Author: Tyler Durden

Paul Brodsky: “Sorry, It Had To Be Said”

Submitted by Paul Brodsky from Macro Allocation

Being Here

     “As long as the roots are not severed, all is well. And all will be well in the garden.”

      – Chauncey Gardner (Chance, the Gardner)

This piece takes a roundhouse swing at politics, real and imagined, and discusses critical economic issues that politicians should actually apply a little intelligence to, but are not. Capitalism will ultimately set things right, but it will have to overcome the political dimension’s best efforts to ignore real issues.

The Real Deal

An important character trait for wealth creation today seems to be incuriosity – find out what’s working, hop on board, enjoy the ride and don’t ask questions. Growth and value metrics seem to matter less than they used to, and so investors have turned their gaze to macroeconomics and, gulp, politics.

We think investment-related political discussions that handicap the likelihood of new pro-growth fiscal, tax, trade and regulatory policies in the US are off-base and have taken on too much importance. They do not promise sustainable support for the US economy or markets given a few twenty-first century realities:

  • Full value: the scale of financial markets has already become quite big relative to output.
  • Financial asset price appreciation now reflects a) short-term balance sheet management and b) price deflationary innovation, rather than growth in the sustainable capital stock.
  • There is no longer such a thing as a domestic economy, even if economic initiatives help shift domestic investment and consumption. Global goods and service prices, and trade responses from well-organized foreign economies, tend to quickly offset domestic stimulus programs.

Late cycle economic initiatives, such as those discussed by Mr. Trump, are ultimately derivative of waning animal spirits. They can be distorted for a time by credit policies and legislation, but they cannot be kept permanently in disequilibrium. Human incentives, along with innovation, productivity and balance sheet digestion, tend to overwhelm the best efforts of policy makers trying to extend trends. After a generation of pulling credit and revenues forward, culminating in rock-bottom borrowing costs; lower taxes, (deficit-funded) government investment and reduced regulatory oversight would be only marginally stimulative.

The combination of ubiquitous leverage, aging Western wealth holders, and deflationary globalization and innovation (including non-sovereign distributed ledgers that allow value to be transferred directly among willing counterparties anywhere across the world), pose the biggest threats to traditional domestic output and inflation models still embraced by global economic policymakers and most investors.

This sets up an epic global economic battle if Americans choose to keep US nation-state sovereignty, which of course they will. It is serious stuff that will require serious leadership and diplomatic skills from the President of the United States, which, as the global hegemon, has the most to lose.

Fake Politics

It should not surprise anyone that Western societies are becoming restless. Trump, Brexit, Charlottesville and, arguably, even radical Islamic terrorism are bi-products of global economic distortions largely created by the unwillingness of the Western political dimension to let the global factors of production naturally settle global prices and wages. (Sorry, it had to be said.)

Donald Trump is a sideshow. His ascension, or someone like him, was inevitable. He may have official authority to behave like the leader of the free world (even if he is unable to do so), but so far he has only shown that virtually anyone can become president. Indeed, one might say Mr. Trump represents a triumph of democracy. Behold the robustness of America: the most powerful nation on Earth is unafraid to elect a cross between P.T. Barnum and Chauncey Gardner!

This is not to say a US president cannot raise and emphasize truly meaningful economic goals and mobilize countries around the world to help achieve them; but it is to say that this President seems to not know or be interested in what those goals might be.

As discussed, the biggest challenges facing the US economy and US labor stem from a distorted global price and wage scale. Mr. Trump’s domestic fiscal, regulatory, tax and immigration goals seek only to raise US output and wages. This cannot be achieved without the participation of global commerce. There is no such thing anymore as a US business that makes US products sold only in the US without being influenced by global prices, wages and exchange rates. The romantic, patriotic “made in the USA” theme does not comport with the reality that the US also seeks to keep the dollar the world’s reserve currency and that maintaining America’s power requires the US to control the world’s shipping lanes. Mr. Trump and his base cannot have one without the other. (Do we really have to articulate this?)

Mr. Trump’s “Being There” presidency is reflecting an inconvenient truth back on a society that has, until maybe now, successfully deluded itself into believing government is functionally the glue holding society together. Though he does not mean to, Mr. Trump is single-handedly demonstrating to groups ranging from idealistic Washington elites to social media zombies to southern white supremacists that Madisonian government has become a dignified cover for the financial, commercial and national security interests that control it. We suspect those interests would rather the reach of their power be less visible.

For the more pragmatic among us, Mr. Trump’s bravado and apparent emotional instability have created the need for a public work-around. He remains tentatively safe to wealth holders because he hired Goldman Sachs to manage financial affairs, and acceptable to globalists because he is deferring foreign policy to the NSC (i.e., “the generals”). Mr. Trump may continue to speak in nationalistic terms, tweet IEDs, and confound media used to personalizing policy; but it seems highly unlikely he will be able to make high yielding unilateral policy decisions. He will likely settle into a pattern of lobbing increasingly ignored tape bombs and hosting elegant state dinners, as an insane king might. Or else, he will be out.

Just as the virtuous Carter followed the vice-ridden Nixon and the strapping Clinton followed the crusty Bush 41, the vulgar Trump predictably followed the cool Obama. Donald Trump is a man-in-full (of himself), and so we would not be surprised if the next president is an empty suit. (We are unsure how literal that can be.) Given our view of the extraordinary structural changes about to impact US and global economies and societies, the most attractive feature for the next presidential could be a really intelligent person who says “I don’t know” fifty times every stump speech. We are ready to vote for a thirty five year-old woman who can code, if only because the president of the US must be at least 35.

The differences separating political platforms are beginning to matter less than they used to. The billions spent in election cycles and beyond accomplishes little except redistributing liquidity from sentimental or idealistic savers from both parties to media company executives and their shareholders. None of it reduces the leverage on the balance sheets of global governments, households and businesses, or starts a conversation about how to reconcile rising asset prices and falling wages in a digital global economy.

Manifestations

At the risk of oversimplifying, the tension between globalization and nationalism has the greatest influence on economic, social and political affairs today. We were reminded of this last week watching Donald Trump channel the misplaced angst and anger of hate groups, mostly displaced and disaffected white men who have been caught directly in the crossfire of efficient global resource distribution.

One need only observe life to understand the game-changing economic impact of globalization:

  • the opening of Chinese and Soviet-bloc economies in the 1990s;
  • trade treaties that created jobs and drove wages higher in developing economies and displaced jobs and drove real wages lower in developed economies;
  • innovation and technologies that reduced price inefficiencies and displaced workers;
  • ubiquitous real-time direct connectivity across the world;
  • an anachronistic, policy-driven global economic system, comprised and coordinated by sovereign politicians, trade representatives and central bankers, that talk domestic but act global.

The disconnection and underlying hypocrisy are obvious to anyone trying to understand increasing social unrest around the world. National and global economies meant to follow a mostly capitalist outline contrived and administered by policymakers, rather than one following free-market incentives, can last only until late-cycle policies become ineffectual and superfluous.

This is occurring now. Consider that wealth is no longer created from production, but rather from financial pricing models and credit creation, credit that must increase at a parabolic pace and can never be extinguished without substantial output contraction and rising unemployment. It cannot last indefinitely.

Central bank purchases and government investment have been fabricating output growth and asset gains. Central banks now hold about $19 trillion in assets on their balance sheets, up from almost zero in 2008, and are now 20 percent owners of global assets. There is also about $20 trillion in US federal debt, up from $9 trillion in 2008. (See debt growth trajectories in Graph 1, below.)

Stocks, bonds and real estate collateralize each other while output growth makes it possible to service debt. It is not a stretch to assume that output and asset prices would have fallen without government and central bank subsidies, and that they will fall in the future if/when global central banks withdraw support.

Print Money, Get Rich!

Hey passive investors, you’re not that smart…unless your calculus has been to front-run the insecurities of elected and appointed officials who would reliably be unable to sit on their hands while economies and markets correct, rather than bending economic and asset space/time continua to perpetuate positive trends (and their careers).

The reality is that real (inflation-adjusted) returns for long-term holders of financial assets cannot be calculated yet. Deflating nominal returns using coincident goods and service inflation measures (e.g. CPI, PCE) compares apples to oranges – asset price changes vs. consumer price changes. It works if you want to know if you could have cashed in your assets and bought a basket of goods and services, but not if you want to know if you will be able to cash them in and then save risk-free in the future (i.e., create wealth).

The problem is that there are too few dollars for each claim on dollars (credit). The credit that collateralizes equity cannot be repaid and, if output declines, cannot be serviced without more credit. Equity and credit prices will fall (deflate) in tandem as debt service and repayment declines, unless more dollars are created and floated to asset holders. This is the process of inflation, and the pace of this, not consumer inflation, is what should be used to deflate nominal asset returns.

The current imbalance separating credit (claims on money) from money itself suggests a doubling, tripling or even quadrupling of the money supply in float (yes, 100, 200 or 300 percent monetary inflation directed towards financial markets). This implies nominal asset prices could rise, but not nearly as much as the purchasing power value of the currency they are denominated in would fall.

We doubt all the new money could be distributed to the investor class and then reinvested back into financial markets, and so we think it is highly likely that nominal equity and debt prices will fall markedly in the future, though we cannot know from what level.

If you have suspected that it has been too easy to get rich by simply being here and investing passively in popular markets, you are right in our humble opinion. To realize gains, most investors will have to cash out their assets and then exchange that cash for money that will not be diluted. It is a mathematical impossibility because: 1) the money does not exist, and 2) by definition, most investors cannot time the market. We doubt any of this will be discussed or debated on the campaign stump…or at Jackson Hole.

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“Winter Is Here” For Housing – Whalen Warns “The Crowd Of Buyers Is Thinning”

Following this morning’s plunge in new home sales…

 

After household formation collapsed in June…

It appears Institutional Risk Analyst’s Chris Whalen is spot on with his mortgage finance update: “Winter Is Here”…

After several weeks on the road talking to mortgage professionals and business owners, below is an update on the world of housing finance.  We hope to see all of the readers of The Institutional Risk Analyst in the mortgage business at the Americatalyst event in Austin, TX, next month.

The big picture on housing reflected in the mainstream media is one of caution, as illustrated in The Wall Street Journal. Borodovsky & Ramkumar ask the obvious question:  Are US homes overvalued? Short answer: Yes.  Send your cards and letters to Janet Yellen c/o the Federal Open Market Committee in Washington.  But the operating environment in the mortgage finance sector continues to be challenging to put it mildly.

As we’ve discussed in several forums over the past few years, home valuations are one of the clearest indicators of inflation in the US economy.  While members of the tenured world of economics somehow rationalize understating or ignoring the fact of double digit increases in home prices along the country’s affluent periphery, sure looks like asset price inflation to us.

In fact, since WWII home prices in the US have gone up four times the official inflation rate.

 “Houses weren’t always this expensive,” notes CNBC. “In 1940, the median home value in the U.S. was just $2,938. In 1980, it was $47,200, and by 2000, it had risen to $119,600. Even adjusted for inflation, the median home price in 1940 would only have been $30,600 in 2000 dollars, according to data from the U.S. Census.”

Inflation, just to review, is defined as too many dollars chasing too few goods, in this case bona fide investment opportunities.  A combination of slow household formation and low levels of new home construction are seen as the proximate cause of the housing price squeeze, but higher prices also limit the level of existing home sales.  Many long-time residents of high priced markets like CA and NY cannot move without leaving the community entirely. So they get a home equity line or reverse mortgage, and shelter in place, thereby reducing the stock of available homes.

Two key indicators that especially worry us in the world of credit is the falling cost of defaults and the widening gap between asset pricing and cash flow.  Credit metrics for bank-owned single-family and multifamily loans are showing very low default rates.  More, loss-given default (LGD) remains in negative territory for the latter, suggesting a steady supply of greater fools ready to buy busted multifamily property developments above par value.  We can’t wait for the FDIC quarterly data for Q2 2017 to be released later today as we expect these credit metrics to skew even further.

Single-family exposures are likewise showing very low default rates and LGDs at 30-year lows, again suggesting a significant asset price bubble in 1-4 family homes.  The fact that many of these properties are well under water in terms of what the property could fetch as a rental also seasons our view that we are in the midst of a Fed-induced investment mania.

For every seller in high priced states that finds current prices impossible to resist, there are several ready buyers. But the crowd of buyers is thinning. Charles Kindleberger wrote in his classic book, “Manias, Panics and Crashes,” in 1978:

“Financial crises are associated with the peaks of business cycles. We are not interested in the business cycle as such, the rhythm of economic expansion and contraction, but only in the financial crisis that is the culmination of a period of expansion and leads to downturn.”

One of the interesting facts about the mortgage sector in 2017 is that even though average prices have more than recovered from the 2008 financial crisis, much of the housing stock away from the desirable periphery has not really bounced.  This is yet another reason why existing home sales at a bit over a million properties annually have gone sideways for months.  The 600,000 or so new housing starts is half of the peak levels in 2005, but today’s level may actually be sustainable.

We had the opportunity to hear from our friend Marina Walsh of the Mortgage Bankers Association at the Fay Servicing round table in Chicago last week.  Mortgage applications have been running ahead of last year’s levels, yet overall volumes are declining because of the sharp drop in refinancing volumes.  We disagree with the MBA about the direction of benchmarks such as the 10-year Treasury bond.  They see 3.5% yields by next year, but we’re still liking the bull trade.  But even a yield below 2% will not breath significant life into the refi market.

Though prices in the residential home market remain positively frothy in coastal markets, profitability in the mortgage finance sector continues to drag.  Large banks earned a whole 15 basis points on mortgage origination in the most recent MBA data, while non-banks and smaller depositories fared much better at around 60-70bps.  But few players are really making money.

During our conversations over the past several weeks, we confirmed that the whole residential housing finance industry is suffering through some of the worst economic performance since the peak levels of 2012. The silent crisis in non-bank finance we described last year continues and, indeed, has intensified as origination margins have been squeezed by the market’s post-election gyrations.

Looking at the MBA data, if you subtract the effects of mortgage servicing rights (MSR) from pre-tax income, most of the industry is operating at a significant loss.  The big driver of the industry’s woes is regulation, both as a result of the creation of the Consumer Finance Protection Bureau and the actions of the states.

Regulation has pushed the dollar cost of servicing a loan up four fold since 2008.  From less that $100 per loan in 2008, today the full-loaded cost of servicing is now $250, according to the MBA.  The cost of servicing performing loans is $163 vs over $2,000 for non-performing loans.

Source: MBA

As one colleague noted at the California Mortgage Banker’s technology conference in San Diego, “every loan is a different problem.” But nobody in the regulatory community seems to be concerned by the fact that the cost of servicing loans has quadrupled over the past eight years.  The elephant in the room is compliance costs, which accounts for 20% of the budget for most mortgage lending operations.

Technology Driving Down Costs

To some degree, technology can be used to address rising costs.  But when it comes to unique events spanning the range from legitimate consumer complaints to a phone call to follow-up on a past request or spurious inquiries, none of these tasks can be automated.  The obsession with the wants and needs of the consumer has led the mortgage industry to some truly strange behaviors, like Nationstar (NYSE:NSM) deciding to rename itself “Mr. Cooper.”

Driven by the atmosphere of terror created by the CFPB, the trend in the mortgage industry is to automate the underwriting and servicing process, and make sure that all information used is documented and easily retrieved. The better-run mortgage companies in the US use common technology platforms to ensure a compliant process, but leave the compassion and empathy to humans.

By using computers to embed the rules into a business process that is compliant, big steps are being made in terms of efficiency. Trouble is, this year many mortgage lenders are seeing income levels that are half of that four and five years ago.  Cost cutting can only go so far to addressing the enormous expense inflation resulting from excessive regulation and revenue compression due to volatility in the bond market.

Avoiding errors and therefore the possibility of a consumer complaint (and a regulatory response) is really the top priority in the mortgage industry today. As one CEO opined: “Sometimes the best customer experience is consistency in terms of answering questions and quickly as possible and communicating in a courteous and effective fashion.”

All of this costs time and money, and then more money.  Our key takeaway from a number of firms The IRA spoke with over the past three weeks is that response time for meeting the needs of consumers and regulators is another paramount concern.

Being able to gather information, solve problems and then document the response to prove that the event was handled correctly is now required in the mortgage industry.  But as one senior executive noted: “Sometimes people are easier to change than systems.”

So in addition to the FOMC, banks and mortgage companies can also thank the CFPB and aspiring governors in the various states for inflating their operating costs for mortgage lending and servicing by an order of magnitude since the financial crisis.  This is all done in the name helping consumers, you understand, but at the end of the day it is consumers who pay for the inflation of living costs like housing.  Investors and consumers pay the cost of regulation.  

Over the past decade since the financial crisis, the chief accomplishment of Congress and regulators has been to raise the cost of buying or renting a home, while decreasing the profitability of firms engaged in any part of housing finance.  We continue to wonder whether certain large legacy servicing platforms — Walter Investment Management (NYSE:WAC) comes to mind — will make it to year-end, but then we said that last year.

Like the army of the dead in the popular HBO series “Game of Thrones,” the legacy portion of the mortgage servicing industry somehow continues to limp along despite hostile regulators and unforgiving markets.  Profits are failing, equity returns are negative and there is no respite in sight.  Even once CFPB chief Richard Cordray picks up his carpet bag and scuttles off to Ohio for a rumored gubernatorial run, business conditions are unlikely to improve in the world of mortgage finance. Winter is here.

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Images Emerge Of Kim Jong Un Inspecting New Missiles After Mattis Applauds “Restraint”

Kim Jong Un is once again showing the US exactly how disinterested he is in negotiating any settlement – particularly one that ultimately forces North Korea to surrender its nuclear weapons: To wit, Kim ordered more rockets and warheads during a televised visit to a local munitions factory just hours after Secretary of Defense James Mattis praised Kim’s “restraint” for not having launched any new missile strikes since the latest round of UN sanctions took effect on Aug. 5. Mattis also reiterated that the Trump administration would be open to talks.

Here’s Mattis (via the Wall Street Journal):

“I am pleased to see that the regime in Pyongyang has certainly demonstrated some level of restraint that we have not seen in the past,” Mr. Tillerson said in a news briefing in Washington. “We hope that this is the beginning of this signal that we have been looking for.”

To be sure, if the “Mad Dog” was looking for signs of a détente from North Korea, he’s bound to be disappointed. Though the date of Kim’s visit to the munitions factory wasn’t disclosed, the North Korean leader could clearly be heard ordering the program to press ahead with its quest to develop a nuclear warhead that could reliably target the Continental US. He also showed off two new additions to his arsenal.

“Mr. Kim’s visit, the date of which wasn’t disclosed by Pyongyang in its report Wednesday, underscores North Korea’s continued investment in its ability to threaten the continental U.S. with a nuclear-tipped long-range missile.”

As WSJ notes, while Kim’s temporary discontinuation of the missile tests has been perceived as an encouraging sign by some, the real issue is the North’s nuclear program, and any progress their engineers might be making. US intelligence agencies believe the Kim regime possess the capability to reach the US with an ICBM.

From Mattis, any statement connoting positivity regarding the relationship between the US and North is indeed rare. The general has typically backed his boss’s aggressive tone when speaking about the isolated nation publicly, like he did during an appearance on Fox & Friends earlier this month…  

“Defense Secretary James Mattis warned North Korea in stark terms on Wednesday that it faces devastation if it does not end its pursuit of nuclear weapons: “The DPRK must choose to stop isolating itself and stand down its pursuit of nuclear weapons,” Mattis said in a statement adding “The DPRK should cease any consideration of actions that would lead to the end of its regime and the destruction of its people.”

Photos published by the KCNA along with Wednesday’s report showed Kim inspecting what looked to be two new missiles.

“Photos published alongside Wednesday’s report by the official Korean Central News Agency showed Mr. Kim and other officials standing in front of diagrams. Missile experts said the diagrams appeared to show at least two never-before-seen missiles, including one that looked to be a variant of a solid-fueled missile that North Korea launched from a submarine last year.

 

Pyongyang in February launched a land-based version of the solid-fueled missile, known as the Polaris-2. Solid-fuel missiles, unlike traditional liquid-fueled ones, don’t need to be fueled on the launchpad—a laborious process that makes the weapon vulnerable to a pre-emptive strike.”

The photos represent a clear message to the US: North Korea has no intention of halting its nuclear weapons program.

“’Pyongyang’s release of photos indicating yet two more new missiles in development shows it has no intention of halting its continuing quest to threaten the U.S. and its allies with nuclear weapons,’ said Bruce Klingner, senior research fellow for Northeast Asia at the Heritage Foundation.

 

“A two-week adherence of North Korea to U.N. prohibitions against missile tests hardly counts as a significant indicator of benign intent by the regime,” he added, referring to the United Nations Security Council’s newest round of sanctions earlier this month.”

Another of the WSJ’s “expert” sources said the missile program is probably “untouchable” for now, but that diplomacy could still be worth pursuing.

“’The missile-building program is unstinting,’ said Patrick Cronin, senior director of the Asia-Pacific Security Program at the Center for a New American Security.

 

“Diplomacy cannot touch that for now.”

 

But Mr. Cronin argued that the U.S. should continue to pursue diplomacy with Pyongyang, and encourage any signs of progress — including the recent dearth of missile tests.

 

North Korea hasn’t launched a missile in 26 days, though the launch of its first ICBM on July 4 came after a 35-day pause.

 

“North Korea has shown glimmers of restraint for now and the U.S. seeks to encourage more, but is ready to move in the opposite direction as well,” Mr. Cronin said.”

In summary, the Pyongyang report was of a kind with what North Korea has said from the beginning: It will not give up its weapons. End of story.
 

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El-Erian Warns Vexed Central Bankers “The Lowflation Demon Is Real”

Authored by Mohamed El-Erian via Bloomberg.com,

Persistently low inflation, or “lowflation,” is vexing lots of people. According to the recent minutes of policy meetings of the Federal Reserve and the European Central Bank, central banks on both sides of the Atlantic have been trying to identify the causes — but with limited success so far. This complicates monetary policy decisions and undermines the range of institutional solutions that have been proposed by academics. Until this changes, central banks may need to think more holistically about the objectives of monetary policy, including the unintended consequences for future financial stability and growth of being too loose for too long.

Four facts stand out in reviewing recent inflation data:

  • Inflation rates have been unusually and persistently low.
  • This is primarily an advanced-country phenomenon.
  • Inflation has not responded to the prolonged pursuit of ultra-low interest rates and huge injections of liquidity by central banks through quantitative easing. 
  • This has coincided with a period of notable job creation, especially in the U.S., thereby flattening the “Phillips curve” that plots unemployment and inflation rates.

Many economists worry that such lowflation frustrates the relative price adjustments that are critical to a well-functioning market economy. And if the inflation rate, and related inflationary expectations, flirt with the zero line for too long (as had occurred in Europe), there is an increased risk of actual price declines that encourages consumers to postpone their purchases, weakens economic growth, and undermines policy effectiveness (as had been the case in Japan).

The many reasons that have been put forward for the lowflation phenomenon range from benign measurement errors to worrisome structural drivers, with a host of “idiosyncratic factors” in the middle. Indeed, the Fed minutes released last week contain a list of possible drivers. These also note that a few central bankers are questioning the usefulness of traditional models and approaches in explaining and predicting inflation behavior. The recent ECB minutes also refer to “a number of explanatory factors” for lowflation and the importance of monitoring “the extent to which such factors could be transient or more permanent.” (And that is not the only issue vexing central bankers and economists more generally — productivity and wage formation have also been puzzles to an unusual extent.)

Turning to solutions, some economists have suggested that central banks increase their inflation targets, typically set at 2 percent currently. Others have proposed that the monetary authorities should pursue a price level target so that shortfalls in meeting the desired inflation rate in one year would require aiming for a higher rate in the subsequent year.

As attractive as they may sound to some, these solutions are operationally challenged, particularly if structural factors are depressing inflation. 

Having failed to meet the 2 percent target despite aggressive monetary policy, it is far from obvious that central banks would be able to meet a higher objective. And no one is quite sure how the political system would respond to a central bank that pursues much higher inflation as it tries to offset the shortfalls of prior years. Indeed, until we have a better understanding of how the transmission mechanism has evolved, there is no guarantee that a change in policy approach would do anything more than threaten even greater collateral damage and unintended consequences.

Already, economies on both side of the Atlantic must contend with the risk that a loose monetary policy approach may have overly repressed financial volatility, excessively boosted a range of asset prices beyond what is warranted by economic fundamentals, and encouraged too much risk-taking by non-banks. Indeed, in the Fed minutes, the central bank staff noted that “since the April assessment, vulnerabilities associated with asset valuation pressures had edged up from notable to elevated.” Robust job creation, financial conditions, and the overall health of the economy should guide monetary policy formation rather than the excessive pursuit of a still-misunderstood lowflation.

The lowflation demon is real and, in the case of the U.S., the market now believes that it will likely dissuade the Fed from delivering on the next signaled step in the gradual normalization of monetary policy, including an interest rate hike in the remainder of 2017. Yet a lot more work is needed to understand the causes and consequences of persistently low inflation. Until that happens, central bankers may be well advised to stick with the demon they know rather than end up with one of future financial instability that undermines prospects for growth and prosperity.

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Former CIA Agent Is Raising Cash To Buy Twitter And Delete Trump’s Account

Unveiling a novel, if oddly circuitous attempt to shut up President Donald Trump on his favorite social network, former undercover CIA agent Valerie Plame Wilson has launched a crowdfunding campaign in hopes of raising enough money to buy Twitter so she can then ban Trump from using it.

The blonde ex-spook launched the fundraiser last week, tweeting: “If @Twitter executives won’t shut down Trump’s violence and hate, then it’s up to us. #BuyTwitter #BanTrump.”

If @Twitter executives won’t shut down Trump’s violence and hate, then it’s up to us. #BuyTwitter #BanTrump https://t.co/HhbaHSluTx

— Valerie Plame Wilson (@ValeriePlame) August 18, 2017

The GoFundMe page for the fundraiser says Trump’s tweets “damage the country and put people in harm’s way.”

From the campaign:

Donald Trump has done a lot of horrible things on Twitter. From emboldening white supremacists to promoting violence against journalists, his tweets damage the country and put people in harm’s way. But threatening actual nuclear war with North Korea takes it to a dangerous new level. 

 

It’s time to shut him down. The bad news is Twitter has ignored growing calls to enforce their own community standards and delete Trump’s account. The good news is we can make that decision for them.

 

Twitter is a publicly traded company. Shares = power. This GoFundMe will fund the purchase of a controlling interest in Twitter. At the current market rate that would require over a billion dollars — but that’s a small price to pay to take away Trump’s most powerful megaphone and prevent a horrific nuclear war.

And the punchline: “Let’s #BuyTwitter and delete Trump’s account before he starts a nuclear war with it. The whole world will thank us when we do!”

Plame’s pitch is simple: raise enough cash to buy a controlling interest of Twitter stock. If, on the “odd chance” Plame is unable to raise enough to purchase a majority of shares, she said she will explore options to buy “a significant stake” and champion the proposal at Twitter’s annual shareholder meeting.

Considering that her campaign’s stated goal is only $1 billion, a (very) minority stake is the best the former CIA agent can hope for. As of Wednesday, a majority stake would cost just over $6 billion (TWTR’s market cap is $12.33 billion). Still, a billion dollars of TWTR shares would make her Twitter’s largest shareholder (or rather bagholder) and give her a dominant “activist” position to exert influence on the company. Of course, whether kicking Trump off Twitter is worth the hassle is a different question, especially since anyone who wishes not to follow Trump can do so for free.

Another problem is that almost a week into the campaign, it has raised just under $8,000, meaning it is about $999,992,000 shy of its lofty goal.

The White House responded to the campaign, and in a statement to the AP, press secretary Sarah Huckabee Sanders said the low total shows that the American people like the president’s use of Twitter. “Her ridiculous attempt to shut down his first amendment is the only clear violation and expression of hate and intolerance in this equation,” the White House read.

As a reminder, Plame’s identity as a CIA operative was leaked by an official in former President George W. Bush’s administration in 2003 in an effort to discredit her husband, Joe Wilson, a former diplomat who criticized Bush’s decision to invade Iraq. She left the agency in 2005.

Some cynics have dared to speculate that Plame’s campaign is just a (not so) veiled attempt to regain social and media prominence. It is unclear if their Twitter accounts will also be banned by the up and coming CEO. It’s also unclear what happens to the raised cash once the campaign fails to reach its target, although we are confident Jill Stein has some ideas


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How Rand Paul Can Free Americans From The Fed

Authored by Tho Bishop via The Mises Institute,

Ever since entering the Senate, Rand Paul has continued his father’s work in advocating for an audit of the Federal Reserve. This week, writing for the Daily Caller, Senator Paul renewed his efforts, illustrating how the recent era of unconventional monetary policy has made an audit all the more important:

In 2009, then-Fed Chairman Ben Bernanke was able to refuse to tell Congress who received over two trillion in Fed loans, and it took congressional action and a Bloomberg lawsuit to force the Fed to reveal the details of what it did in more than 21,000 transactions involving trillions of dollars during the 2008 financial crisis.  A one-time audit of the Fed’s emergency lending mandated by Congress revealed even more about the extent to which the Fed put taxpayers on the hook.

When pushed to defend the lack of transparency for the Federal Reserve, officials like Janet Yellen and Treasury Secretary Steve Mnuchin point to the myth of the Fed independence – a position that requires outright ignorance of the history of America’s central bank and the executive branch. Of course it’s quite usual for the Senate to base the merits of legislation entirely off of fallacious arguments, so they have continued to be the legislative body holding up a Fed audit with little indication they are prepared to move.

Given that reality, it is time for Senator Rand Paul to change his approach and introduce another piece of legislation from his father’s archives: the Free Competition in Currency Act.

While not as catchy as “End the Fed”, this piece of legislation – inspired by the work of F.A. Hayek – was perhaps Ron Paul’s most radical pieces of legislation. The idea was quite simple: eliminate legal tender laws mandating the use of US Dollars and remove the taxes Federal and State governments place on alternative currencies – such as gold and silver. While the original legislation did apply to “tokens,” an updated version should explicitly include the growing market of cryptocurrencies as a good with monetary value that should not be taxed.

What this would do is create a more even playing field between the dollar and alternative currencies, allowing an easy way for Americans to safeguard their wealth if they ever have reason to doubt the wisdom of the Federal Reserve’s policies. Just as Senator Paul advocated for the ability of Americans to be able to opt-out of the failing Obamacare system, this bill would grant Americans a lifeboat should the weaknesses inherent with the Fed’s fiat money regime expose themselves.

Unlike most examples of monetary policy reforms, which tend to be the products of ivory tower echo chambers, competition in currency would reflect active political trends. In recent years, states like Texas, Utah, and – in 2017 – Arizona have passed laws allowing the use of silver and gold for use in transactions. Meanwhile, other countries have looked to embrace the potential of cryptocurrencies for their monetary regimes. This makes this not only an idea that is good on paper, but one whose time has come.

As alluded to before, simply because a policy makes sense does not mean the Senate will act on it. That doesn’t mean the conversation and debate isn’t worth having. While it may still be on the horizon, there has been a steady drumbeat in Washington for the Federal Reserve to face some sort of reform. For two Congressional sessions in a row, the House has passed legislation explicitly calling for the Fed to embrace a “rules-based monetary system.” While this approach may sound better than today’s PhD standard, it doesn’t solve the problems inherent with central banking and fiat money.

Monetary rules such as “NGD Targeting” – which has the support of a rare coalition including the Cato Institute, Mercatus Center, Christina Romer, and Paul Krugman — should never be seen as a “reasonable compromise” for those skeptical about the Fed. Instead it’s simply another way of disguising central planning in a way to make it more palpable to the public, and therefore more difficult to stop. By putting this bill out there, Rand Paul can help frame the debate and bring a real solution to the table. Something that wouldn’t force the Fed to change a single thing, only making them compete on the market like the producer of other good or service. 

After all, as is the case with healthcare, or shoes, the best sort of “monetary policy” is competition on the market. Not one dictated by government. 

 

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Compass Point: “Odds Of A Government Shutdown Are Now Dramatically Higher”

Over the weekend, Morgan Stanley reminded its clients that the biggest threat facing markets over the coming weeks is the “three-headed policy monster” inside Washington: raising the debt ceiling, passing a budget and embarking on tax reform. As MS cross-asset strategist Andrew Sheets noted, “none are easy, but we see the debt ceiling as the most immediate test.”

He then cautioned that while the most likely outcome is that, after some tension, the debt ceiling gets raised “we don’t think it will be easy, or smooth, and it may require some form of market pressure to get different sides to fall in line. I’ve spoken to investors who are comforted by FOMC transcripts from 2011 that discussed prioritization of debt payments in order to avoid default. I am not. First, I worry that this reduces the urgency of what remains a serious issue. Second, this prioritization would require delaying payments to programmes like Social Security and Medicare, with real human and economic cost. And third, while the mechanics of this prioritisation may work, it is untested in a live environment.”

As reported earlier, the market’s concerns about a potential debt ceiling crisis, so far mostly contained, have once again started to bubble to the surface, with the Oct. 5 T-Bill rate rising to the highest level since August 1st, suggesting that bond traders see rising odds of a “worst case outcome” and partially answering our question from Monday whether “Markets Are Sleepwalking Into A Debt Ceiling Crisis: Mnuchin Issues Another Warning.

Additionally, the yield spread between the Sept 28 and Oct 5 Bills is now the widest on record:

The blowout has come after the latest warning by Treasury Secretary Steven Mnuchin, who on Monday said that “we need to raise the debt limit and it’s my strong preference is that there’s a clean raise of the debt limit.”

However, as of this morning, it’s not just the debt ceiling that traders have to worry about, because as discussed overnight, a new potential problem emerged last night when Trump told a Phoenix rally that he is commited to securing funds for a border wall, even if it results in a government shutdown.

While last night’s rally audience loved the threat, Democrats promptly blasted it: on Wednesday, Chuck Schumer ripped Trump for threatening to shutdown the government: “If the President pursues this path, against the wishes of both Republicans and Democrats, as well as the majority of the American people, he will be heading towards a government shutdown which nobody will like and which won’t accomplish anything,” Schumer said on Wednesday. Including funding for a physical wall is considered a non-starter for Democrats, whose votes will be needed to get a government funding bill through the Senate.

We doubt a warning from the Senate Minority Leader, or any other Democrat or Republican for that matter, will have much of an impact on Trump’s decision-making if he has indeed set his mind on procuring border wall funding. Which is also why in a note from Compass Point released this morning, strategists Isaac Boltansky and Lukas Davaz warn that not only is the risk of a government shutdown bigger than the debt limit, but that Trump’s commitment to securing funds for a border wall, together with Trump’s “injurious relationship” with GOP leaders – best demonstrated by last night’s NYT bombshell article laying out the open war between Trump and Senate Majority Leader Mitch McConnell – “dramatically raises the spectre of a shutdown in October.” Here are the highlights of their note, courtesy of Bloomberg:

  • The prospect of a govt shutdown “still poses a potentially serious downside risk for investors,” even as “our firm belief that the debt ceiling will be lifted removes a profound political risk from the landscape”
  • Trump’s commitment to securing funds for a border wall “dramatically raises the spectre of a shutdown in October” and his “injurious relationship” with Congressional Republican leadership “further complicates the underlying calculus”

Compass Point adds that four factors increase the potential for an equity market sell-off as government shutdown risks intensify:

  • Further delays confirmations, which would affect Trump’s deregulatory agenda;
  • Delivers a “psychological blow” to markets, serving as a “concrete symbol” of Washington’s inability to govern;
  • Delays legislative progress on tax reform;
  • Alters Fed’s policy normalization trajectory

In summary, while Compass Point says that lawmakers will promptly raise the debt ceiling in mid-September, or less than a month from now – something which Morgan Stanley and others find hard to believe – a government shutdown in October suddenly all too likely.

Then, shortly after the note was released, rating agency Fitch also chimed in and warned that if the U.S. debt limit is not raised in a timely manner, it would review the U.S. sovereign rating, with potentially negative implications. In other words, Fitch is warning that a repeat of August 2011 – when S&P infamously downgraded the US to AA+ after the failure to raise the debt ceiling resulted in a brief technica default0 is now on the table. The silver lining: Fitch said that a government shutdown following a debt ceiling increase, such as the one envisioned by Compass Point, would not direct affect on U.S. AAA rating.

Finally, for those who are still on the fence about the likelihood of a shutdown and are otherwise unhedged, one month ago Bank of America put together a “costless” spread collar trade, should volatility surge in the coming weeks as a debt ceiling/government funding deal emerges as unlikely. Here again is how to make money should the US government shut down in just over a month.

Trade idea: VIX Oct 12/14/19 call spread collar for zero-cost upfront

 

We are comfortable selling VIX puts to leverage a likely floor in volatility, particularly ahead of the debt ceiling, and using the premium collected to the cheapen the cost of portfolio protection. For example, investors may consider selling the VIX Oct 12 put vs. the 14/19 call spread, indicatively zero-cost upfront with a net delta of +54 (Oct fut ref 13.35).

 

The trade leverages the facts that (i) VIX 3M ATMf implied volatility, while low, is not necessarily cheap compared to the level of the VIX 3M future (Chart 14), and (ii) VIX 3M call skew is currently very steep, in the 92nd percentile since Sep-09 (Chart 15).

 

More critically, while VIX call spread collars have been challenged by recent sub-11 VIX settlement values, they can be successful, low-cost hedges when there are defined macro catalysts on the calendar to provide support to volatility, as seen from the US election and more recently the first round of the French election.

 

Lastly, we are comfortable capping upside via the call spread as the VIX 1M and 2M futures have not closed above 20 since Brexit over one year ago.

 

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Ron Paul Institute Statement On Trump’s Afghanistan Speech

Authored by Daniel McAdams via The Mises Institute,

Like me, many of you watched President Trump’s train wreck of a speech on Afghanistan earlier tonight. It’s nearly midnight and I am still reeling.

I guess it was too much to ask to hear him admit the obvious and draw the obvious conclusions:  

After 16 years – the longest war in US history – no one even remembers what we are fighting for in Afghanistan.

 

The war is over.

 

Not another American (or innocent Afghan) life for one of the most convoluted and idiotic wars in history!

Trump of 2012 and 2013 said just that. Candidate Trump said just that.

Then tonight he told us that once you sit in that chair in the Oval Office you see things differently.

What does that mean?

Once elected you betray your promises so as to please the deep state? Here’s the truth that neither President Trump nor his newfound neocon coterie can deny:

1) A gang of radical Saudis attacked the US on 9/11. Their leader, Osama bin Laden, was a CIA favorite when he was fighting the Soviets in Afghanistan. He clearly listed his grievances after he fell out with his CIA sponsors: US sanctions in Iraq were killing innocents; US policy grossly favored the Israelis in the conflict with Palestinians; and US troops in his Saudi holy land were unacceptable.

 

2) Osama’s radicals roamed from country to country until they were able to briefly settle in chaotic late 1990s Afghanistan for a time. They plotted the attack on the US from Florida, Germany, and elsewhere. They allegedly had a training camp in Afghanistan. We know from the once-secret 28 pages of the Congressional Intelligence Committee report on 9/11 that they had Saudi state sponsorship.

 

3) Bin Laden’s group of Saudis attacked the US on 9/11. Washington’s neocons attacked Afghanistan and then Iraq in retaliation, neither of which had much to do with bin Laden or 9/11. Certainly not when compared to the complicity of the Saudi government at the highest levels.

 

4) Sixteen years — and trillions of dollars and thousands of US military lives — later no one knows what the goals are in Afghanistan. Not even Trump, which is why he said tonight that he would no longer discuss our objectives in Afghanistan but instead would just concentrate on “killing terrorists.”

Gen. Mike Flynn had it right in 2015 when he said that the US drone program was creating more terrorists than it was killing. Trump’s foolish escalation will do the same. It will fail because it cannot do otherwise. It will only create more terrorists to justify more US intervention. And so on until our financial collapse. The US government cannot kill its way to peace in Afghanistan. Or anywhere else.

 

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Funds Managing $1.1 Trillion Are Dumping Junk Bonds

Even before Ray Dalio doubled down on his warning that the US has become as dangerously fragmented as during the pre-World War II days of 1937, prompting him to “tactically reduce” risk, some of the biggest names on Wall Street were selling.

Two weeks ago, T.Rowe Price made waves when it said that it had cut the stock portion of its asset allocation portfolios to the lowest level since 2000. The Baltimore-based money manager said it also reduced its holdings of high-yield bonds and emerging market bonds for the same reason. Roughly at the same time, in its mid-year review, Pimco said that “with the macroeconomic backdrop evolving in the face of potentially negative pivot points and considering asset prices generally are fully valued, we are modestly risk-off in our overall positioning” adding that “we recognize events could still surprise to the upside, but starting valuations leave little room for error.”

This followed a similar preannouncement by DoubleLine’s Jeff Gundlach who not only said that he is reducing his positions in junk bonds, EM debt and other lower-quality investments, but predicted – correctly – the volatility spike in the first week of August. 

Then it was Guggenheim’s turn to make a similar warning: in its Q3 Fixed Income Outlook, the asset manager said that “the downside risk of a near-term market correction grows the longer volatility
remains depressed. Asset prices are at record highs while volatility has rarely been lower. Our Global CIO and Macroeconomic and Investment Research team believe these indicators point to a dangerous level of complacency in the market, which has shrugged off the Fed’s guidance that economic conditions support monetary tightening… given where asset prices are, they would have a long way to fall.”

Guggeneim CIO Anne Walsh also warned that “high-yield corporate bonds are particularly at risk due to their relatively rich pricing, so we have continued to significantly reduce our exposure to that sector. The high-yield corporate bond allocations across our Core and Multi-Credit strategies are now at the lowest level since their inception. The bank loan allocation has also been reduced as a majority of the market is trading at or above par with some loans trading at negative yields to call.”

The list above is by no means exhaustive: according to a Bloomberg calculations, investors overseeing a total of over $1.1 trillion have been cutting exposure to junk bonds amid growing concerns about rising rates, central bank policy and general geopolitical uncertainty.

Below courtesy of Bloomberg, is the list of money managers who have recently cut holdings of junk debt:

JPMorgan Asset Management; AUM: $17 billion (for Absolute Return & Opportunistic Fixed-Income team)

  • In early July told Bloomberg they have cut holdings of junk debt to about 40 percent from more than half.
  • “We are more likely to decrease risk rather than increase risk due to valuations,” New York-based portfolio manager Daniel Goldberg said.

DoubleLine Capital LP; AUM: about $110 billion

  • Jeffrey Gundlach, co-founder and chief executive officer, said in an interview published Aug. 8 he’s reducing holdings in junk bonds and emerging-market debt and investing more in higher-quality credits with less sensitivity to rising interest rates.
  • European high-yield bonds have hit “wack-o season,” Gundlach said in a tweet last week.

Allianz Global Investors; AUM: $586 billion

  • David Newman, head of global high yield, said in an interview his fund has begun trimming its euro high-yield exposure because record valuations make the notes particularly vulnerable in a wider selloff.

Deutsche Asset Management; AUM: 100 billion euro ($117 billion) in multi-asset portfolios

  • Said earlier this month it has reduced holdings of European junk bonds.
  • The funds are shifting focus to equities, where there is more potential upside and higher yields from dividends, according to Christian Hille, the Frankfurt-based global head of multi asset.

Guggenheim Partners; AUM: >$209 billion

  • Reduced allocation to high-yield corporate bonds across core and multi-credit strategies to the lowest level since its inception, according to a third-quarter outlook published on Thursday.
  • Junk bonds are “particularly at risk due to their relatively rich pricing,” portfolio managers including James Michal say in outlook report.

Brandywine Global Investment Management; AUM: $72 billion

  • Fund has cut euro junk-bond allocations to a seven-year low because of valuation concerns, Regina Borromeo, head of international high yield, said in an interview this month

Who knows if these marquee names are right: if it’s them against the central banks, all their sales will do is forego potential profits as the world’s central banks push yields and spreads to levels that are beyond laughably ludicrous, but such is life in a centrally planned world where nothing makes sense. We do have one question: if asset managers with more than $1.1 trillion in AUM are all selling junk bonds, i) who is buying, and ii) how is it possible that the yield on the Barclays global HY index has barly budged from all time lows?

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Cryptocurrency Hedge Fund Returns 2,129% YTD

We’ll preface this post by saying we have never heard of the Alternative Money Fund – which “Specializes in Returning Freedom and Value” – and very well may never hear of it again, however it is notable for two things: i) it is a “hedge fund” invested …

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