The best of past week. Market were risk-on until bad news started to come out of the ECB regarding Spain. Looks like bank bondholders will get hurt eventually. Good for taxpayers, bad for banks. Another acute crisis summer for Europe, then.
EURO CRISIS
Current Account Imbalances and the Euro Crisis Part 2 – EconoMonitor
If the EMU had been designed properly, it would
not matter whether some member nations ran current account deficits—much as
many US states run current account deficits. Instead, the problem is that the
EMU separated the currency from fiscal policy—all the members adopted the Euro,
but each was separately responsible for its own fiscal policy. Further, and
this is the point to be explored in detail here, each was responsible for
dealing with its own banks should a financial crisis hit. (here’s part
1)
Recent Euro Area Developments Clarify the Road Ahead – PIIE
Several other aspects of the euro area crisis
remain in flux, however. These include the state of the banking union, Germany’s Constitutional Court ruling on the European Stability Mechanism (ESM), and the situation in Spain.
The Eurozone crisis and exchange controls – Clifford
Chance
Contingency planning around the Eurozone crisis
inevitably turns to the possibility of exchange controls, whether in the
context of a default by a Eurozone member state or a departure from the
Eurozone. (hat tip Alea)
Building deeper economic union: what to do and what to avoid – ECB
Speech by
Jörg Asmussen, Member of the Executive Board of the ECB, Policy Briefing at the
European Policy Centre, Brussels, 17 July
2012
Why Eurobonds Are Pointless – ZH
UBS: A more integrated Euro area
federation can (probably must) take place without collective responsibility for
national debts. What is needed is collective responsibility for some aspects of
fiscal policy to offset the damage of collective monetary policy. That is a
very different concept from the Eurobond.
While the problems in the US, Japan, the United
Kingdom, and Europe all stem from too much sovereign (government) debt, there
are very real differences in how the Endgame plays out…If, somehow, some magic
is found to deal with the sovereign-debt and banking crisis, the trade
imbalances will still be there. And the only realistic way to deal with them is
for wages to come down in peripheral Europe. And that will not happen overnight.
EMU 2.0 and the German Problem – EconoMonitor
Barroso's Rise Euro Crisis Means More Power for European Commission – Spiegel
European Commission President Jose Manuel Barroso
has a reputation for avoiding conflict. But as the euro crisis has worsened,
his power has increased. He is one of the few winners of the problems facing Europe's common currency.
Given these shifts in the alliances between
contributor and recipient countries we think that the popular assumption that
the Germans and the ECB (which requires agreement of the key factions within
it) will come through with money to make all of these debts good should not be
taken for granted.
The ECB’s Swedish plan – MacroBusiness
I’m not completely sure why, after years of
demanding the opposite, the ECB has suddenly changed its mind. Perhaps this is
more screw turning by the central bank or perhaps recognition that the
emergency mechanisms simply aren’t going to be large enough to do the job…Is
the Eurozone, and more explicitly the ECB, suddenly running the Swedish
playbook ?
The European Debt Mutualization Options Matrix – ZH
Barclays: Of all the proposals, we find the ESM
gaining a banking licence and leveraging itself at the ECB to be the most
practical solution, especially in reaction to an acute funding crisis. However,
legal considerations could prevent this from happening in the near term.
EURO CRISIS: SPAIN
ECB Demands Impairment For Senior Spanish Bondholders; Eurocrats Resist – ZH
What's It Mean? – Mish’s
What's It Mean? – Mish’s
It’s sunk costs all the way down – A
Fistful of Euros
So: Ireland’s critical error was to protect legacy bondholders who were completely
stuck (the money was long since lent), but now that Ireland made that error, we can’t let Spain come up with a better
policy because then there would be questions about Ireland.
House prices declined at the fastest pace since
the start of the crisis in the second quarter, the public ministry said, and
bad loans increased for a 14th month in a row
(Heavy on Spain and also China)
Unfortunately there isn't much that can be done in a big enough or credible
enough way to reverse the downward spiral, and this is why I don't pay too much
attention any more to the proposals and counterproposals that are on offer in Europe. I think it is probably too
late for that…
Spain's banks face Ireland style recap; will
include sub debt haircuts and triggering CDS – Sober
Look
Unwilling to write off or mark down bad debt
quickly, Spain's banking system is taking in losses in a painful liner fashion
(see chart below - those who have seen a number of economic charts over the
years will recognize that this linear pace of write-downs looks artificial).
The IMF is now predicting that Spain will face a further
five years of an increasing debt burden
So, if Spain asks for bond-buying
after the ESM is up and running, it seems that eurozone leaders would once
again have to decide whether it’s “appropriate” for the ESM to be senior in Spain.
Spain just announced a program (see attached) to centralize the issuance by
the regions. Participation would be voluntary although most regions will have
little choice but to join.
Spanish 10 Year Yield Back Over 7% Following
Ugly Bond Auction –
ZH
EURO CRISIS: OTHER PIIGS
After Spain, it’s Italy’s turn in the
Eurocrisis spotlight. …The single biggest factor weighing on the Italian
economy at present is the uncertainty about whether or not the Eurocrisis will
be resolved.
All in all Portugal may be in the invidious
position of finding that while it complies with most of its immediate programme
objectives the road to sustainable debt and growth levels to be fraught – as
the IMF itself notes in its April programme review – with almost insurmountable
difficulty. (presentation
here)
USA: FED & QE
Bernanke should end this uncertainty about the Fed – Gavyn
Davies / FT
Either of these conditions was sufficient for additional easing, but both have now been met…It does not follow that the chosen path will necessarily involve an increase in the balance sheet, but it is likely to do so if the Fed follows the thinking of several of the doves and buys mortgage securities. Another round of forward guidance about rates is also very likely…The next FOMC meeting starts on 31 July.
Either of these conditions was sufficient for additional easing, but both have now been met…It does not follow that the chosen path will necessarily involve an increase in the balance sheet, but it is likely to do so if the Fed follows the thinking of several of the doves and buys mortgage securities. Another round of forward guidance about rates is also very likely…The next FOMC meeting starts on 31 July.
Conditions have changed since January, and we might
expect some additional stimulus from the Fed at the next FOMC meeting.
On Friday afternoon, one of the undecided FOMC
members, Atlanta Fed President Dennis Lockhart appeared to move closer to voting for QE3
now.
Does QE Really Work? The Evidence To Date – ZH
UBS: Empirical studies of the effects of the Fed's balance sheet operations suggest that QE designed to address general economic malaise is less potent than a program targeted at a specific market dysfunction.
UBS: Empirical studies of the effects of the Fed's balance sheet operations suggest that QE designed to address general economic malaise is less potent than a program targeted at a specific market dysfunction.
FOMC's new tools – Sober Look
This got a
great deal of speculation going. What could be the "new tools"? Here
are some possibilities:
What Is On Bernanke's Easing Menu? – ZH
Goldman
Sachs: For Your Consideration, the Next Set of Easing Options
Bernanke and Fed Options – Marc
to Market
August 1st QE3 Departure Date? – Calculated
Risk
OTHER
The 4 Most Disconcerting Charts For European Equity Holders – ZH
Stocks outperforming credit, stock index
volatility lower than credit volatility, short-term volatility sold.
Earnings Get a Little Better – Bespoke
But over the past two days the reports have
gotten better. Of the last fourteen companies that have reported, ten
have beaten estimates. So while the total beat rate for the entire week
remains low (11 out of 30), things look a lot better now than they did
mid-week. The market appears to have noticed this as well.
Goldman
Sachs: Our 2012 investment thesis for the
US equity market has three pillars: a stagnating economy, static P/E
multiple, and minimal earnings growth.
While the European authorities now have more
policy flexibility, Europe’s common resources are still insufficient to meet all the commitments
of the over-indebted states. More fundamentally, we see no path towards
restoring the competitiveness of the South, whose economies continue to shrink.
Their public accounts again show worrying signs of deterioration. The next summit,
of the euro finance ministers, takes place on 9 July.
World Economic Outlook Update – IMF
New Setbacks, Further Policy Action Needed
Global Financial Stability Report Market Update – IMF
Intense Financial Risks: Time for Action
Things that make you go hmmmm – Grant
Williams via The Trader
Full pdf
Libor Q&A
– The
Source / WSJ
Everything you need to know about the fiscal cliff in one post – Wonkblog
/ WP
Unlike existing studies that apply technical analysis
to either market indices or individual stocks, this paper apply it to
volatility decile portfolios, i.e., portfolios of stocks that are sorted by
their standard deviation of daily returns.
A Horse Race Between Tactical Asset Allocation Models – Empiritrage
We conduct a horse race with various tactical
asset allocation (TAA) models. We present the performance of 8 different models
applied to the “IVY5” asset classes (Domestic equity, foreign equity, long
bonds, commodities, and REITs)… the top performing TAA model is the risk parity
with momentum model. This model starts with the risk parity benchmark weights
and then shifts weights across asset classes depending on relative momentum. (see also The King of Asset Allocation Models – Turnkey
Analyst)
Are Hedge Funds Burning Investors? – Pension
Pulse
Hedge Funds Underperform The Stock Market – ZH
Citi's recent study on risk drivers shows the
high-beta momentum trade has become by far the most crowded trade around
Whodunit? Part I: Rocket Scientists on Wall Street – Minyanville
Aaron
Brown: Much of the early success of quant
traders was due to proper allocation of capital rather than finding exceptional
edges…Quantitative analysis of optimal risk levels for traders did not kill the
financial system. But it set events in motion that led to the murder.
Economic history is a never-ending series of
episodes based on falsehoods and lies, not truths. It represents the path to
big money. The object is to recognize the trend whose premise is false, ride that
trend and step off before it is discredited.
OFF-TOPIC
Threaten a man's masculinity
and he becomes a short-sighted risk taker – The
British Psychological Society
Bigger
things are deemed more valuable than smaller ones by our monkey brains. This
includes other people – and even our self-image.
There’s been a lot of noise over the past few
weeks, from various people and places, about the quality of the current
electronic dance music experience.
This much I know: Daniel Kahneman – The
Guardian
The 78-year-old Nobel prize-winning
psychologist on his pessimistic mother, the delusion of investment bankers and
the need for irony
92 min
documentary. Nice interviews