On FX intervention and the ECB/SMP

 Yikes!! I posted this and a few minutes later the Fed/other CBs announces a round of coordinated measures to assist the ECB. My point in this article was that the ECB has no friends, and that was the weakest link in their defense of the EU bond market. It seems they now have friends. We shall see how good these "friends" are.


The ECB has been a big player on the buy side of EU bonds. Its intervention topped E200b recently. Of course that’s just a fraction of the supply that is out there. At this point, the ECBs efforts have been a miserable failure. Rather than put a ring fence around critical countries such as Italy, the ECBs tactics have added to the fire.

The ECB is in a bad position. The news flow and large supply have put them on the defensive. Defense is no way to run an intervention policy. At best, it’s slow grind to a loss.

I sat on FX interbank desks in the 70’s and 80’s when the NY Fed came into the FX markets on a regular basis in an effort to stabilize and steer the dollar. The “Stick” (what the Fed was called) was on both the sell and buy side at different times over those years. This was low-tech time. There was a direct telephone wire to the Fed desk. It would light up and they would ask for a price on $100mm USDDM (no Euros then). Dealers are obligated to make prices. You knew you were going to get slammed as soon as they said:

“Done for a 100 mil. We can carry on at that price”.

All hell would break out in the FX markets when the Fed intervened. I would get little sleep for a few days. After about a dozen of these sphincter event I formed my own opinions on how intervention should be conducted. There’s plenty of academic stuff on this too.  The following are considerations when evaluating the efficacy of FX intervention. Some of the lessons apply to the dilemma the ECB finds itself in today.


When confronted with unstable markets where the instability is, by itself, undermining the broader economy, the first objective is to re-establish stability. There is only one way to do that in the short-term. The financial authorities must establish Two Way Risk back into the market. Ideally, the objective is to create as much risk in being long as the risk of being short.

The ECB has failed to establish two-way risk. Virtually every (Italian, etc) bond that has been sold over the last few months has been a “good” sale. There has been no risk to selling, the only risk has been in buying. If the ECB wants to be successful they must create a risk situation that is equally weighted. Call that shock and awe. It has to call the dealers and make them understand sphincter power. (As the Fed did to me.) In my day, the the term “Don’t fight the Fed” came into being because the Fed had learned (after early failures) that it had to be on the offense when it came to intervention.

Of course, it’s not all that easy. Over the years, currency intervention has repeatedly failed. For example, the currency “Peg” or “line in the sand” strategy has had mixed results. The Currency Board ($ peg) in Argentina worked well for a while and then had a spectacular blowup. The Euro countries had numerous devaluations in the years running up to the Euro. (Fixed exchange rates didn’t work then any better than they do today). The best example of a Peg gone bad is when George Soros took out the Bank of England in 1992.

Some pegs have worked. The HK$ is a shining example. However, a peg is not without cost. Hong Kong’s reserves are now $281b. That comes $40,000 per person (just the opposite of the US). The Central Bank has been forced to absorb 9Xs the amount of money in circulation. Switzerland has recently adopted a peg. So far, so good. But they too have had an explosion in reserves. The Swiss are rapidly approaching the nutty levels in HK.

I don’t think pegs are relevant when it comes to options the ECB might consider. If they tried to peg (or even bracket) Spanish or Italian bonds they might get overwhelmed with sellers.

Speaking of being overwhelmed by the market, the experience by the Swiss National Bank (SNB) in 2009 is worth noting as a classic intervention mistake. The SNB tried to hold the EURCHF at 1.500. It was swamped with sellers at that price. In the end, the SNB was forced to fold. The error cost them dearly, both in money and prestige.

This is a real consideration for the ECB. At what price level(s) and under what terms should it use intervention? How do they respond if there is E500b of Italian/Spanish paper on offer and looking for a bid? Some say that 7% Italian bonds already indicate the end is nigh.  I’m not so sure. But if this ratchets up another few levels and Italian yields push 9% the end will be very close indeed.

I’m quite certain the folks at the ECB are aware of this. So is the market. A test of each others will is in the offing. December is a time for things like that to happen.

A final example of flawed intervention is that of the Bank of Japan. Its policy is often referred to as, “Slow death by a thousand swords”. Everyone knows that the best time to sell USDYEN is a few hours after the BoJ makes a splashy intervention. They have been at this for years. It hasn’t worked once. It’s just a source of revenue for the exporters, banks and specs.

This is not a consideration for the ECB. Time is not on its side. Japan’s problem is that too much money is coming in. The ECB is looking at this from the other side of the mirror. The wrong side.

There is no example (other than Hong Kong) where a single central bank has fought the markets and won. Successful intervention has to be coordinated with other central banks and activities by supranational entities (IMF types). This is very important for the ECB. They are alone in this this fight. No one has offered a hand. The “Go it alone” plan won't work. The markets are much bigger than the ECB.

There is little evidence that currency intervention achieves more than buys time for an inevitable correction. The only evidence of success is that of the US Fed. They succeeded by intervening in a decisive magnitude, and in concert with other central banks.

Its unknown whether historical observations of what has and has not worked to bring stability to the FX markets is relevant to the intervention fight that the ECB finds itself in today. There is no history describing what is unfolding in the EU bond markets. This makes it all the more difficult to forecast what will happen next.

To the extent that the history of FX intervention provides some clues to what is coming, it does not paint a pretty picture. The ECB can’t shock and awe. It has no friends. It's unable to establish two-way risk. The clock is ticking. It has limited resources. We are already at crisis levels. Further deterioration will accelerate across other markets and broaden the sense of panic.

Did I mention that the ECB knows all this? And that it has no friends?

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No Nuts

NOTE: I posted this on 11/29. I got quite a few comments that I was "nuts".  The following link is to an article that appeared in the New York Times on 12/3. I may be crazy, but I'm not nuts. I'm just ahead of the news....

http://www.nytimes.com/2011/12/03/nyregion/boom-and-bust-in-acorns-will-affect-many-creatures-including-humans.html?_r=1&hp

I’m sick of the markets. If you want some erudite comments on the latest eco crap or some deep thoughts on when the EU will tank, go elsewhere today. I've got nothing erudite to say. So something different this A.M.

I live about an hour north of NYC. Not far from one of the big reservoirs. There is a lot of protected watershed property. Much more woods than people. I have all sorts of critters around. It’s not unusual for me to see a half-dozen deer on the lawn in the morning. There are flocks of wild turkeys. There are dozens of both black and white squirrels. Chipmunks everywhere. All these animals are dying.

I’ve been aware of something going on for about a month. This is not the first time that a mass death of animals has happened. Some years ago we had a rabies epidemic. It quickly moved from one animal group to another. It damn near wiped out the raccoons, skunks and possums. As the kill of these animals progressed varmints came in to clean up the dead. In just a few years the coyote population exploded. But nature had its way (as it always does). As they coyotes ate the diseased carrion they too became sick and died. The cycle ended when the animals all died. For a year or so it was safe to put garbage out at night because the coons and skunks were gone. When the small animals died the big ones who ate them moved on. The coyotes left and folks started letting the cat out at night again.

The coyotes are back this year. I’ve heard them at night as they form packs to kill weak animals. They howl a horrible noise to scare their prey into confusion and fear. This time it’s different. Different animal groups are affected. It’s not rabies that’s the problem. The animals at risk don’t eat meat.

I didn’t think much of this until I happened to have a conversation with the fellow from Ecuador who was cleaning up my leaves. He says to me:

"No frutos secos esta anos."

I walked away thinking to myself, “No nuts?”

It took me a bit, but I finally got it. There are almost no acorns this year. No big healthy ones at all. The ones that you might find are the size of a pea. They contain no food, they’re just husks. And that's why the animals are stressed and the coyotes are back.

If you Google, “Missing acorns” you will see that there are chat rooms from garden types who have made note of the acorn issue. It seems to be contained in the North East this year (there is no actual data.) While looking around on the topic I found this interesting (and a bit eerie) article from 2008 in the Washington Post.

The same thing happened around the D.C. area 3 years ago. From the article:

The idea seemed too crazy to Rod Simmons, a measured, careful field botanist. Naturalists in Arlington County couldn't find any acorns. None. No hickory nuts, either. "We're talking zero. Not a single acorn. It's really bizarre."

A naturalist in Maryland found no acorns on an Audubon nature walk there. Ditto for Fairfax, Falls Church, Charles County, even as far away as Pennsylvania. There are no acorns falling from the majestic oaks in Arlington National Cemetery.

Starving, skinny squirrels eating garbage, inhaling bird feed, greedily demolishing pumpkins. Squirrels boldly scampering into the road. This year, experts said, many animals will starve.

Some of the scientists made light of the 2008 development:

"What's there to worry about?" said Alan Whittemire, a botanist at the U.S. Arboretum. "If you're a squirrel, it's a big worry. But it's no problem for the oak tree.”

Sure enough the next year acorns came back to Virginia. But obviously three years later the same thing is happening in a different region. Back in 08 the thinking was “Why worry”. But the thinking was also, “If this happens again we have something to worry about.”

"But if this were to continue another two, three, four years, you might have to ask yourself what's going on, whether it is an indication of something bigger."

Well, it’s happened again. We shall if there is anything to this. I suspect this might get broader attention in the media. It’s too weird not to get noticed. Anyone else missing their acorns this year?

Now you can go back to the stupid markets.
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Italy next week

Some stories in European press (La Stampa - Zero Hedge link) suggest that Italy is working on a very big loan package from the IMF. I have no doubt that there are ongoing discussions. There has to be. Either someone puts a finger in the dike or Italy goes tapioca.

That thought is difficult for me to fathom. How could we be so close to the brink? At this point there is zero possibility that Italy can refinance any portion of its $300b of 2012 maturing debt. If there is anyone at the table who still still thinks that Italy can pull off a miracle, they are wrong. I’m certain that the finance guys at the ECB and Italian CB understand this. I repeat, there is a zero chance for a market solution for Italy. Either the ECB (aka Germany) steps in and underwrites the debt with some form of Euro bonds or the IMF (aka the USA) steps in with some very serious money.

I have acknowledged in recent articles that I misread the Italian story. I didn't see this coming at the pace that it has. Italian bond yields more than doubled in a month. I was not alone in this very big misread. I believe it has caught everyone flatfooted. Central bankers and finance officials all over the globe are crapping in their pants.

I think the Italian story is make or break. Either this gets fixed or Italy defaults in less than six months. The default option is not really an option that policy makers would consider. If Italy can’t make it, then there will be a very big crashing sound. It would end up taking out most of the global lenders, a fair number of countries would follow into Italy’s vortex. In my opinion a default by Italy is certain to bring a global depression; one that would take many years to crawl out of. The policy makers are aware of this too.

So I say something is brewing. And yes, if there is a plan in the works it must involve the IMF. And yes, it’s going to be big.

Please do not read this and conclude that some headline is coming that will make us all feel happy again. I think headlines are coming. But those headlines are likely to scare the crap out of the markets once the implications are understood.

In the real world of global finance the reality is that any country that is forced to accept an IMF bailout is also blocked from issuing debt in the public markets. IMF (or other supranational debt) is ALWAYS senior to other indebtedness of the country. That’s just the way it works. When Italy borrows money from the IMF it automatically subordinates the existing creditors. Lenders hate this. They will vote with their feet and take a pass at Italian new debt issuance for a long time to come. Once the process starts, it will not end. There will be a snow ball of other creditors. That's exactly what happened in the 80's when Mexico failed; within a year two dozen other countries were forced to their debt knees. (I had a front row seat.)

I don’t see a way out of this box. The liquidity crisis in Italy is scaring us to death, the solution will almost certainly kill us.

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Note:
The news announced last week where the IMF is providing EU countries a new "crisis" lending facility equal to 5Xs their IMF quota is a joke. What has been offered is a drop in the bucket against what is required. The La Stampa story today and this discussion are about something separate and distinct. What would be required is a step without precedent. It would dwarf what the IMF put forward just a few days ago.

The Future is Gray

Years ago I got involved with financing a Titanium Dioxide plant in Brazil. I’ve had an eye on this commodity ever since. What I find interesting about TiO2 (“TD”) is that everything that you look at that is white has this stuff in it. From pills to food to paper to paint, if it’s white, it’s TD.

Demand for this stuff has been on a tear; rising at ~20% a year. World consumption is 2 pounds of ‘white’ per person. That’s the average for all 7 billion of us. The western countries consume about 8 pounds per person. China is just up to 1 pound. That’s where the demand is coming from. (The US uses the most TD, about 9 pounds per person)

Prices are going through the roof; up 38% this year. The raw material, rutile, has seen its price rise by a whopping 77%. Demand is projected to increase another 50% in 2012 (Link). The price has nowhere to go but up (Blame China for everything).

There are some similarities between the TD story and RE minerals. Neither of them are rare (there’s 100Xs more titanium on the earth than copper). The problem is that making the stuff (REs or TiO2) is a nasty process (both have to be boiled in sulfuric acid).

The raw material for TD is found in beach sand. The areas where there is currently significant production include South Africa, Australia , Canada and China. (There may be a new monster find in Paraguay. (Link) The manufacturing process stinks (literally).

Is this a big deal? Here's another example of a “scarce” commodity that everyone uses. It’s another one that China is driving the supply and the pricing. I don’t think it will move the needle much on the broader inflation numbers. As the price keeps rising they will just put less TD in things.

So look forward to gray toilette paper/toothpaste. Newspapers too. Paint will get much more expensive, meaning we’ll paint less; our white houses (and White House) will get gray with age.

There might be a bright side to the coming graying. We may end up living longer. PD has long been considered a carcinogen. OSHA has warnings for those who work in plants that make the stuff. California put it on its list of carcinogenic substances earlier this year.

Bendicte Trouiller a UCLA molecular biologist studied TD on rats. Some conclusions from her efforts:

Consuming the nano-titanium dioxide was damaging or destroying the rats' DNA and chromosomes. The biological havoc continued as she repeated the studies again and again. It was a significant finding: The degrees of DNA damage and genetic instability can be "linked to all the big killers of man, namely cancer, heart disease, neurological disease and aging.

If you’re wondering if you our eating/drinking this stuff, you are. Follows is a list where TD may be found. The bad news is that TD is in beer, wine and “distilled spirituous alcoholic beverages.” (I don’t give a damn. I’ll have my share of those spirituous beverages). The good news is that a traditional Thanksgiving meal contains very little TD.  

Enjoy your feast!
BK

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Much of the info in this piece comes from this Bloomberg story. (link)

Brandy

I’ve been amazed at the ineptitude of the European leaders. Not just the political ones. The actions and statements by the ECB have been counterproductive. The ECB has directly contributed to the instability. The Banque de France and Bundesbank have added very little. The Finance Ministries have been worse. Where's the leadership? Are these people all idiots?

Actually, I don’t think they are. If that were the case, then how could you explain the bumbling? One possible answer is that it’s deliberate. That sounds conspiratorial. I think there is some evidence of that.

In my opinion the explosion that occurred over the past fortnight in Italian bonds could have been avoided. All it would have taken to contain the fear factor was for the ECB to have stepped into the market in a forceful manner and suck up the supply of bonds. When they failed to defend the market it led to widening spreads, which in turn lead to more sellers and finally margin increases and a crisis.

The market knew that there were milestones in spread levels that would automatically bring more selling. The ECB was also well aware of this. (Don't believe these folks are dumb, they're not) But they ignored it and day-by-day the pressure grew. After 6.75% was broached, it led to a quick collapse. It ended with Berlusconi resigning. The panic in the bond market ended the next day.

It’s been suggested in a number of publications that the ECB had a hand in the Italian blow out. As of yet there has been no comments from the government(s) involved nor the ECB.

The following is a close up of a chart created by Zero Hedge. This segment looks at November 8 through 11. The green circles are the timing of ECB interventions (note market reactions).

Notice that there was no intervention on November 8th. As a consequence, Italian 10-year bond yields went soaring past 7%. The consequence? That night Berlusconi was forced to throw in the towel. The next day the ECB initiated aggressive intervention. The lack of intervention on the 8th followed by the steady buying on the 9th, 10th and 11th was not an accident. It was a policy decision.

The following headline had it both right and wrong. The bond market did do Berlusconi in. But it was the ECB, behind the scenes, that engineered it so that it would happen.

To believe in the conspiracy concept, (the one where central banks determine the fate of political leaders) you have to ask/answer the critical question of:

Why in hell would “they” do that?

****

I was going through some German periodicals. I saw this ad for a brandy distiller. In English it reads:

Everything should go well for all!

Yes, things should be even better! Everyone should be able to work without worrying. All should be able to afford to travel, to fill their homes with beautiful things and to fulfill the heart's desires, both large and small.

That is what Germany wants! For itself and for all of the countries in Europe. Together, we will work to secure and raise the standard of living!

The ad is from 1940. The last line reads:

That is what Germany is fighting for. And only a German victory will realize the goal of a European economic community.

It does make you think. Are they manipulators or just bumblers?
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H/T: Russ Halley

On Capital Flight and Forced Repatriation

There are some folks in America who will wake up this morning and read that Jefferies has been sued for its role in a bond deal with MF Global and they will vote with their feet (Zero hedge Link). They will close their accounts with JEF and move to a safer address. That’s an example of capital flight.

There are people all over the globe who have looked at the rapid un-gluing of the financial system and have bought gold as a safe haven. That’s another example of capital flight.

Every time that something stupid crosses the tape from one of the EU deep thinkers the US bond market catches a bid. Yet another example of capital flight.

I could go on for a bit with this. There are dozens of examples. All around the globe one can find evidence that money is moving around with the sole purpose of finding someplace “safe”.

Capital flight is a perfectly logical consequence in today’s world. Barely a day passes where we are not reminded that nothing is safe any more. Not our currencies, not our equities, not our bonds and certainly not our banks/brokers.

In Greece there are many example where capital flight is undermining stability. The most obvious is the capital flight from the Greek banks that has taken place over the past few years. This flow of money is also perfectly logical. There are many risks of leaving money in a Greek bank:

-The Bank could default. The principal in the account is at risk. The guarantee (up to E100k) is from the government. What's that worth? If the banks were going under so would the solvency of the government.

-The government could default. The chaos that would follow would result in a freeze of all bank balances.

-The government could announce one morning that it was re-establishing the Drachma. This would mean that any Euros in a Greek bank would be automatically converted into Drachmas at the old official rate. The value of those Drachma would be worth half (or less) as a result of the immediate devaluation that would occur.

Put yourself in the mind of a Greek who had some savings in a local bank. What would you do? You would do whatever you could to get your money to high ground. It would be perfectly reasonable for you to do that. And that is exactly what the Greeks have done. They’ve moved billions of Euros to Swiss banks in an effort to preserve their wealth. In the process they have crippled the Greek banks and have added to the downward spiral in Greece and the rest of the EU.

There was (IMHO) a very significant development on this front last week. A move is being made in Brussels to “force” the Swiss government/banks to transfer all of the assets of Greek citizens back to the Greek banks. For a Greek this means that your money is hostage. It has been functionally expropriated. It will be transferred into a banking system that is fraught with risk. Some portion of the money that goes back to Greece will certainly be lost.

I have talked with some who I know in Athens. They are out of their minds with this development. Some thoughts/quotes:

- BRUSSELS—The European Commission is helping Greece negotiate an agreement with Switzerland to repatriate as much as $81 billion believed to be hidden in Swiss bank accounts, a high level European Union executive body official said Nov. 17.

$81 billion?? That’s massive. This is not the shopkeeper or pensioner. This is big bucks and that means the Greek shippers. It is a fact that the Greek government doesn’t tax the foreign earnings of the shippers. Call that a mistake, but that is the law. As a result, the shippers have held huge bucks in Switzerland. It’s not dirty money. Right or wrong, there was no legal tax on this.

The European Commission is working with Switzerland and Greece stop what it believes is an ongoing exodus of money from Greek bank accounts into Swiss and other offshore banking centers, the EU official said.

The only way to stop capital flight is to address the underlying causes of the flight. That can’t happen in Greece for years. The alternative is to trap the money, force it to go where it is at most risk. The owner of the money will have no choice. Any rights they might have to preserve their assets will be abrogated.

I’m amazed at this development. The Swiss government/banks are obligated to cooperate with EU tax authorities when there is evidence of tax fraud. But that is not what this is about. The people in Brussels and Bern know that. The fact is that the Greek tax system is so screwed up that there simply are no taxes levied on certain types of income/capital (the shippers). No doubt, some of the Greek cash that is in Switzerland is there because of tax avoidance. But the vast majority is simply safe haven money.

The word “Repatriation” sounds nice enough but really it means “Theft and expropriation”. There will be nothing voluntary about this. There will be little (if any) due process.

If this happens (the folks in Brussels are pushing hard) a very dangerous precedent will have been set. Flight capital will have been made illegal. Where might this go?

-It will go to Spain very quickly. After that it will go to Italy where there are truly huge fortunes outside the country. I see a development like that as being a lights out event.


-It will come to the USA. EU residents have tons of assets here.


-Money that is subject to forced repatriation back to countries with weak banks and bankrupt governments will seek the last remaining safe haven, gold. If governments go so far as to repatriate money, they would also not hesitate to make gold ownership illegal. That too would be a lights out event.

We have a situation developing where the technocrats in Brussels are trying to institute capital controls. They have put a gun to the Swiss government to achieve their objectives. They will likely succeed. The fear of broader capital controls and more repatriation will spread like wildfire. The fact is, capital flight is a very reasonable response in our current environment. Capital controls that either stop or reverse it will undermine confidence and create a panic. Those officials in Brussels have no idea what they are unleashing.

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A Bet for Bullard

James Bullard (St, Louis Fed head) was on TV this morning. He said a number of things that I thought were off base. The biggest was his comment on the collapse of MF Global.

Bullard was pretty smirky about the ending for MFG. He was “pleased” with the outcome. He actually smiled.

I understand why Bullard thinks this is a story with a happy ending. Here we are, three weeks since the demise of the firm and as of yet there has been no crisis that has befallen the markets. Bullard made clear that there has been no bailout of a financial firm this time around and that the system is working as it should.

Okay Mr. Bullard I'll make you a wager. A six pack of your favorite beer. Give the MFG story another month and it will be a problem. It will undermine markets. It will impact confidence in our financial system. It will impact liquidity. As those things occur it will force both Treasury and the Fed to take actions. While those actions may not take the form of any direct bailout of MFG and/or its customers there will be a significant cost to the broader economy.

I would have agreed with Mr. B if it were not for the problem of $600mm of missing client money. There has been a massive effort by forensic accountants and the FBI to locate the loot. As of last night, no one has been able to find it. Three weeks into this and no one can find it? I would call that a crisis in and of itself.

It is now clear that something has happened that should never have happened. Seg. Account money has been lost. This matter is far from over as Bullard suggests. There will be ripple effects.

I’m amazed that there has not been a market consequence to the MFG affair. It’s possible the larger issue of the ongoing collapse in Europe has, so far, masked the importance of this event.

I’m amazed that the Treasury Deportment has not spoken out after three weeks. Everyone who operates in markets understands risk. But in my mind (and in many others) I went to sleep every night knowing that the money I had had in a trading account was segregated and therefore safe. It’s not possible to do that any longer. That’s a very significant change.

I’m amazed that there has not yet been any evidence of money moving out of second tier brokerage accounts. Should we get a confirmation that money is moving, it’s likely that contagion will occur.

I have no doubt that money in seg. accounts at the likes of Merrill and Morgan Stanley is safe. That does not matter. The cheapest thing one could do is put cash outside of seg. accounts. The most expensive thing one could do is leave it there and face a loss of principal. It’s a very lopsided risk and reward.

Are we on Mr. Bullard?

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The Fed makes a weird move

The Federal Reserve has taken an unusual step this week. To my knowledge the action is without precedent. There was no prior announcement or discussion preceding the new measures. By itself, this is atypical for Bernanke's Fed. Ben doesn’t like to surprise markets. He did this time (I'm sure he personally approved the move). Some details and thoughts on what it might mean.

For years the NY Fed has conducted "Dollar Rolls" of MBS securities with the Primary Dealers. These transactions provide liquidity to the MBS market. The Fed’s description:

The Federal Reserve uses agency MBS dollar rolls as a supplemental tool to address temporary imbalances in market supply and demand. A dollar roll is a transaction conducted at market prices that generally involves the purchase or sale of agency MBS for delivery in the current month, with the simultaneous agreement to resell or repurchase substantially similar (although not necessarily the same) securities on a specified future date.

Still confused? So am I. My conclusion is that this is benign. The Fed is just providing order and a degree of predictability to an important capital market. I also don’t know how much of this is going on. This Reuters article suggests that it is a Trillion dollar market. (Would love some help on the #s?)

Why would the Fed establish a new margin requirement on something that has been going on fine without one for years? Why now? The answer is easy. It’s the fallout from MFG.

In a dollar roll the Fed has no principal risk with the counter-party. The cash and securities are settled through a clearinghouse. But they do have risk in the event the counter-party fails during the 30-day roll. If that were to happen, the Fed would have to replace the position with another party and in the process could suffer a loss.

In an effort to avoid this loss the Fed has established a new 2.5% margin on all MBS dollar rolls. From the Journal:

The Federal Reserve said it will be increasing collateral requirements on 21 primary-dealer banks in transactions dealing with mortgage-backed securities, in a move that would be aimed at securing an extra layer of protection against settlement risks with its counter parties.

Random thoughts:

* What kind of message does this send? (It was communicated to the PDs via a conference call!) It sends a very mixed message in my direction. Essentially the Fed is saying, “We’re not so sure we can trust all of you”. Of course this position is justified given that MFG (an ex PD) went into the tank in a matter of days.

It would have been nice if the Fed had taken a different approach and said:

We’ve looked very close. MFG was the only bad apple. It won’t happen again. We’re comfortable with our counter party risk. No need for changes in margins or haircuts.

But they didn’t say that. In fact they have said/done quite the opposite. So to me, it sends an ominous message.


* A shot at the numbers. Say it was a trillion dollar market. That would mean that at any point and time there would be about $80b outstanding. 2.5% of 80 large comes to a neat $2b. That’s not so much money for the PDs. But this is equity money. There is a cost to equity these days at the big firms. There is not one of them that has excess tier 1.


* I have heard that all the PDs are bellyaching big time over this. It will eat into their profits. I also heard that some of the European banks that are also PDs (BNP, Barclays, Credit Swiss, Deutche Bank, UBS) are really pissed. This is not a good time for them to be asking the Head Offices for an additional allocation of capital.


* I don’t think this is all that profitable of a business for the PDs. It’s just part of the grind of financing Agency MBS paper. This is a slap in the face of the PDs.


*This appears to be very bad timing by the Fed. We shall see if anyone (other than me) interprets the new margin requirements as a warning sign. I believe we are on very shaky ground on the matter of sovereign debt and the brokers who make the system work. We can’t afford to let a few more straws fall on the wobbly camel. I think the Fed may have just added to the fray of concerns.


*I’m making a big deal of this. I think it may prove to be important. Anytime that the Fed does something unanticipated it’s worth noting. There is always something more than meets the eye. The timing is odd. The optics are terrible. The Fed is making credit harder to get (very big numbers involved in MBS land) at what may prove to be exactly the worst moment.

Ben Bernanke has often spoken on the history of the depression. He has pointed at the errors of the FRB in 1937 when credit was tightened and a second leg of deflation started. He has said he would not make that same mistake again. I wonder if he just did. Sometimes small things bring big results in our complex markets.

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CBO Report - "We should subsidize more mortgages"

The Congressional Budget Office reports are worth looking at as they often give clues on future economic policy and legislation. The CBO is supposed to be non-partisan. I’m not sure I understand what that means. In one way or another everything in D.C. is partisan. It has been my observation that the CBO attempts to steer the direction of policy in their reports. They push their own agenda. What motivates them is not clear to me.

CBO recommends steps that could be taken. It also estimates the consequences of any economic policy action. They forecast (guess at)  both the number of new jobs that would be created and for how long those jobs might last. The recent CBO report evaluates a range of stimulus options. The following two slides are from the 2/10 and the 11/11 reports. They are similar, but there is one very important new policy option in the most recent analysis:

..

The new thinking from the CBO:

"Subsidizing the Interest Rate on Certain Mortgages That Are Refinanced."

The CBO is making a very strong suggestion that ON BUDGET mortgage relief should be considered as an economic stimulus. According to the CBO this new form of stimulus would be more effective in creating (lasting) jobs than (1) Infrastructure spending, (2) Increasing aid to individual states, (3) Corporate tax holiday on foreign earnings, (4) Reducing business taxes, (5) Expanding business depreciation (6) Sustaining the Bush tax cuts and (7) Reducing workers FICA taxes.


That’s incredible! Subsidizing mortgages with federal money is a better economic stimulus than infrastructure spending? We are charting new waters with this thinking.

The Federal Reserve has done everything feasible to reduce interest rates in an effort to create cheap refi opportunities. As a consequence, mortgage rates are at record lows. But the CBO thinks they have to be lower still and proposes to subsidize the rates consumers are paying.


I don’t agree with the philosophy of this new stimulus approach. It’s a kick the can down the road policy that is directed at a very small percentage of the population. The sand states would be the primary beneficiaries. The banks would also get another shot in the arm. I’m sick of policies that have imbedded subsidies to the financial sector.

That said, mortgage subsidies would be very popular with the politicians (from both sides of the aisle) in the coming election year. It is correct to view the US economy as currently running on only 6 of its 8 cylinders. The two that are misfiring are related to the housing sector. So a "fix" to the broken wheel that also gets votes is a theoretical possibility.

The fact that the CBO has teed up (and therefore legitimized) the idea of direct support for mortgage borrowers means that some of our lawmakers will come up with new legislation. In the current environment Washington can’t pass any legislation. So this has little chance of seeing the light of day. That said, the CBO is touting, a package that includes cash subsidies for mortgage borrowers.

The notion of oiling what squeaks makes sense at one level. On another level the idea that tax dollars should be used to directly reduce monthly mortgage payments would seem like the ultimate act of desperation. Are we really that desperate?
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Thin Ice

I’m not surprised that the halo effect of political changes in Italy and Greece had a very short half-life. Why would it? Nothing has changed.

I’m not surprised that the contagion has worked its way to France. After all, the ECB intervention policy insures that France becomes a target. “If you can't sell Italy, sell France”, is the market’s response.

But I’m absolutely blown out by the pace of things. France’s bonds are being devalued on a daily basis. Italy has been functionally shut out of the new issue market. Market liquidity has dried up. What were once routine transactions are now difficult to price. E100mm bond transactions for France and Italy were normal; today E25mm is a market amount.

What is becoming scarily clear is that there is no more announcements coming that are going to make a difference. All the news is out on expanding the EFSF. The only thing that could reverse this tide is an agreement to “federalize” the debts of Europe. This would leave Germany (massively) on the hook. There is zero chance of this happening.

The central question that the market will ask and answer in the next few weeks is whether France can withstand the onslaught. The ECB will not intervene in the French market. Will debt capital continue to move out of France? Two charts. One says France is probably okay. The other says we are headed for a hard landing.

These numbers (CIA) are a year old but they tell the story. Italy had $2.1T of public sector debt (119% of GDP) while France had only $1.8T of debt (82% of GDP). Looking at this it’s understandable why Italy is in trouble. But it does not explain why France should have a problem. This chart is the reason that there could be an issue:

On this basis France has double the debt of Italy. I call this the Money Center Bank Syndrome. The banks have debt outside their borders (they have assets too). This debt is getting sucked into the French government bond market as world investors trim exposure to the country (“If you can’t reduce exposure to the banks, sell government bonds”).

Italy and France have an average debt maturity of ~7 years. There is a total of $3T. The market value of this stock of debt has fallen by about $200b since October 1st. This is not a loss that will be recorded on anyone’s books (except the likes of MFG) but it does cause a strain on funding as the repo value has fallen.

Remember that all night conference by the EU deciders on October 26th? Central to that meeting was the commitment that the EU banks would undergo a recapitalization of E106b ($150b) by June 30 2012. The EU banks have had their assets impaired by at least that amount in just the past two months.

 

That all night meeting was just a joke! Anyone who trusts these people are making a mistake.

The Merkozy’s of Europe will be making “calming” statements over the next few days. We are dangerously close to a death spiral, and they know it. But they have nothing on their shelf but words. I don’t think this will prove to be enough.

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On Stryker, Taxes, the Super Committee and Growth

Obama’s Affordable Health Care Act of 2010 was paid for (in part) with an excise tax on implanted medical devices. The 2.3% excise tax goes into effect in 2013. It’s already causing some of those “unintended consequences” that we keep hearing about:

Top News
Stryker to cut jobs to offset excise tax impact
Thu, Nov 10 18:18 PM EST

Nov 10 (Reuters) - Medical device maker Stryker Corp said it will cut 5 percent, or about 1000 jobs to largely offset costs related to the scheduled implementation of the new Medical Device Excise Tax in 2013.

Steve Ferguson, the chairman of Cooke Group (another device manufacturer) had this to say about the excise tax:

"Many companies are being forced to limit investments in R&D in the U.S. and go abroad. Further, many companies are looking to reduce their U.S. capital investment. For Cook, we had planned on making additional investments in U.S. communities. Now, because of the tax, those plans are on hold."

I hope that this small example will confirm to any doubters that tax increases do have consequences. When taxes go up, jobs are lost. Investments in new plant and equipment are either deferred or are made outside of our borders. It’s that simple.

Stryker’s stock (SYK) has been in the doghouse of late. It’s down 22% since the establishment of the Super Committee (mandatory cuts in medical spending). The stock market has done what it’s supposed to do; adjust the multiple to reflect the changing realities.

SYK was trading at a 16X PE on Friday. That multiple might be justified. After all, Stryker is a pretty good company. You can’t go to a hospital without using their stuff. They make the beds you lie on and the scalpels they cut you with. They are also high tech. They make gizmos that will suck out your gall bladder in just a few minutes and leave a few small holes. They’re big in devices (hips, knees etc.).

The company is consistently profitable and has nice (15%) margins. It’s sitting on $3b of cash and functionally has no debt. For the suckers who think that dividends are the key to wealth SYK pays 1.5% and there’s every reason to believe the payout will grow. If one wanted to get a play on the global growth story, SYK is on the list. They’re everywhere. With rising incomes in Asia and aging populations in the West one would think the company is sitting pretty.

On the other hand, one could look at recent results. All the important lines are flatter then a pancake. What's the right multiple when top line is dead and the future is not so bright?

There are only 7 days left before the Super Committee efforts are to be released (they have to publish a plan 48 hrs before the 11/23 deadline). My sense has been that there will be no deal. That was confirmed today listening to the talk shows. We’re going to get big cuts in both healthcare and military spending as a result.

I wonder if the stock market has fully priced in the consequences for the few dozen companies whose future growth (or lack thereof) will be confirmed in a week. I also wonder what the big macro economists and players like the CBO, OMB, SSA and the IMF will say about revisions to US growth.

My guess is that the stock market has not fully priced this in and I’m convinced that the conclusion by the deep thinkers will be that long term US growth prospects have to be revised down, not up.

The CME acts on MF customer accounts

Interesting development in the MF Global story after the close:

The $300mm is in the form of a guarantee. The objective is to get the Bankruptcy Trustee to release money owed to former MF customers. From the CME release:

"Though CME Clearing does not guarantee FCM-held assets, CME Group is willing to provide a $250 million financial guarantee to the trustee to give the trustee greater latitude to make an interim distribution of cash to customers now, given the monumental task he faces to sort through considerable data and claims in order to complete the MF Global liquidation and make distributions to creditors.”

Some thoughts:

-The amount of “missing” customer money is $600. So the CME is picking up the tab for half of the nut.

-This is a glass half full for MF customers. Yes, they are getting half their money back. But my read from this is that this other half is very much at risk.

-The CME steps up for $300 large and they don’t have to? Nobody does that. There is more to this offer than meets the eye.

-I can’t see how the CME can be held liable for MF customer losses. Therefore the money is an attempt to preserve the integrity of the exchange and to protect its members.

-It’s possible that the CME action was done with a gun to their head. Absent a fix (partial or otherwise) a systemic risk was (is) a consequence. The only one who could hold a gun in this discussion is Treasury.

-Has anyone noticed that Treasury has been silent on the MF story? I’ve been very surprised at this. It’s long since time that Geithner should have spoken publicly on this important development. The WH wants to steer clear of anything that smells like a bailout. The WH is ignoring its responsibilities.

-It’s (again) clear that there is a ton of cash sitting with the Trustee. The reason this money has not been forwarded to customers is that there is a claim against it. I can’t imagine how that can be.

-The most likely entity that is claiming the money is JPM. It’s possible that JP is acting on behalf of yet another party, but I doubt that.

-That this matter has now gone on for two weekends confirms to me that there are losses outside of MF. What shouldn’t have happened has happened.

-Early next week the Trustee will accept or reject the CME deal (I’m sure there are strings). If the Trustee does reject this (its very unusual) then there will be some fallout. If this happens, all of the customer money is at risk.

-I’ve thought from the beginning that this had the makings of a Black Swan. I’m not sure that the actions by the CME defuse the risk.

-If there is going to be a reaction (capital withdrawals from other brokers, liquidity issues in futures markets), it will be evident on Monday.

-If I had an account with a second tier broker I would take the money out. It’s easy to put it back in. It’s a disaster if you can’t take it out.

GE….Italy….GE

I was looking through a trade rag for biomass power generation (I have no life). This caught my attention:

The idea of turning waste to energy is a good thing. The facility in Italy is part of an overall effort to get the country to produce 17% of its energy needs from renewable sources.

The GE Jenbacher gas engines are built in Austria, Hungary and China. So this is one of those global stories.

I don’t have much info on the Villanova Mondovi project but I do have some history financing co-gen facilities in different places around the globe. They all have the following features:

-They are long life projects with long-term paybacks.

-They (almost) always have a municipal involvement.

-There is (almost) no equity in these projects. They are funded 99% with debt.

-The capital structure has debt maturities out to 15+ years.

-In (almost) all cases vendor financing of major components is a requirement for an equipment sale.

-The cost of debt is THE critical component for a project. Without the availability of cheap long-term money these co-gen facilities never get off of the drawing board.

While I can’t confirm that GE’s Austrian subsidiary (or GECS) actually took back Italian government paper in exchange for the sale of turbines it would be very typical for projects like this.

From GE’s 9/30/11 10Q:

Forbes took a look at US corporate exposure to Europe. GE is on top of their list. They conclude that those companies with high exposure AND a leveraged balance sheet are the most at risk. Well, 27% of GE’s top line comes from Europe. Their debt to capital is 75%.

With Italian interest rates where they are today (and the fact the country can’t sell new debt) projects like the one outside Turin will not be repeated. There may have to be haircuts on old debt. Where does that take GE?

*********************************************************

Thinking about the Italian bond market got me to look at a leveraged bet. There are many ways to achieve the following results (derivatives). The following is the simplest form of a carry trade. (Note: you have to be a “player” with a big balance sheet to get into this sandbox)

Buy
$1b of 6% Italian one-year Treasury bills. Finance 90% of the purchase with dollars. Fully hedge the purchase with a one-year swap of dollars for Euros.

Result
One year return on equity: 50+%

What? A 50% return on Italian short-date paper?

I can hear people jumping on the fact that this huge return is a consequence of 90% leverage. Let me point out that the margin on Italian Tbills was 5% less than one month ago. But I understand that 90% may seem too high today. What leverage ratio would make you happy? How about 50%?

Result:
One-year return on equity: 10+%

That’s crazy!  I’ve never seen anything like this before. Is the probability of default within one year that high? I have difficulty believing that. But that’s what the market is telling us.

The only conclusion is that the European bond market is functionally nonexistent.

***************************************************

Getting back to GE, a friend sends me this link. This is a letter sent to Congress 11/9 that was signed by 1,500 US corporations. Everyone you can think of signed this. Most notably, GE.

November 9, 2011

Dear Member of Congress:

The undersigned organizations urge Congress to extend as soon as possible the tax provisions set to expire in 2011.

This letter is a plea for tax relief. The companies want to retain their favorite loopholes. For the heck of it I include the wish list below this piece. It’s endless. It’s a joke. It proves that American industry’s interests are not at all aligned with the American citizens. This list will insure that the likes of GE never pay their share of US taxes.

I don’t have a problem when US industry lobbies congress for what they want. That’s the system we signed up for. But I do have a problem when the company that has the most to gain from the tax code is also advising the Administration on economic policy.

Obama has made a bunch of dumb mistakes. His getting into bed with Jeff Immelt is high on the list.

 

The "Vomit" list

TITLE I–INFRASTRUCTURE INCENTIVES
Sec. 101. Extension of Build America Bonds.
Sec. 102. Exempt-facility bonds for sewage and water supply facilities.
Sec. 103. Extension of exemption from alternative minimum tax treatment for certain tax-exempt bonds.
Sec. 104. Extension and additional allocations of recovery zone bond authority.
Sec. 105. Allowance of new markets tax credit against alternative minimum tax.
Sec. 106. Extension of tax-exempt eligibility for loans guaranteed by Federal home loan banks.
Sec. 107. Extension of temporary small issuer rules for allocation of tax-exempt interest expense by financial institutions.
TITLE II–EXTENSION OF EXPIRING PROVISIONS
Subtitle A–Energy
Sec. 201. Alternative motor vehicle credit for new qualified hybrid motor vehicles other than passenger automobiles and light trucks.
Sec. 202. Incentives for biodiesel and renewable diesel.
Sec. 203. Credit for electricity produced at certain open-loop biomass facilities.
Sec. 204. Extension and modification of credit for steel industry fuel.
Sec. 205. Credit for producing fuel from coke or coke gas.
Sec. 206. New energy efficient home credit.
Sec. 207. Excise tax credits and outlay payments for alternative fuel and alternative fuel mixtures.
Sec. 208. Special rule for sales or dispositions to implement FERC or State electric restructuring policy for qualified electric utilities.
Sec. 209. Suspension of limitation on percentage depletion for oil and gas from marginal wells.
Sec. 210. Direct payment of energy efficient appliances tax credit.
Sec. 211. Modification of standards for windows, doors, and skylights with respect to the credit for nonbusiness energy property.
Subtitle B–Individual Tax Relief
PART I–Miscellaneous Provisions
Sec. 221. Deduction for certain expenses of elementary and secondary school teachers.
Sec. 222. Additional standard deduction for State and local real property taxes.
Sec. 223. Deduction of State and local sales taxes.
Sec. 224. Contributions of capital gain real property made for conservation purposes.
Sec. 225. Above-the-line deduction for qualified tuition and related expenses.
Sec. 226. Tax-free distributions from individual retirement plans for charitable purposes.
Sec. 227. Look-thru of certain regulated investment company stock in determining gross estate of nonresidents.
PART II–Low-income Housing Credits
Sec. 231. Election for direct payment of low-income housing credit for 2010.
Sec. 232. Low-income housing grant election.
Subtitle C–Business Tax Relief
Sec. 241. Research credit.
Sec. 242. Indian employment tax credit.
Sec. 243. New markets tax credit.
Sec. 244. Railroad track maintenance credit.
Sec. 245. Mine rescue team training credit.
Sec. 246. Employer wage credit for employees who are active duty members of the uniformed services.
Sec. 247. 5-year depreciation for farming business machinery and equipment.
Sec. 248. 15-year straight-line cost recovery for qualified leasehold improvements, qualified restaurant buildings and improvements, and qualified retail improvements.
Sec. 249. 7-year recovery period for motorsports entertainment complexes.
Sec. 250. Accelerated depreciation for business property on an Indian reservation.
Sec. 251. Enhanced charitable deduction for contributions of food inventory.
Sec. 252. Enhanced charitable deduction for contributions of book inventories to public schools.
Sec. 253. Enhanced charitable deduction for corporate contributions of computer inventory for educational purposes.
Sec. 254. Election to expense mine safety equipment.
Sec. 255. Special expensing rules for certain film and television productions.
Sec. 256. Expensing of environmental remediation costs.
Sec. 257. Deduction allowable with respect to income attributable to domestic production activities in Puerto Rico.
Sec. 258. Modification of tax treatment of certain payments to controlling exempt organizations.
Sec. 259. Exclusion of gain or loss on sale or exchange of certain brownfield sites from unrelated business income.
Sec. 260. Timber REIT modernization.
Sec. 261. Treatment of certain dividends of regulated investment companies.
Sec. 262. RIC qualified investment entity treatment under FIRPTA.
Sec. 263. Exceptions for active financing income.
Sec. 264. Look-thru treatment of payments between related controlled foreign corporations under foreign personal holding company rules.
Sec. 265. Basis adjustment to stock of S corps making charitable contributions of property.
Sec. 266. Empowerment zone tax incentives.
Sec. 267. Tax incentives for investment in the District of Columbia.
Sec. 268. Renewal community tax incentives.
Sec. 269. Temporary increase in limit on cover over of rum excise taxes to Puerto Rico and the Virgin Islands.
Sec. 270. Payment to American Samoa in lieu of extension of economic development credit.
Sec. 271. Election to temporarily utilize unused AMT credits determined by domestic investment.
Sec. 272. Reduction in corporate rate for qualified timber gain.
Sec. 273. Study of extended tax expenditures.
Subtitle D–Temporary Disaster Relief Provisions
PART I–National Disaster Relief
Sec. 281. Waiver of certain mortgage revenue bond requirements.
Sec. 282. Losses attributable to federally declared disasters.
Sec. 283. Special depreciation allowance for qualified disaster property.
Sec. 284. Net operating losses attributable to federally declared disasters.
Sec. 285. Expensing of qualified disaster expenses.
PART II–Regional Provisions
subpart a–new york liberty zone
Sec. 291. Special depreciation allowance for nonresidential and residential real property.
Sec. 292. Tax-exempt bond financing.
subpart b–go zone
Sec. 295. Increase in rehabilitation credit.
Sec. 296. Work opportunity tax credit with respect to certain individuals affected by Hurricane Katrina for employers inside disaster areas.
Sec. 297. Extension of low-income housing credit rules for buildings in GO zones.
TITLE III–TECHNICAL CORRECTIONS TO PENSION FUNDING LEGISLATION
Sec. 301. Definition of eligible plan year.
Sec. 302. Eligible charity plans.
Sec. 303. Suspension of certain funding level limitations.
Sec. 304. Optional use of 30-year amortization periods.
Sec. 305. Transition rule for certifications of plan status.
TITLE IV–REVENUE OFFSETS
Subtitle A–Personal Service Income Earned in Pass-thru Entities
Sec. 401. Partnership interests transferred in connection with performance of services.
Sec. 402. Income of partners for performing investment management services treated as ordinary income received for performance of services.
Subtitle B–Corporate Provisions
Sec. 411. Treatment of securities of a controlled corporation exchanged for assets in certain reorganizations.
Sec. 412. Taxation of boot received in reorganizations.
Subtitle C–Other Provisions
Sec. 421. Modifications with respect to Oil Spill Liability Trust Fund.
Sec. 422. Denial of deduction for punitive damages.
TITLE V–HEALTH AND OTHER ASSISTANCE
Sec. 501. Extension of section 508 reclassifications.
Sec. 502. Repeal of delay of RUG-IV.
Sec. 503. Limitation on reasonable costs payments for certain clinical diagnostic laboratory tests furnished to hospital patients in certain rural areas.
Sec. 504. Funding for claims reprocessing.
Sec. 505. Medicaid and CHIP technical corrections.
Sec. 506. Addition of inpatient drug discount program to 340B drug discount program.
Sec. 507. Continued inclusion of orphan drugs in definition of covered outpatient drugs with respect to children’s hospitals under the 340B drug discount program.
Sec. 508. Conforming amendment related to waiver of coinsurance for preventive services.
Sec. 509. Clarification of effective date of part B special enrollment period for disabled TRICARE beneficiaries.
Sec. 510. Adjustment to Medicare payment localities.
Sec. 511. Clarification for affiliated hospitals for distribution of additional residency positions.
TITLE VI–OTHER PROVISIONS
Subtitle A–General Provisions
Sec. 601. Allocation of geothermal receipts.
Sec. 602. Employment for youth.
Sec. 603. Housing Trust Fund.
Sec. 604. The Individual Indian Money Account Litigation Settlement Act of 2010.
Sec. 605. Appropriation of funds for final settlement of claims from In re Black Farmers Discrimination Litigation.
Sec. 606. Expansion of eligibility for concurrent receipt of military retired pay and veterans’ disability compensation to include all chapter 61 disability retirees regardless of disability rating percentage or years of service.
Sec. 607. Refunds disregarded in the administration of Federal programs and federally assisted programs.
Sec. 608. Qualifying timber contract options.
Sec. 609. Extension and flexibility for certain allocated surface transportation programs.
Sec. 610. Community College and Career Training Grant Program.
Sec. 611. Extensions of duty suspensions on cotton shirting fabrics and related provisions.
Sec. 612. Modification of Wool Apparel Manufacturers Trust Fund.
Sec. 613. Department of Commerce Study.
Sec. 614. ARRA planning and reporting.
Sec. 615. Surety bonds.
Sec. 616. Funding for Deployment of Renewable Energy, Energy Efficiency, and Electric Power Transmission Projects.
Subtitle B–Extension of Trade Adjustment Assistance
Sec. 621. Short title.
Sec. 622. Extension of Trade Adjustment Assistance.
Subtitle C–Extension of Health Coverage Improvement
Sec. 631. Improvement of the affordability of the credit.
Sec. 632. Payment for the monthly premiums paid prior to commencement of the advance payments of credit.
Sec. 633. TAA recipients not enrolled in training programs eligible for credit.
Sec. 634. TAA pre-certification period rule for purposes of determining whether there is a 63-day lapse in creditable coverage.
Sec. 635. Continued qualification of family members after certain events.
Sec. 636. Extension of COBRA benefits for certain TAA-eligible individuals and PBGC recipients.
Sec. 637. Addition of coverage through voluntary employees’ beneficiary associations.
Sec. 638. Notice requirements.
Subtitle D–TANF Provisions
Sec. 641. Extension of Temporary Assistance for Needy Families and related programs.
Sec. 642. Reinstatement of Federal matching of State spending of child support incentive payments.
Sec. 643. Extension and modification of the TANF Emergency Fund.
Sec. 644. Modifications to TANF data reporting.
Sec. 645. State court improvement program.
Subtitle E–Unemployment Compensation Program Integrity
Sec. 651. Permissible uses of unemployment fund moneys for program integrity purposes.
Sec. 652. Mandatory penalty assessment on fraud claims.
Sec. 653. Prohibition on noncharging due to employer fault.
Sec. 654. Collection of past-due, legally enforceable State debts.
Sec. 655. Treatment of short-time compensation programs.
Sec. 656. State use of compensating balances and interest earned on clearing account to pay associated banking costs.
Sec. 657. Reporting of first day of earnings to directory of new hires.
Sec. 658. Deduction of obligations for custodial parents.
Sec. 659. Advisory Council on unemployment compensation.
Sec. 660. Amendment to the Federal-State extended benefits program.
Sec. 661. Operating instructions and regulations.
Subtitle F–Custom User Fees
Sec. 665. Customs user fees.
TITLE VII–TRANSPARENCY REQUIREMENTS FOR FOREIGN-HELD DEBT
Sec. 701. Short title.
Sec. 702. Definitions.
Sec. 703. Sense of Congress.
Sec. 704. Quarterly report on risks posed by foreign holdings of debt instruments of the United States.
Sec. 705. Annual report on risks posed by the Federal debt of the United States.
Sec. 706. Corrective action to address unacceptable and unsustainable risks to United States national security and economic stability.
TITLE VIII–TRANSPARENCY REQUIREMENTS FOR FOREIGN-HELD DEBT
Sec. 801. Short title.
Sec. 802. Definitions.
Sec. 803. Sense of Congress.
Sec. 804. Annual report on risks posed by foreign holdings of debt instruments of the United States.
Sec. 805. Annual report on risks posed by the Federal debt of the United States.
Sec. 806. Corrective action to address unacceptable risks to United States national security and economic stability.
TITLE IX–OFFICE OF THE HOMEOWNER ADVOCATE
Sec. 901. Office of the Homeowner Advocate.
Sec. 902. Functions of the Office.
Sec. 903. Relationship with existing entities.
Sec. 904. Rule of construction.
Sec. 905. Reports to Congress.
Sec. 906. Funding.
Sec. 907. Prohibition on participation in Making Home Affordable for borrowers who strategically default.
Sec. 908. Public availability of information.

FFB’s busy month

The Federal Financing Bank (FFB) has published its September results. The US Treasury owns this bank. Tim Geithner runs it. FFB’s year-end is September, as a result, the folks at the FFB had a busy month. From the report: (Link).

FFB holdings of obligations issued, sold or guaranteed by other Federal agencies totaled $57.6 billion on September 30, 2011, posting an increase of $2,059.6 million from the level on August 31, 2011.

At $58b the FFB ranks 33rd on the list of the biggest banks in the US. This puts them about equal to Comerica and just under Discover Financial. I’m as certain as I can be that that the folks running the show want the FFB to grow bigger and bigger. Maybe next year they will move into the coveted top 20 ranking. They were booking new loans and rolling over old ones like mad. Way to go guys!

The FFB made 163 disbursements in the month of September.

The FFB also extended the maturities of 318 loans and reset the interest rate for 3 loans issued by the U.S. Postal Service during the month.

Some of the details of the monthly activity are interesting. For example, consider this snapshot of the YE balance sheet:

The good old PO got an extra $1.5B for the month. Note that the outstanding has been brought up to an even $13b. That number is the legal limit for the PO. They have maxed out the credit card at the FFB.

We’ve been hearing for years that the PO is going broke. Well, we finally reached the finish line. As the following chart shows they have no further borrowing authority and will be insolvent by summer. This means we need a bailout. A pretty big one at that.

This issue has to come onto the table pretty soon or the mail will get very slow. The liquidity problems at the PO could be “fixed” fairly easily by an increase in the debt limit, but that would require congress to act. We all know that congress is unlikely to act on anything during an election year.

If you were concerned that the PO was going broke paying its interest bill, don’t worry. The average cost of financing for the PO is a lousy 1/8th of a percent. They are borrowing under the cost of treasuries.

It’s also worth noting that the FFB continues to make loans to solar and other energy related private sector companies. This is the list of money that went out the door in September:

Note that Nissan and Ford are big takers of dough. For the life of me I can’t come up with a justification for these two big hitters to be on the cheap money list from the FFB. This is not short-term financing we’re talking about. The maturities for these advances runs from 10 to 23 years!

The government is lending money to the solar projects at cheap rates and for as long as 30 years! That’s not debt. That’s equity money. The total of these soft loans now totals $4.9 billion.

Of note is the $214k loan to Beacon (maturity 2030). Beacon filed for chapter 11 one month after getting this money. I strongly suspect that the nice folks at the DOE and FFB were well aware of the pending chapter filing by Beacon when the last advance was made. The amount is odd. It looks suspiciously like an interest payment amount. In the old days bankers who were looking at a payment default often lent more money to cover interest with the sole purpose of avoiding a default over a fiscal year-end. This is window dressing. It’s terrible when banks do this stuff, it’s much worse when the government does it. The FFB out-standings to Beacon are about $40mm. All that money is lost.

There was no discussion of the $530mm of sour loans to Solyndra in the monthly report. There will be no loss for the FFB as a result of that disaster. The DOE has guaranteed any losses. My bet is that if you looked at the DOE books there would be no loss either. Keep in mind that the Treasury Secretary is running this show. Possibly Mr. Geithner has learned the lessons from the commercial banks on how to extend and pretend.

There is one new name on the list of favored borrowers. Agua Caliente got $22mm due 2037. This is the first of many drawings for this venture. “Hot Water” is a good name for this project. I think the administration is going to be deep in (Political) hot water on all these loans as we approach election time. More of the names on this list will have gone bust by then.

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