political settlement on the case of the Swiss bank UBS.

I’m all for standing up to the “Bad boys”. But in this case the war on terror got mixed up with a much different matter. At a very inconvenient time.

Just a question. Do all big international deals that we read about (today with China for example) have side deals that we don’t know about?

CIA Fun Facts

The CIA produces the World Fact Book. There is a lot of interesting information to look at. The spooks have been updating the info for 2010. Some of the year over year comparisons are interesting. In its intro to the Global Economy they had the following to say. I think they summed things up pretty well:

The fiscal stimulus packages put in place in 2009-10 required most countries to run budget deficits - government balances have deteriorated for 14 out of every 15 countries. Treasuries issued new public debt - totaling $5.5 trillion since 2008 - to pay for the additional expenditures. To keep interest rates low, many central banks monetized that debt, injecting large sums of money into the economies. As economic activity picks up, central banks will face the difficult task of containing inflation without raising interest rates so high they snuff out further growth.

Some individual statistics to consider:

World GDP up 4.6% to 74.4 trillion (3.2T YoY). (Man, that is a lot of zeros.) The US is 20% of total GDP. It contributed only 14% of the total growth. Just a bit more evidence the US economic clout is on the wane.

Public debt is on the rise. It looks like a small increase. From 56.2% to 58.3% of GDP. Only 2.1%. That doesn’t seem like a big change, right? But look at the implications. Total PSD rises by 3.4T while global GDP rises by only 3.2T. This means that it takes $1.06 of new debt to create $1 of growth. What better evidence do you need that what we are doing is unsustainable?

This is equivalent to M1 and M3. Note that they are rising at 7 and 11% respectively.  Money is growing at twice the rate of GDP. If you wanted (another) reason to buy PMs this is it.

Domestic credit increases by $10 Trillion (10%) in just one year! Total credit is rising at a rate of 3Xs that of real GDP. Guys like Krugman will tell you that this is a good thing. To me it is a sign that hyperinflation can’t be very far off.

1.4T brls. of oil. That’s a lot of oil. Of interest, the CIA had an estimate in 2004 for this number of 1.3T. So as much as we use, they keep finding more. The globe is currently burning up about 85mm brls a day. That suggests we have 45 more years at current consumption. Heaven help us if they did not keep finding the stuff as fast as we are using it.  Oil would be $200 in a short period of time.

Where is all this oil? The CIA has a link for that. The US has 19b of those reserves. But we use 20mm brls a day. So the US reserve/consumption is only 2.6 years. Talk about a strategic weakness.

At the moment the global reserves are worth $130 trillion (2Xs all stocks!). With that number in mind you can expect folks to be punching holes in the ground for a long time to come.


Most of this oil is with our “friends” in the Middle East:

Saudi……..264b
Kuwait…...104b
Iraq………115b
Bahrain…..124b

Other places where there is lots of oil?

Libya………47b
Angola….…20b
Iran…….…137b
Nigeria….....37b
Venezuela.....98b

But look at these deals. China “owns” all that oil:

 

A bright spot for the US is Canada. They are sitting on 175b of reserves. It’s probably not a good decade to short the Loonie. Possibly the US should just go ahead and invade Canada. On the flip side we should leave Mexico alone. They have just 12b barrels left.

Total exports are up YoY by $2.5T. An increase of 20%. That is your evidence of a global recovery. The US is sharing in that increase. US exports rose from 1.07t to 1.27t, so America matched the global growth rate. Does this mean that if the rest of the world slows down the US is going to get hit hard? Yes it does.

I found this interesting. More than one-third of the global population are farmers. But they only produce 6% of GDP. Conclusion(s)? We have inefficient farmers all over the world. Food prices are going up looking at this.

One more slide. This one is not updated for 2010

I will estimate that the 2010 number is $55 T, or an increase of $6T. GDP rose by only $3.2T. Equities grew by twice that of top line trade. This, no doubt, proves Bernanke’s master plan. Make stocks go higher and it boosts total production. But this is a two way street we are playing on. While it is true that when stocks go up GDP rises. It is also very true that when equities fall, GDP slumps. The fate of the global economy is at risk to the stock market. How much more fragile could we get?

Obama in SOTU - Means Test SS?

Next week we get the State of the Union address. The question, “Is there anything that might come from the speech that will impact the markets? The economy? Maybe. One area that I think we may get a recommendation from the President is a means tax on Social Security benefits. That is a pretty bold call by me. Should the President propose this (and it is enacted) it does have significant implications. I have no line into the President’s thinking. I come to this conclusion looking at a few odds and ends.

-A friend attended an Ed Hyman ISI confab recently. He showed me a copy of the slides used in the presentation. This stuff is private so I won’t use Mr. Hyman’s graphs. But the handwritten notes from my friend are interesting:

Notice the comments about SS and means testing. Let’s just say that Ed is part of the inner circle. (The Obama/Bernanke thoughts are also interesting)


-Christine Romer did an Op Ed for the NYT on January 15. Her words:

The Deficit Commission proposed thoughtful ways to slow the growth of Social Security.

One of those "thoughtful" ideas was a MT.

The President should ensure that spending cuts not fall on the disadvantaged. 

A MT would do that.

The only realistic way to close the gap is by raising revenue. Some of it can and should come from higher taxes on the rich.

A MT would do that too. Ms. Romer is ex Administration. I think she is still talking their book.


- Where would the opposition come from? Republicans? On Jan. 5 influential Republican Governor, Mitch Daniels (Ind.) commented:

I always say, “Why do we send a pension check to Warren Buffett?”…

 It comes down to the House on this. So where is Speaker John Boehner on MT?

Big changes are needed for Social Security, including reducing or ending benefits for retirees with "substantial" other income.

We shall see if all this apparent support stands. I don't really believe in love fests in D.C.

Speaking of love fests don't assume that this would be a slam dunk. There are many who believe that SS is sacrosanct. Sen. Harry Reid had this to say on Meet the Press last week. Surprised?

MR. GREGORY: Means testing? Raising the retirement age?

SEN. REID: ...don't--I'm...

MR. GREGORY: Do you agree with either of those?

SEN. REID: I'm not going to go to any of those back-door methods to whack Social Security recipients. I'm not going to do that.

Politics does make for some very odd bedfellows....



-Zero Hedge had an article a month ago regarding a comment by political blogger Robert Kutter. From the POLITICO.

The second part, now being teed up by the White House and key Senate Democrats, is a scheme for the president to embrace much of the Bowles-Simpson plan — including cuts in Social Security. This is to be unveiled, according to well-placed sources, in the president’s State of the Union address.

Robert craps on the idea of cuts in SS as it would hurt Obama’s base. Not the case at all. A means test hits rich old people. That’s not O’s base. It’s a very small percent of the population. Make what you will of this.

-A SS means test is a legitimate option. I wrote about it back in July. Many others have as well. It will “sell” to a broad spectrum of the population. "Tax the rich" always sounds good. The President will have at his side Bill Gates and Warren Buffet (both getting SS checks). They will say that it’s the “right thing to do”. (they already have)

I am looking forward to see how this shakes out.  Possible results?

Shrink the size of government? (Yup). Reduce the rate of growth of expenditures? (What last November was about) Stabilize SS without cutting benefits for most people? (Hard to say no.) A means test could allow for a permanent cut is SS taxes (ala 2011). (Who could say no to that!)

This is a very big step toward socialism. It would also be the first of many steps of unwinding SS. A means tax would undermine long-term support for the program. (Note: this issue could be blunted by giving Gates and Buffett a tax credit on federal estate taxes for what they lose in benefits).



Say this should happen. How do the markets react? Initially, it might be perceived as a positive. If the headline were: US Gets Serious on Debt Reduction then we might see some risk on
trades happening.

But the devil is very much in the details. It is possible this will be one of those things where the deal is: Starting in six years and increasing gradually over the next ten thereafter blah blah blah. (Kick the can down the road) Should that be the case I (and many others) will rain all over it. That outcome would bring a different set of risk on/off results.

IMHO a means tax could be done with near immediate results. It could translate into a permanent reduction of some employment taxes and it would/could help SSA get through the next 15 years (boomers) without forcing a run off of the Intergovernmental account (less debt to public). Something that had both teeth and near term consequence could possibly change sentiment. Who knows?

Nothing addresses all of America’s problems. A means test is an option that should be considered. Depending on how it is done, it could make a difference. I think it will come on the table next week.