Category Archives: Economy and Meltdown

S&P 500: $0; Federal Reserve: $2.5 Trillion: The "Anti-Correlation" Between The Economy And Profits

There is a reason why US corporate balance sheets have rarely been in better shape: it is because the Fed has become the S&P500’s bad bank.

As the chart below shows, in the six years between 2006 and 2012, corporate net debt of the S&P500 has barely budged from $1.5 trillion, even as corporate profits have soared (albeit profit margins have now declined for two straight years as SG&A has already been cut to the bone, while the marginal benefit from such below the line items as net interest is about to turn negative if and when rates really turn higher – hint: they won’t, because Bernanke is all too aware of this particular nuance). What has offset this?

Why the bad bank formerly known as the Federal Reserve of course, which has huffed and puffed, and force-fed $2.5 trillion in new credit money (mostly reserves) down the market’s throat (created out of thin Treasurys), which has zero end-demand for such credit, as a result it has gone straight into the one place that will gladly accept it – the stock market. For now at least. At some point this fungible money will spill over and then all bets are off.

It gets better.

Ever had the feeling like the market is beyond broken, and all correlations between corporate profits and fundamental economic factors have been totally and utterly broken (sarcasm aside of course)? Of course you have. So has Morgan Stanley’s Adam Parker. To wit:

One of the main challenges to assessing corporate profitability is the breakdown in relationships between economic variables and corporate profitability metrics. In fact, the two seem incongruous in some cases. If companies don’t invest in capital spending and research and development, they may maintain higher margins, but this lack of spending will not be a good catalyst for economic growth.


Why do some of the economic and corporate relationships no longer hold? One possible explanation is that while company balance sheets are in great shape, the Fed’s balance sheet has massively expanded over the past few years.

See chart above… and read on:

There appeared to be a relationship between GDP and margins from 1970 through the early 2000s, but there has been a notable departure since. In fact, there has been such a bifurcation between the US economy and the profit margins of US companies that they appear to be anti-correlated now.


Ah, good old Bernanke: nothing like a central planner meddling so much in the economy and the stock market, the two are not only intuitively broken but also empirically. But hey: as long as the music which is good for the S&P, and now by definition bad for the economy, goes on, one must dance. If only those 0.1% who directly benefit from Bernanke’s socially bankrupt policies.


Japanese Stocks Open -3%, JPY Under 101.00, JGBs -2bps

UPDATE 1: S&P 500 futures now red (-5.5 points from open); TOPIX -3%, Japanese banks and real estate leading the slide (-16% from highs).

UPDATE 2: JPY has broken back under 101.00

It seems the sell-the-f$$king-bounce crowd are back in Japan once again. Minutes from the last BoJ meeting are providing some ammo for the fall as doubts appear among the members of the committee…


For now, JPY has strengthened notably from its gap-weaker open and is trading around unchanged from Friday’s close. JGBs opened modestly stronger. But it is the equity market that is fading fast with TOPIX now down 28 points (2.5%) from Friday’s close – pressuring the lows once again (and the 10% correction) as the realization that ‘Abe can’t have his equity euphoria and eat his low interest rate cake too’ increases



Charts: Bloomberg


Learning From Mistakes

Submitted by James E. Miller of the Ludwig von Mises Institute of Canada,

The old idiom “you can lead a horse to water, but not make him drink” has proven itself true in the course of human learning. Or rather, it would be more accurate to label it man’s inability to learn from mistakes. You can hold a mirror up to grotesque instances of hypocrisy, but most men will remain mules – stubborn in their prejudice and beliefs. The ability to heed lessons from blunders is, often times, a skill unable to be mastered by the mass populace. A child might learn to not touch a searingly hot stove, but adults are apt to accept their condition of intellectual stupor – even when it proves painful.

It’s said the market process accounts for mistakes through the imposition of cost. This is true inasmuch as hemorrhaging income will inevitably result in bankruptcy. The problem is, man was not gifted with the same incentive to disregard plainly untrue, and even destructive, ideas. Like an abusive lover or a fond memory, the draw of allurement can be too intoxicating to let go. The innate learning process becomes corrupted in favor of emotional succor that accompanies comforting beliefs.

Take frail womanizer and disgraced Congressman Anthony Weiner. His announcement to seek the Mayor’s office in New York City brought about plenty of jokes at the expense of his anatomy-sounding name. Rumours have swirled about his possible run for months. At first, they were dismissed due to the sexual exploits that forced him from office. Now he is pulling an about face à la Bill Clinton and attempting to lift his public perception back from the toilet. Seeing as how Weiner’s wife (that just rolls off the tongue, doesn’t it?) is a former aide to Hillary “no shame” Clinton, the crushing ignominy of her husband’s pathetic attempt to woo over girls will be suppressed. There is little doubt Weiner will be crowned king of the Big Apple considering the city’s affinity for sleazebag politicians. After the Stalin-esque reign of tyrant Bloomberg, a philanderer who never made a dime in honest cash will seem like the second coming. The lies, theft, and heap of unscrupulous behavior that defines the state will continue under Weiner’s watch. Except this time, New Yorkers will feel warm and fuzzy over giving someone a second chance; even as Weiner deserves as much forgiveness as former Governor and escort-lover Eliot Spitzer. Which means the charade of being a reformed “family man” will go uncontested.

Weiner’s second coming (it is impossible to reference the guy without inadvertently writing a mind-gutter pun), touched by cognitive amnesia as it is, is mild relative to fellow political events.

In the sociopath abode known as Congress, the gears of war are slowly turning for military intervention in Syria. The usual cabal of blood-dining war worshippers is sniffing out their next feast, all the while pressuring President Obama into interposing democracy in heart of the Middle East with the barrel of an M16. The Senate Foreign Relations Committee, in a 15-3 vote, passed a bill that would arm rebels who are fighting to overthrow Bashar al-Assad. The alliance of Syrian dissidents with radical Islamic elements, including Al-Qaeda and Jabhat al-Nusra, does not weigh on the brains of elected imperialists. Supremacy is their target and whatever crazed, lunatic faction wishes to assist is given support.

Even this author will admit his own forgetfulness and ask: why are these Senators not yet behind bars, or worse, been assassinated by drone strike? The Department of Justice just confirmed the U.S. government was responsible for the murder of four citizens on account of their affiliation to terrorism – namely Al-Qaeda. These deaths were known about previously, but only now has Uncle Sam owned up to the deed. Anwar Awlaki, the most famous of these victims, was afforded no due process and was killed based simply off anti-American speeches. So why are Senators, who don’t just speak of putting arms in the hands of “the enemy” but actively support the cause, still walking free?

The self-styled sect of foreign policy “realists” who inhabit spacious offices in Washington D.C. are totally on board with the arming of jihadists in Syria. These Straussian chin-curlers present themselves as being above the fray of moral considerations. To the realist, simpleton notions of “good,” “bad,” “right,” or “wrong” are best left to the weak-minded folk. When confronted by the plain immorality of their hegemonic intentions, the term “gray area” is employed as they scoff at the immaturity of deductive reasoning. The foreign policy of these pragmatists is, somehow, indecipherable to anyone not residing within their bubble of influence.

But to assume foreign policy “realists” truly have America’s best interest at heart, the arming of Syrian rebels still fails to pass the sniff test of common sense. Washington’s last dabble into assisting the overthrow of an uncooperative regime backfired spectacularly. Libya, a country most Americans never heard of it prior to 2010, has been given over to Islamic radicalism in the absence of Muammar al-Gaddafi. Ambassador Chris Stevens infamously lost his life as a consequence of the coup, and its doubtful he will be the last. The disastrous invasion of Iraq has resulted in more sectarian violence than before Saddam Hussein’s ousting. Each intervention sows the seeds for another imperial adventure somewhere down the line – like a domino effect initiated by a meddlesome child. With fresh new sanctions on Iran and the war drums being sounded more forcefully and rhythmically for bloodshed in Syria, perpetual war, and the needless death it carries, show no signs of stopping. Instead of learning from the horror, the people clamor for “victory.”

If the basking in the holy light of incessant warmongering were not enough to prove human stubbornness, the recent tornado in Moore, Oklahoma should solidify my dispirited contention. The E-F5-measured storm obliterated everything it came in touch with, leaving an estimated $2 billion worth of damage in its path. Thousands lost their homes and face indefinite displacement. It’s only a matter of time before Keynesian devotees declare the storm an economic boon for the Sooner State. And I can only imagine the affectionate gaze from neoconservatives who revel in societal demolition.

The only thing that could make the Oklahoma tornado worse was if it could have been prevented. Unfortunately, due diligence says that yes, if the people had heeded earlier warnings, the catastrophe could have been largely avoided. Back in 1999, a tornado of similar strength tore through the same area. Experts calculated a 1% possibility of such an event happening again. Even in a world of measurable science, statistics is often a cruel predictor.

If that were the only enticement at work, the victims could be spared a bit of empathy. But the state, in an ongoing battle to capture hearts and minds, provided another form of encouragement: disaster insurance. When the government compensates victims of natural disaster with stolen money, it explicitly sends a signal to the receiver that relief will be available at any time in the future. It’s actually an anomaly to call government disaster relief insurance considering it’s a guaranteed payout regardless of circumstance. Unlike private insurance brokers, politicians and bureaucrats require no prior qualifications to dole out tax dollars – other than reassuring for themselves a safe reelection. It’s hard to say how many Moore residents were baited into living on a proven path of destruction. Washington’s readiness to aid the irresponsible was an assurance many, no doubt, kept in the back of their mind. The bleeding-hearts in the press who scream for disaster relief every time a barn topples over reject this lesson, seeing as how it renders their orchestrated compassion useless.

The mule, being a universal symbol for stubbornness, has become indistinguishable from the average news and politics ingester. Toeing the carefully-planned ideological path of media personalities, divergence from party line is a hurdle most pedestrians are incapable of clearing. When espousers of an ideology commit, or lend support to, a policy that is costly in terms of money or moral character, no apology is given. The same refuse-to-repent mindset seeps over the rest of life’s experiences. The man who sees himself as a firebrand is nothing but molded clay. It almost makes apoliticalism appear as a mark of intelligence.

Immanuel Kant famously referred to humanity as “crooked timber;” widely regarded as a reference to mankind’s inherent nature to sin. We accept this characterization, laugh at it, and offer no rebuttal to its existence. What’s not done is a forthright attempt to continually rectify our wrongs and pursue truth – even when it conflicts with inner bias. It’s far less painful to not acknowledge faulty logic. Perhaps there is a law of human nature for this, waiting to be discovered. If someone were to look back, many a millennia from now, and attempt to put his finger on man’s core fault, they could certainly formulate one.


The Chart That The BoJ Is Most Worried About (And So Should You Be)

Until the last few days, the attention of the mainstream business media has been on how ‘wonderful’ Japan’s policy prescription must be since its stock market is soaring at a record pace. The reality is that the far bigger JGB market has been crumbling. As we explained here, this is a major problem for the bubble-blowers, as the extreme volatility (VaR shock) that the Japanese Government Bond market has been through in the last few weeks has some very large and painful consequences, that as yet, have not been discussed widely. The term ‘shadow banking’ has been one ZH readers are by now extremely familiar with as we have discussed this as the panacea of unseen leverage (most recently in Europe and China) for years; the funding markets in Japan, so heavily reliant on JGB repo for short-term liquidity and the efficient functioning of two-way markets in the bonds, are hitting a wall. As JPMorgan notes, the number of JGB ‘fails’ – where a repo deal breaks down – has more than doubled in the last week. For a market that represents 40% of the total Japanese money-market, this will be a critical area to watch for a JGB waterfall.



Via JPMorgan:

The sharp rise in JGB volatility has not left the JGB repo market unaffected. The ¥80tr large Japanese repo market accounts for 40% of the total size of Japanese money market (which it also includes CDs/CPs, currency swaps, BoJ money market operations, and Call transactions) and it is an important lubricant of the JGB market. This is because repos with JGBs as collateral, account for more than 99% of domestic repo transactions. The haircuts are typically very low in the JGB repo market ranging from zero to 2%. This is because market participants are comfortable or accustomed to control risks through margin calls without often setting a haircut upfront.


But these margin calls or haircuts where applicable, tend to rise when volatility rises. And the rise in margin calls or haircuts has caused a rise in “fails”. 175 fails in the month of April represents a sharp increase from March but it is still much lower from the >1000 figures seen immediately post Lehman. A fail is a situation where a recipient of JGBs in a transaction does not receive the JGBs from the delivering party on the scheduled settlement date.


Typically the number of fails in Japan is quite small, partly because market participants try to avoid fails in advance, and because some market participants have never experienced fails. According to the BoJ, the situation is quite different from that prevailing in US repo markets, where fails occur much more frequently than in Japan and where market participants take action in accordance with the fails practice on a daily basis.


The retrenchment in Japanese repo market is then fed into the JGB market propagating the initial volatility (VaR) shock. The repo market is used by market participants for funding or short selling and its functioning is important in maintaining a two-way market for JGBs.


What The Income Statement Of The Entire Market Looks Like

In the New Normal, where fundamentals ceased to matter some time around March 2009 when Bernanke decided to nationalize first the bond, then the stock market, and soon, every other “market”, stuff like “data” is largely meaningless. However, for those who are still curious how the cash flow in the biggest corporate market – that of America – looks like, instead of merely chasing the latest trend or looking for a heatmap break out, here it is.

Using Factset data for the 1500 largest stocks (ex fins), Morgan Stanley has broken down the world’s biggest Income Statement by line item (and by sector). The results are as follows.

Some observations:

  • Of the $12 trillion in total revenue, nearly $6 trillion each year is the cost of goods sold for consumer companies (discretionary plus staples), energy, and industrials.
  • Gross profit (net of COGS and D&A) is just 27% of revenue, or a little over $3 trillion.
  • Consolidated income tax is a tiny 2.5% of revenue. Of all sectors, Energy companies paid the most taxes in FY 2012: $89 billion.
  • Interest expense was a tiny $215 billion. It is here that the bulk of EPS “generation” has taken place in the past two years now that companies have fired the bulk of the “fat”, courtesy of constant refinancing into an ever cheaper cost of debt. A historical analysis of the interest expense line item shows a constant decline. At some point, this number will start rising again, especially if indeed the Fed wishes to see rates rise. At that point, there will be only downside for the market’s Net Income, despite what paid financial-humor pundits say to the contrary on TV.

The same chart as above broken down by industry:

Source: Morgan Stanely