The deforming effects of zero rates

As Germany auctions 2 year bonds today with a negative yield, and the media counts down the seconds to the next pronouncement from central bank oracles, this article on the deforming effects of ‘free’ money policies is worth reading, see: Power of zero rates to distort markets should worry central bankers. Ultra-Loose Policy Storing Up Losses and Volatility for the Future.

In a related outcome, corporations have continued to borrow record amounts at low rates to buy back their own shares at the highest stock valuations in 6 years. See: Companies’ Stock Buy-backs help buoy the market, even as trading volumes plunge and the liquidity pool grows ever shallower for those now in.
Stock-Buybacks-091614

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The economic drag of our polarized populace

About 9,000 U.S. taxpayers have each accumulated at least $5 million in individual retirement accounts, said the Government Accountability Office, raising questions about some investors’ tax-advantaged returns. Here is a direct video link.

Meanwhile CNBC reports on the drop in 401(k) balances among the majority of households nearing retirement. Here is a direct video link.

Yes some people work harder than others.  Yes some people save more than others.  But the real reason for the massive polarization between the top .1% today and everyone else has most to do with the level and type of income each is able to earn.  As shown below, most workers are paid in wages which have been falling since 1999 when Central Banks and governments decided to promote the financial-ization of the global economy and asset bubbles as a primary monetary tool.  Companies have responded to slowing revenues by slashing payroll costs in order to increase their earnings per share.
Real losses in household incomeAt the same time executive compensation has increasingly focused on stock options that have ballooned and crashed and ballooned with the S&P 500 over the past 18 years as shown below.  As the c-suite has become obsessively focused on their own share price to increase their compensation they have funneled corporate cash away from capital expenditures and investment in their business and into share buy backs as a sure fire way to goose their own pay.  As a result, executive pay that was 20 times the average worker in 1965, is today nearly 300 times the average worker.

CEO compensation and the S&PIt may all sound like good fun, but it is actually self-defeating:  it has made the entire economy weaker and vulnerable on the violent swings of a boom and bust crash course.  (Read:  Robert Frank’s “The High Beta Rich”,  for more on why that’s a problem for tax collection and budget planning).

When this present asset bubble bursts again, we will see once more how incredibly wasteful and misguided capital allocations have been the past few years. And the entire society (.1% and everyone else) will realize that we have fallen far behind in productive investment and policies needed to enable a progressive and sustainable economy.

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Why asset bubbles are deadly

“…how do we know when irrational exuberance has unduly escalated asset values, which then become subject to unexpected and prolonged contractions as they have in Japan over the past decade?

— US Fed Chair, Alan Greenspan, in a televised speech “The Challenge of Central Banking in a Democratic Society”, on December 5, 1996.

I have been in this business a long time and pretty much seen it all.  Over the past 18 years since the Greenspan-led Fed first alluded to irrational exuberance in financial markets and then decided to embrace asset bubbles as a monetary tool rather than take proactive steps to help deflate them, we have lived through one after another spectacular boom and bust. Each time the real economy and median household wealth has fallen further behind.

There is no doubt that a few participants in each bubble have found themselves like lottery winners, holding the right asset at the right time, and able to cash out before collapses hit.  Most often these winners were early entrants and promoters who sold their story and holdings to others as prices spiked.  The vast majority of participants however have not found that kind of luck, and have ended up holding Ponzi-like assets as prices evaporated.

The commodities bust in 2011 was just the latest painful episode for many.  I well recall the buzz and lust for rare earth metals that swept the sector in early 2010. I took a look, did some math and quickly deduced that the valuations and risk/reward ratios made no sense. Many others took the bait.

“Back in 2010, rare earth elements were supposed to be the “can’t lose” investment of the decade. Rare earth elements are hard to mine and are used in a wide variety of consumer products like plasma TVs, magnets, and high-efficiency light bulbs.

But despite the seemingly obvious supply-demand dynamic driving up the price of rare earth elements, eventually the price bubble in these commodities got inflated quickly and deflated aggressively.

And now, Molycorp, one the largest rare earth mining companies, is teetering on the edge of penny stock status, while the price of rare earth elements has recovered just slightly.”

See: Remember the commodity bubble that exploded in 2011?

Here’s the chart.
Rare earth metals bubble

As we can see, anyone who was in early and sold into the frenzy of 2011 won big. Everyone else was decimated. Such is the very nature of asset bubbles. They are so extreme and irrational in their price moves that no one can predict how far they will go or when they will collapse. But collapse they always do. Unless one successfully wagers on the luck of an ideal entry and exit point, or uses insider trading or other illegal acts to reap timing advantage, asset bubbles are pretty consistently deadly.

Those buying and holding other bubbling assets today should ask themselves the question: what is my exit plan? which approach am I banking on? How much of my life savings am I wagering in the process? And how will my life be impacted in the overwhelming probability that I will not get out before the next collapse.

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Formula E: world’s first electric car race

Team China was out of the game before they could even complete Round One. And the final lap wrapped up with a spectacular corner crash. The world’s very first Formula E race held in Beijing over the weekend was nothing if not electrifying. But what REALLY held spectators’ attention was what’s behind the world’s very first FIA electric car race. Christine Hah hangs out with Bloomberg New Energy Finance’s Nathaniel Bullard on race day. Here is a direct video link.

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No fortune too big to lose

Lessons can be learned from the fading fortunes of former billionaire Eike Batista: leverage cuts both ways, stocks that rise a lot are usually followed by equal and opposite moves. Hubris and blind optimism are financially toxic over time. Genius is before the fall. It takes disciplined risk management to protect and preserve capital over full capital cycles. Here is a direct video link.

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Precious metals retracing on rising U$

From bubble-mania pricing in the summer of 2011, silver and gold have continued their mean reversion tumble as the US dollar has strengthened against all (well nearly all) forecasts.

The following big picture charts of silver and then gold offer a glimpse of where secular support for each now lies.  After already falling 62% since 2011, silver could revisit the $8 to $10 range it held in the multi-asset meltdown of 2009.

Silver Sept 12 2014. png

For gold, already down 35%, secular support range remains the $700 to $1000 range.
Gold Sept 12 2014

If prices can hold there, some value may present for longer-term investors. If not, then lower lows are likely to sicken even the most passionate believers. If previous historic, speculative episodes prove a guide, precious metals may disappoint for several years more to come.

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Financial unions and the debt chains that bind

The Scottish vote for independence this week can go either way, the polls are too close to call. But after the global debt bubble of 1996 to 2014, it makes perfect sense that people all over the world are today considering ways to reorganize and deconstruct into more independent fiscal arrangements– to cut the debt chains that have increasingly come to bind.

The trouble with larger groups is that they tend to move away from individual accountability and self-governance in favor of a few leaders and a majority of followers. This can work sometimes, for a while, where leaders are self-sacrificing, fiduciary and wise. It works very badly where they are not. It also tends to gradually emaciate the strength and self-control of followers. Case in point is the past decade of worldwide abdication of individual discipline in favor of collective debt, leverage and faith in the prestidigitation of bankers, accountants, big business and ‘high’ finance. Individuals have been complicit: they want to believe in an easy road to riches. Politicians and academics have been purchased to serve the cause. Layers of complexity have enabled deceit and extraction by a few amid the complacency of many.

As in corporate mergers, the coming together of disparate cultures can sound progressive and exciting: Greater efficiencies! More revenue! And yet, hundreds of studies attest that the overwhelming majority of corporate mergers fail in the end. By the time they do, the architects and executives who instigated them have usually cashed out and long gone.

The European Union sounded like a good idea on the surface: a united Europe was said less likely to war. Most of all a common currency made it easier for EU countries, companies, and households to borrow and spend. And they did both more than ever before. For a while those countries selling the most exports were delighted with the broader customer base. Germany profited handsomely. Those who collected up front on transaction volume made off like bandits. As debt levels soared, bankers extracted fortunes packaging debt and moving it “off book” into derivative products so that borrowers could borrow beyond reason. And they did. When the US consumer credit bubble inevitably burst in 2007, the great global unraveling began.

Since then governments around the world have been stepping in to absorb bad assets in exchange for commitments of fresh cash taken from taxpayer-co-signed lines of credit. This bought some more time for bad behavior and the past 6 years of continued self-destructive habits. It also spent future cash flow on past and present funding, leaving escalating deficits now and ahead.

In this next phase, the masses are becoming increasingly aware that the public purse has been decimated. As in divorce, the focus will now be on cutting the financial chains that had bound individual countries into union.

As Bank of England head Mark Carney warned last week, the case for a common currency is extremely weak where no sovereign union exists. Imagine being on the hook for your neighbor’s financial choices, with no power to direct them. In an effort to scare Scottish separatists, Carney admitted what his fellow banking colleagues had long denied: 15 years after the EU merger, their monetary union was always doomed.

During boom times, mergers are all the rage. In the give back phase, excesses are revealed, debt is abhorred and retrenchment predictable. Whatever the outcome in Scotland this week, the push to decentralize governments and untangle balance sheets has likely just begun. With global debt levels now tens of trillions higher than when the 2008 crisis first erupted into the light of day, more nations are likely to want their names removed from the shared credit facility of a common currency. While the process will be messy, the move back to personal accountability and financial self-governance is a necessary evolution in this healing process.

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The big picture on low rates

We know that we are living through an era of the lowest interest rates in our life time. But beyond that it is hard for most to get perspective on how the current rate environment compares with the past couple of centuries. The chart below offers help as it plots nominal 10-year treasury yields for 12 of the world’s largest economies for the past 200+ years. (click on picture for larger view)

Global yields big picture

What stands out is the fact that rates peaked in the western world in the early 1980′s as the bulk of the baby boomer generation (born 1946 to 1964) moved through their peak household formation and spending years. Where their parents had rented and lived with relatives to get started without debt, the baby boomers were inclined to borrow money to consume and spend faster. Like introducing steroids to previously natural cells, the magnified spending power of this massive population cohort initially drove demand for housing and goods to a previously unimaginable level. It also drove up the price of money (interest rates) in the process into 1980.

But once the bulk of the boomers were established with homes and cars and collectibles, demand for money began to fall, driving down inflation and interest rates for the next 30 years and counting. At the same time, falling rates made financed goods continually more affordable for everyone from students to boomers and pensioners. Modern finance, multinational corporations and technology all rose to the opportunity to create more and more complex ‘derivative’ debt products which allowed more people to consume more on debt than at any other time in human history. It seemed like a miracle stimulant for insatiable growth for a long time. But debt is future consumption denied and so each boom year left less demand ahead. By 2006 household consumption literally became paralyzed by its debt and demand plunged all over the world. The debt miracle had run into its inevitable demise.

Over the past 6 years, yearning for the boom years, central banks and governments have tried to restart another consumption frenzy by adding more leverage and more taxpayer-funded cash into the financial system. But their debt rescue boat has punctured leaks in itself. Now not just households, but governments and corporations too are stagnating in the debt and the slow growth era we have purchased in the process.

Interest rates have settled back to historic lows today not because of QE or other ‘free’ money policies, but because the free money elixir has run to the end of its efficacy. No one wants to borrow money, we are sick on debt. And the wealthiest consumers are now old and wanting to downsize. The world is awash in more non-productive goods than we can use. And those who are not, lack the discretionary income to buy them.

This suggests a few more years of weak demand, disinflation, deflation and low rates to come, as debt is slowly written off, paid down and moved out of our systems.

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Respiratory virus spreading across US

Not Ebola, but the “human entero virus 68″, where symptoms mimic the common cold but can quickly become life threatening. Cause for increased care in treatment and prevention.

A potentially deadly respiratory virus that has sent hundreds of kids to the hospital in the Midwest is likely to spread across the country say the CDC. Linda So reports.  Here is a direct video link.

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Deleveraging delayed now 30 trillion larger

This chart of total US credit instruments, courtesy of the Fed, offers some useful perspective on the toxic leverage now sickening the US economy.  Similar trends have compounded through most of the world’s economies over the past 14 years.

The delveraging that hasn't beenIt took 50 years (1951 to 2001) for credit levels to increase 30 trillion, and just the past 13 of fiscal and monetary largesse to double that.  The inevitable write-off and pay down phase still lies before us.

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Speculators bank on buyers for their exit

Private equity and other ‘all cash’ speculators who have bought up assets the past couple of years, need able and willing buyers in order to have their heavily anticipated ‘liquidity events’. This is where asset bubbles hit the road. To exit, everyone needs a buyer, and as prices have soared, and the real economy stagnated, able and willing buyers are in shorter and shorter supply. This basic fact applies across all markets and has recently been showing its presence in US housing once more.

At still historically low mortgage rates–30-year fixed-rate US mortgages under $417,000 at 4.27% and 4.15% on 30-year ‘jumbo’ loans over $417,000– Mortgage Applications have plunged to a 14 year low. The weekly index is now at its lowest level since December of 2000.

“…as all-cash buyers move out of the housing market, leaving mortgage-dependent buyers to pick up the slack. Fall is usually the season where first-time home buyers are most active, but this cohort has had the most trouble participating in the housing recovery, due to tighter credit and weak job and wage growth. Even government-insured loans, which offer lower down payments, are seeing far lower application volumes, down 18 percent from a year ago.”

Once people are already at record margin and consumer credit levels, at century-low interest rates, they can’t or won’t take on more leverage to buy. Then wages have to increase, debt has to be paid down and asset prices have to fall in order to realign sellers with the pool of able buyers. And so asset bubbles correct.

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PBS: Breaking Barriers

This episode traces the story of people of color on American television — including the mid-1960s breakthroughs of African Americans Diahann Carroll and Bill Cosby. Latino landmarks range from “I Love Lucy” with Desi Arnaz to “Miami Vice” with Edward James Olmos. Also featured are Asian-Americans like George Takei, who details his youth spent in a Japanese internment camp. Here is a direct video link.

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Danielle on The Financial Survival Network

Danielle was a guest today on The Financial Survival Network with Kerry Lutz talking about recent developments in the world economy and markets. You can listen to an audio clip of the segment here.

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Elizabeth Warren calls out regulators for zero criminal prosecution of bankers

Following the Savings and Loan crisis in early 80′s, the FBI was referred more than 5500 files for criminal investigations from financial regulators which led to more than 1000 criminal prosecutions and more than 800 individual convictions and jail time:

“The law on this is clear, no corporation can break the law unless an individual within that corporation broke the law”…After 35 billion of fines and repeated admissions of wrong doing by financial institutions since 2008,”Can you tell me how many senior executives at financial institutions the Fed has referred to the Justice department for prosecution?”

The outrageous answer: zero.

Warren then goes on to point out yet again that 6 years after the financial crisis, too big to fail banks still have no reasonable proposal for their own resolution on failure without taxpayer bailouts, and this is in direct breach of the Fed’s given mandate to step in and break up the banks who do not.

Here is a direct video link.

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More on the fight to restore democracy in America

Senator Warren’s important speech in the Senate on the purchase of political power in America:

“Mr. President, I rise today to support an independent constitutional amendment offered by Senator Udall of New Mexico which would restore to Congress and the States the authority to rein in the enormous sums of money that are flooding into our political process.

As they built our democracy, the Founders feared the impact of concentration of power. John Adams, a Massachusetts native and the author of our State Constitution, expressed this ideal well. He said:

Power must be opposed to power, force to force, strength to strength, interest to interest, as well as reason to reason, eloquence to eloquence, and passion to passion.

Balance, said Adams, was critical.

But in Washington power is not balanced. Instead, power is concentrated all on one side. Well-financed individuals and corporate interests are lined up to fight for their own privileges and to resist any change that would limit their special deals.

I saw this up close and personal following the 2008 financial crisis when I fought hard for stronger financial regulations, and the biggest banks in this country spent more than $1 million a day to weaken reforms. But there are many more examples.

Big corporate interests are smart. They fight every day on Capitol Hill, every day in the agencies, every day in the courts, always with the same goals in mind–to bend the law to benefit themselves. The U.S. Supreme Court is doing all it can to help them…” See her whole speech here.

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