Thursday, April 7, 2011

Today's links

1--Biggest Rise in Profits Since 1900 Sustains Rally After S&P 500's 97% Gain, Bloomberg

Excerpt: The biggest increase in profits in more than a century is telling investors that this is no time to sell stocks, even after the Standard & Poor’s 500 Index rallied 97 percent.

S&P 500 earnings are poised to surpass the 2007 peak of $90 a share in the third quarter after surging from $7 in March 2009, the quickest recovery since at least 1900, according to data from S&P and Yale University’s Robert Shiller compiled by Bloomberg. The gap between projected 12-month profits and average earnings over the last 10 years is set to widen the most since 1951, the data show.

PNC Wealth Management, Federated Investors Inc. and ING Investment Management, which together oversee about $1 trillion, say consumer spending will sustain the recovery after government stimulus helped lift profits from the lowest level since the Great Depression. While earnings will slow in the second half, stock purchases by investors who missed the S&P 500’s advance will fuel gains, according to Leuthold Group LLC.

2--Government shutdown looms despite Obama's intervention, Reuters

Excerpt: With time running short, President Barack Obama failed on Tuesday to break a deadlock in budget talks between his Democrats and Republicans that threatens a partial shutdown of the U.S. government.

Some lawmakers said they were losing hope they could finalize a long-delayed budget deal to avoid a government shutdown before funding expires at midnight on Friday.

"I am not optimistic, no I'm not," Senate Democratic Leader Harry Reid told a news conference.

House of Representatives Republican leader Eric Cantor was also pessimistic. A deal was "not a likelihood," he said....

Republican leaders hope the proposal by House Budget Committee Chairman Paul Ryan will help ease pressure from conservative Tea Party members who are forcing the party to adopt a hardline stance in the current budget negotiations.

The deadlock in the budget talks threatens to throw hundreds of thousands of employees out of work and ripple through an economy still recovering from the worst recession since the 1930s.

Despite negotiators earlier tentatively agreeing to slash a record $33 billion from the budget, talks have stalled over the details. The two sides have been unable to agree on which government programs should be targeted.

3--Cops Pepper Spray Stick-Wielding Eight-Year-Old, Gawker

Excerpt: Police in Colorado were called to an elementary school to handle a violent second-grader who had "broke wood trim off the walls and was trying to stab teachers." So they did what any good cops would: They pepper sprayed him.

Aidan, the eight-year-old, has clear anger-management issues. Police have been called to his school in Lakewood on at least two occasions (they managed to talk him down without resorting to pepper spray). This particular outburst may have been more intense, however:

According to the report, Aidan "was climbing the cart and spitting at teachers. He also broke wood trim off the walls and was trying to stab teachers with it."

"I wanted to make something sharp if they came out because I was so mad at them," Aidan said. "I was going to try to whack them with it."

The report goes on to say Aidan, "was holding what looked like a sharpened one foot stick and he screamed, 'Get away from me you f—-ers.'"

Lakewood Police officers ordered the 8-year-old to "drop the stick." When he refused, they sprayed him with pepper spray twice until he dropped the piece of wood and was handcuffed.

4--QE Timeline, Calculated Risk

Excerpt: Note: The Fed mentioned some downside risks today and it is possible there will be a 2nd half slowdown like in 2010:

... downside risks from the banking and fiscal strains in the European periphery, the continuing fiscal adjustments by U.S. state and local governments, and the ongoing weakness in the housing market. Several also noted the possibility of larger-than-anticipated near-term cuts in federal government spending. Moreover, the economic implications of the tragedy in Japan--for example, with respect to global supply chains--were not yet clear. ... Participants judged that the potential for more-widespread disruptions in oil production, and thus for a larger jump in energy prices, posed both downside risks to growth and upside risks to inflation.
I'll have some more thoughts on this possibility soon.

Some people point to the end of QE1 as the reason the stock market struggled mid-year 2010. Others point to the economic slowdown and concerns about a double dip recession. Remember this quote from Robert Shiller on July 27, 2010? "For me a double-dip is another recession before we've healed from this recession ... The probability of that kind of double-dip is more than 50 percent. I actually expect it." (via Reuters: Chance of Double-Dip US Recession is High: Shiller)

5-- More Hawkish Rhetoric, Fed Watch, Tim Duy via Economist's View

Excerpt: In essence, we can argue that we are moving a little faster toward the long run projections than prior to QE2. Evidence that the program is working as intended, but not more so than intended. Bullard may be hinting that internal forecasts suggest dramatically better growth, but the Fed’s forecast was already better than private sector forecasts, and those will likely come down a tad with a weak first quarter. Indeed, at best I see the path of data has the potential to generate the Fed’s forecast. Still, I would add that the labor market is not yet signaling growth vastly above potential growth, which means the Fed’s forecast still imply more trend reversion than seems likely or than the private sector expects.

Regarding higher inflation, he could be referring to headline inflation, but that means he is confusing a relative price change with a general price change. Monetary policymakers should not be confused about this distinction....

Bullard explains further:

“It is tumultuous times for monetary policy and that is why you’re hearing more from the Fed,” he said. “A tightening cycle is the hardest thing for a central bank to do. There is a lot of risk that you might fall behind the curve and wind up with a lot of inflation. On the other hand you hate to choke off a fledgling recovery. And so there is a lot of debate about it.”

He asserts there is a lot of risk of inflationary outcomes, but doesn’t explain why. Most importantly, I would like him to explain why we should expect significant risk of falling behind the curve in an environment where wages gains are minimal at best. Given that we need to get job growth up and unemployment down sufficiently to drive wage growth beyond what can be compensated by productivity, something of a lengthy process to say the least, it doesn’t seem likely the Fed will fall behind the curve anytime soon.

6--The unexpected T-bill rally, Felix Salmon, Reuters

With time rapidly running out before the debt ceiling is reached, and doom-mongering rampant about the disastrous possible consequences of the US Treasury being unable to repay its debts, just look what’s happened to the market in short-term Treasury bills!

The lack of supply was so severe on Monday, and some investors so desperate for Treasurys, that they accepted negative yields. That is something that has rarely been seen since the financial crisis.

In other words, the market simply isn’t worried about short-term US debt at all. Instead, Treasuries are rallying on what the FT describes as “the collapse of a profitable arbitrage opportunity that financial groups have used to rebuild their balance sheets after the financial crisis.”

Since late 2008 banks have made about $200 million by borrowing very cheaply in the repo markets and investing the proceeds at the Fed. But now the FDIC is levying its insurance fee on repo liabilities as well as on deposits — and that fee means the free-money machine has printed its last greenback for the banks.

With the banks no longer borrowing money in the repo markets, the people on the other side of the trade — lenders to the repo market, which are often money-market funds — have found themselves with nowhere to safely park their short-term cash. Hence the rally in Treasury bonds: it’s a product of increased demand (from money-market funds) combined with decreased supply (as the Treasury tries to borrow more at the long end and less at the short end of the curve, and as QE2 mops up much of what is being issued).

All the same, I can promise you that if short-term Treasury yields were going up rather than down, the financial press would be talking incessantly about the debt ceiling, even if the reasons were entirely technical, as they are here. So this is a good reminder that moves in the Treasury market are generally not a referendum on government policy or Congressional grandstanding. Even when they do fit the daily news narrative.

7--Forget Unemployment Extensions, Cutbacks more likely, Wall Street Journal

Excerpt: State attempts to pare back unemployment and an improving economy are likely to lead to a much shorter span of unemployment benefits next year.

A combination of state and federal programs has offered up to 99 weeks of unemployment benefits to jobless Americans in the recession and subsequent recovery. That coverage is beginning to unwind as cash-strapped states move to reduce their share of benefits and other states become ineligible for federal programs.

That’s partly how the jobless benefits program is supposed to work — 99 weeks of unemployment insurance weren’t meant to be offered indefinitely. But in some states the drop in duration is likely to be jarring, and may be coming as unemployment remains high. When the first extension of unemployment was signed in 2008, the unemployment rate was 5.6%. The rate has been coming down for the past few months, but remains at a still-elevated 8.8%.

Most states offer regular, state-funded unemployment benefits for up to 26 weeks. Then unemployed workers can tap into the federally-funded emergency unemployment insurance program, which offers up to 53 weeks of additional benefits. If jobless Americans exhaust that, in some states they are eligible for extended benefits for up to 20 more weeks, which are federally funded through the beginning of 2012.

Now some states are looking to ratchet back the share of benefits they cover. In Michigan, the number of weeks available could fall to as few as 20. In Florida, proposed legislation could cut it to as few as 12 weeks. Other states are becoming ineligible for the 20-weeks of extended benefits. And the fate of the 53-week emergency unemployment insurance program will rest with Congress, which will have to decide whether to let the program expire beginning in 2012 or to renew it at a time when House Republicans are clamoring to rein in spending.

8--Where the Spending Cuts Go, Paul Krugman, New York Times

Excerpt: I think it might be helpful to have a quick picture that illustrates what’s going on in the Ryan budget proposal. Here’s what we get for 2030, according to the CBO analysis: (see chart)

Ryan is proposing huge (and largely unspecified) spending cuts; but he’s also proposing very large tax cuts, mainly, of course, for those with high incomes. And as you can see, a large part — roughly half — of the spending cuts are going, not to deficit reduction, but to finance those tax cuts.

Actually, it’s even worse, since the revenue figure in the Ryan plan is simply assumed, and is clearly too high given what he’s actually proposing on taxes; so either the fall in revenue will be even larger than shown here, or there will be unspecified tax hikes on the middle class.

In any case, the bottom line is obvious: this is not the budget of a deficit hawk. It’s the budget of a deficit exploiter, someone who is trying to use fears of red ink to push through a political agenda that includes major losses of revenue.

9--The US recovery is little more than an economic 'sugar-rush, Telegraph

Excerpt: As America cranks up, forecasts of higher energy use in the West are boosting oil prices. Brent crude extended gains to over $119 a barrel on Friday, a 32-month high. In London, the FTSE-100 joined the party, closing above 6,000 points for the first time since early March.
Equity markets are interpreting a slew of recent US data as “evidence” the global economy is on the road to a full recovery. Private employers hired 230,000 people in the States last month, building on the 240,000 new jobs created the month before. Forget America’s “jobless recovery”. Unemployment is now at a two-year low of 8.8pc, down from 8.9pc in February and 10.2pc in early 2010.

Survey results suggest industrial activity is leading the charge. The ISM manufacturing index has bounced back from last summer’s slump and is now at levels not seen since 2004. The index measuring hiring at US manufacturing firms is at its highest level in three decades.
American businesses finally seem to be “committing to the cycle” - indicating they intend to keep investing and employing. That’s why economists now predict the US will this year outpace the 2.9pc GDP expansion it registered in 2010. Consensus forecasts for 2011 growth have moved sharply upwards - from 2.6pc in December, to 3.1pc in February and 3.3pc today....

If only it were so. The trouble with this latest US recovery is that it amounts to little more than an economic “sugar-rush”. The recent growth-burst is built on monetary and fiscal policies which are wildly expansionary, wholly unsustainable and will surely soon come to an end. When the sugar-rush is over, and it won’t be long, the US will end up with a serious economic headache. Investors should keep that in mind....

It seems likely the Fed will fully implement QE2 – the latest $600bn bout of money-printing - following the $1,700bn programme already completed. This is in spite of protests from countries as diverse as Thailand, Australia, South Africa and China, all of them complaining that America’s unprecedented monetary expansion is causing dangerous bubbles in markets going way beyond US equities....

Were it to happen, another round of money-printing - QE3 - would cause a major diplomatic protest led by countries America cannot afford to upset. The US government also knows, although it denies it, that the more money it prints, the more speculative pressures push up global food prices. While the causes behind current Middle Eastern unrest are complex, it was surging food price that provided the spark.

The danger now is that when QE2 ends in less than 12 weeks’ time, global markets will be rocked by a surge in Treasury yields. Since mid-2009, QE has been used to buy up, along with dodgy mortgage-backed securities, swathes of US government debt.

This is how the Obama administration – and the British Government too - has been able to keep spending. Once the Fed exits the Treasury market, though, not only will the fiscal pump-priming stop, but US debt-service costs could balloon.

America is now shouldering declared federal liabilities of $9,100bn - making it, by a long way, the world’s largest debtor....

So beware of the siren voices claiming that shares on Wall Street will keep rising. Beware of anyone who is so deluded that they point to surging oil prices as “evidence” that the US - the world’s biggest oil importer by far, of course - is “fit and healthy” and “ready to rock”. Yet that was the cry among many Wall Street denizens last week. “Oil is rising – we are saved!” I paraphrase, but not a lot.

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