Monday, December 26, 2011

Predictions for 2012-- The Flames of War

  1. There Will Be No Recovery in the US: Just like last year, we as a nation will {again} borrow $1.6 trillion  between the Federal and State Governments, about half of it via Bernanke's printing press. The US Government will {again} borrow about 40% of all the money it spends. This can't last forever-- but it can last much longer than you might think. This year, Japan's central government (4th year in a row) will borrow above 50% of it's total spending.

2. Greece will default-- hard: Greece's government will finally give up on being bailed out and hire a firm to represent it in a bankruptcy type scenario. This will cause a few ugly things for the Greeks-- their banking system will collapse to begin with, and the problems will reverberate throughout the EU banking system. Greece will immediately have to balance it's budget and will go back to the Drachma. Since the civilian government is unable to make the hard decisions, a military government will take over.

3. European Banking  System Will Be Rescued: Last week, the ECB engaged in what was called an LTRO-- it was, in short, a sly way of providing cash to it's very cash strapped banks. This operation was just under $500 billion. These people are amateurs. Bernanke did this for US banks to tune of over $7 trillion. Between Draghi and Bernanke, they'll make sure the system itself will survive Greece's default and any other major problems by additional LTROs. There will be rumors of some very large European banks close to collapsing, most of which will be true. France's Agricole was near collapse a month ago.

4. Deflation: Thanks to the Basil III agreement, European banks need to raise a substantial amount of Tier 1 cash-- some estimates are $400 billion, to meet the Basil III capital requirements. They have already started to curb loans and sell assets in an effort to meet Basil standards. Also, European nations will need to borrow and roll over a huge amount of money. This, in combination with losses from a slowing economy and Greece, will create a serious cash crunch. Perversely the Euro, which is on it's last legs, will rise in value vs the USD. It'll hit $1.50 this year at some point. Gasoline in the US will go below $2.50/gal. In the US, deflation will come about for many of the same reasons.. bank losses due to a slowing economy & losses in Europe. This will bring about..

5. QE3-- Bernanke Unleashed : With a friendlier group of Fed governors, The Bernank will not hesitate to unleash the printing presses in the form of both MBS and Bonds. I look for it in the first half of this year. There will be criticism from Republicans, but Obama will give him the cover he needs as the money velocity measurement plummets.

6. Bernanke's EU Rescue: I look for one of the big two EU problem kids.. Spain or Italy.. to get into some very real trouble this year. As of this writing, Italy looks like the weaker of the two, but Spain has some very real issues and an ongoing Depression to begin with. I think the ECB and the EFSF will have to be given a quick assist from The Bernank as the situation looks as though it will get out of hand. Bernanke will purchase the bonds of an EU sovereign this year directly or through a 3rd party such as the EFSF. Republicans will use this to crucify both Obama and Bernanke.

7. EU Treaty Changes: At the last meeting between Merkel and Sarkozy, there were some drastic changes proposed to the EU's constitution, the most radical of which is a balanced budget amendment which must be added to each members' constitution. Most of this will not get done this year. But something else is afoot-- last week, it came out that only nine of the 17 members of the Euro currency nations need pass this for it to become law. By this year's end, at least three of these current members will reject the changes. It will leave them in an akward position to be in a currency union, yet having rejected the changes. It is, at it's heart, a backdoor way to invite nations to leave the Euro currency. At least one nation {other than Greece} will take the hint.

8. Bashar Assad Overthrown, War in Lebanon : There is much more going on here than meets the eye. What is not being reported here in the West is the extent that the Saudi Crown is involved in supporting the Sunni Syrian rebels against the Alawite Assad regime. They're also involved in supporting Sunni insurgents in Iraq, which has slowly become an ally of Iran right under Obama's nose. As Syria's economy begins to implode and rebel attacks increase in intensity, Syria's junior Sunni officers will overthrow the Alawite regime by seizing control of company and battalion level units. As Assad begins to falter, Iran's Hezbollah friends in Lebanon will launch attacks in Israel, hoping to ignite a regional war to save the Assad regime. Israel will not take the bait, and will only retaliate sporadically. Iraq will again run the risk of civil war as the Saudi supported Sunni rebels continue with their terror campaign to destabilize and weaken Al-Maliki. Unfortunately for Israel, Syria's new regime will be no friendlier.

9. Israel, US, Saudi Attack Iran: It will be a combined air, naval and missile attack. Unfortunately, it will be too late as most of Iran's nuclear facilities are hidden too far underground. Iran's air force and navy are destroyed, as well as a number of nuclear related sites. Crude goes up slowly, hitting $150 before the US declares victory. The Saudis will quietly give financial, military and other support-- even to Israeli planes. They'll also pump more oil to ease the pain. Obama will go along with this as he realizes that America hates a wimp and he needs the Jewish vote if he wants any chance to win. Look for this nearer the election.

10. Mitt Romney wins US Elections: Between the stalled economy and Bernanke's bailout of Spain instead of California, the Republicans will emerge with the Presidency and the Senate by the slimmest of margins.

PS: Japan's Fukushima reactor is still a very dangerous situation, and will be very expensive to fix. It could still go very wrong, but I think it will be OK.  

Sunday, December 25, 2011

2011 Predictions-- Final Grades

1. There Will Be No Recovery in the US: As a nation, we will borrow about $1.8 trillion at all government levels (Federal, State and Local), of which roughly half will be by way of money printing. Simply put, the answer to a problem of debt is not more of it. One day soon enough we will have to live within our means.. and we will not do it voluntarily but at the point of a bond market's spear like Greece. The American people will begin to understand in 2011 that the only recovery thats happening is on Wall Street. Look for the U6 measurement of unemployment to stay above it's current 17%.

A-. The U6 measurement today is still above 16.5%. Unfortunately, most people also know that Wall Street bonuses are still spectacular and realize that Wall St. is the only place  (other than North Dakota) experiencing some sort of recovery. 

2. Muni Bond Implosions: With the end of the Build America Bonds program.. which was an important financial tool for local governments.. and the election of a Republican House, it seems that pretty much all Federal aid to state and local governments will end. With this, look for states to balance their budgets by cuts to local governments. I think dozens of cities and counties will bite the dust financially this year, either with a formal declaration of bankruptcy or by simply falling dramatically behind on their bills. California, Illinois, Michigan, Florida, Nevada and New Jersey cities and counties look particularly vulnerable. Look for Obama to try.. but fail.. to throw them a lifeline. Bernanke may also begin purchasing Muni's. Muni's will lay off at least 200,000 employees. These failures will shake ordinary Americans.

D+. There were a few big name muni busts, but nothing like what I was expecting. The muni bond market held up relatively well. I did, however, get the 200,000+ layoffs correct.

3. Euro Crisis v2.0.. the Spanish Flu: The EU/ECB/IMF plans to deal with the cascade of bad debts, overleveraged banks and overindebted governments is suspect. The EU's central bank, the European Central Bank, has essentially reached the limits of what it can do. Look for Spain, which needs to borrow $400 billion this year.. much of it in the first quarter.. to hit the wall and need to be bailed out. Belgium and Portugal are also in trouble. I forsee the EU/IMF fumbling the ball and asking Bernanke for a backstop, which I believe he will do.. and will catch holy hell back in Wash DC, but I do think the financial system will not crumble. If this one is mishandled, it could be exceedingly dangerous very quickly. In general, the economic conditions in Europe scare the bejesus out of me. The EuroBond is one possible and real answer, but I doubt Germany will agree to essentially co-sign all of Southern Europe's debts.

B-. Europe was a huge mess, but it was not Spain but rather Italy which came to the fore. Bernanke did come to the rescue by re-opening the so called "swap lines" in early December. The EuroBond is indeed dead in the water thanks to German opposition.

4. QE 3.0.. the MBS Edition: I look for Bernanke to begin purchases of MBS in fall; look for it to be in the neighborhood of $500 billion. The state of the US housing market will become dire by mid summer, threatening the health of many big banks.

D+. QE3 did not officially happen. A few other operations, like Operation Twist, QE 2.5 and the aforementioned swap lines did occur however.

5. Stock Markets: I don't see a lot changing.. the Dow will continue to be stuck in neutral, bouncing between 10,000 and 12,000. Many thanks will be sent to Ben Bernanke for keeping this casino open.. and sadly, that is what the NYSE has become. 

A-. The year ended at a tad over 12,000; the low was a tad above 10,000. 

6. US Gov't Bonds: I forsee the US Ten Year Bond, which today is at 3.35%, to touch 4.5% at some point in 2011. If the crisis in Europe plays out as I suspect (or some other crisis abroad) or there is a sharp stock market correction here, look for the yield to go below 2.75% again.

B-. The high was a tad above 4%, but when the problems in Europe occured, the lows plunged below 2%, much lower than I expected. Still and all, not bad. 

7. Commodities: I believe commodities will have an up year as the economic surge in Asia continues. If the Euro Crisis is serious enough, it could bring commodities downward as the US Dollar surges. Look for crude to hit $100, silver to hit $35 and wheat to hit $8.50 again. Americans will grumble loudly as gasoline approaches $3.50/gal and grocery bills are higher, due in large part to Mr.Bernanke's printing presses.

B-. Commods did have an up year for the most part. It has begun falling apart in the last month or so for sure. Both silver and wheat exceeded my expectations, but are now well below the highs. 

8. Beware of Black Swans: The world is a complex and dangerous place and has an exceedingly fragile economic system. One good shove will likely be enough to send the world's economy over the edge. A new Korean War, a war with Iran, a revolution in Greece or even an angry Mother Earth might be enough to send us all into an economic apocalypse thanks to the monstrous debt levels and credit default swaps. In 2002, the world's total debt was $60 trillion. This year, that amount reached $188 trillion, nevermind the hundreds of trillions more in credit default swaps. As I have always said, one day this will end very badly and very quickly.. but I doubt 2011 will be the year.

A-. Fukushima and the revolutions sweeping Arab nations certainly quailfy, though they did not cause any major financial problems. Yet.

Overall I'll give myself a B-. Fellow prognasticators Mish & Krasting outdid me; Gonzalo Lira not so much. 2012's predictions will be up next weekend. It's going to be a wild one. Perhaps the Mayans were right after all. 

Saturday, December 10, 2011

Glimpse of Europe's End Game

  I knew the EU Summit yesterday would end with nothing concrete getting done. I thought they would at least announce some grand bailout scheme that was all smoke and mirrors. They not only could'nt get even that done, they doubled down on their own stupidity. Here's a recap:

* No EuroBond or any form of debt co-signing.
* No additional bailout money 
* No ECB loans for IMF's plan
* No banking licence for ESM
* Restrictions on ECB sovereign debt purchases

  This summit was something very different. This one was an attempt to begin the process of making changes to the European Union Treaty itself. These changes would require that nations to:

1. Balance their budgets
2. Enact a Balanced Budget Amendment into each of their Constitutions
3. Enact specific penalties for those who cross the line.

It all has to be done by March when another summit is to be held. These changes would have to be approved by all 27 member states. If this was not possible, "Plan B" is to have the 17 nations who use the Euro currency approve the measures. Its' here that the problems began.

  Some of the measures in this new EU treaty could curtail London's financial markets. It also calls for a minimum tax rate on corporations, which most saw as a direct slap at Ireland, who maintain the EU's lowest corporate tax rate. British PM David Cameron immediately said "no thanks" to the deal, as did Sweden's Prime Minister. Others are soon to follow. For me, the worst move of all {one very under reported in newspapers} was the move to force Ireland's hand on the corporate tax issue. Lets not forget that the Irish Gov't is backstopping about $700 billion in loans to Irish banks from EU Banks. Is this who you really want to kick to the curb? So even before the Summit was over, Plan A had failed. As the Summit was ending, Brit PM Cameron extended a handshake to French President Nikolas Sarkozy, who turned away. It was called "Le Snub" by the British papers. Ambrose Pritchard put the blame squarely on Sarkozy for the anti London and anti Irish laws in the new Treaty and rightly called him petulant for his snub of Cameron. But wait.. it gets worse. These changes are to be accomplished by March. Merkel and Sarkozy apparently were not around to remember that it took years and years to get the original EU treaties written and approved. Worse, there is zero chance it will be approved by Greece, Spain, Portugal and Italy even if the timeline is extended because these peoples won't allow their countries to be run in part by EU bureaucrats, especially ones speaking German. Everyone-- including Merkel and Sarkozy-- know this. The markets were essentially unchanged after this catastrophe was introduced to the press as a victory. My guess is that very soon, the markets will give the Summiteers it's answer-- and it's going to be the middle finger. There is a fair chance the Euro won't even make it until the March summit. Here's a well written summary of this fiasco:

  So.. why even bother ? I think we just caught a glimpse of how it all ends in Europe:  Sign & Comply or Bye.

Saturday, December 3, 2011

The US Cavalry Arrives

   In the last month or so, European banks have had trouble getting loans, especially ones in US Dollars. In essence, US financial institutions were voting "no confidence" in EU banks-- not unrealistically given that European banks are very badly overleveraged and have heavy exposure to Greek and other types of scary debt. According to an article in Forbes magazine, Wednesday nite there was a very large European bank that was unable to meet their USD denominated obligations the next morning. Zerohedge believes the bank was the giant French bank Credite Agricole, a bank roughly the size of Wells Fargo and Citibank. The last time an institution of anywhere near this size went under, it was named Lehman Brothers-- and Lehman was about a third the size Agricole is. Needless to say, something had to be done, and quickly. I have no doubt that Ben Bernanke did not sleep that night.

   On Thursday morning, Bernanke's Federal Reserve acted, in coordination with other central banks, to provide nearly unlimited loans to the ECB (which then loans to EU banks like Agricole). Over the next year, EU banks will need to roll over $2 trillion in USD denominated debt. Bernanke's action provides the ECB with access to US dollars needed to do this rollover. This action will also allow European banks to continue on, though not really saving them. It will help European banks lend to businesses and individuals-- which over the last month had been greatly constricted. 

  This action does not make any of them any more solvent than they were before mind you, nor does it make European nations any more solvent or less indebted than they were before this-- The Fed is just loaning them money nobody else will. The problems behind this interbank lending freeze are still with us. All this action really did was replace normal US bank lending to European banks with the Fed lending to them via the ECB. 

  There is a new plan afoot to deal with the European insolvency issues. This one was leaked to the media mid-week, and it involved the IMF providing huge loans to the {badly underfunded} EFSF, Europe's yet to be born rescue fund. But on Friday, US Senator Tom Coburn {R-OK} got whiff of this plan and promptly announced that he was going to introduce legislation into the defense appropriations bill that required US Congressional approval before allowing US participation in an IMF bailout of Europe. If this passes in the defense appropriations bill, it will be the kiss of death for any large scale IMF participation in European bailouts. Madame Lagarde at the IMF must be fuming and will no doubt give Coburn an earfull of threats of The Abyss, with US Treasury Secretary Tim Geithner assisting. Coburn won't budge an inch. "We're throwing good money after bad down a hole that I think is not a solvable problem. Europe is going to default eventually, so why would you socialize their profligate spending ?"

  There is a meeting on 12/9 to finalize yet another EU rescue plan. This will be the sixth or seventh such rescue plan this year. Unless Germany magically agrees to let the ECB print money like a monsoon or agrees to the Eurobond {exceedingly unlikely, despite the pressure being put on her to do so} this meeting will also be a failure. Germany's answer is for these nations in trouble {namely Italy and Spain} to balance their budgets before Germany coughs up huge amounts of money-- a reasonable proposal. The problem is, balancing the budget is politically impossible for either Spain or Italy. I look for more of the same from this meeting-- a big number to wow the press, but precious little in the way of hard facts. 

  Lets give Bernanke credit this week for a stick save of the European banking system anyways. Given the ugly opposition Coburn displayed on Friday and the political cost to Obama when it gets out that we're possibly bailing out Italy, some are saying that Bernanke's artillery has run out of shells. I say never underestimate a desperate banker's willingness to print money and bypass the laws of the land. It's a weird irony that the ECB, which does follow their laws, is being bailed out by a central bank that shamefully obeys no one.