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EconMatters - Global Economic and Market Analysis That Matters

Low Rates and QE are Deflationary at the Zero Bound

December 3, 2014 by EconMatters   Comments (0)

By EconMatters

San Francisco Fed's John Williams is part of the Problem at the Federal Reserve
Sure enough the S&P 500 drops 6% from its all-time highs, and all the idiots start talking about another round of QE when we haven`t even finished with the latest one (still buying bonds through October). The latest lemming who this time isn`t some dumb analyst on CNBC needing to pump his firm`s lagging stock, but no less than a voting member of the Federal Reserve in the form of the San Francisco Fed's John Williams, where do they get these clowns? Really QE again with a 5.9% unemployment rate and more JOLTS jobopenings than the US available workforce can possibly fill? Enough of this QE Forever crap, when are these clowns going to realize that low rates are actually incentivizing poor and inefficient uses of capital allocation.

San Francisco Innovation an Argument against European Weakness Having Any Direct Correlation with ZIRP or QE Infinity – Structural Issues Cannot Be Fixed with QE!

If ZIRP and QE Infinity hasn`t brought the economy back to normal operations after 7 years, then maybe these geniuses will figure this out that their policies are actually part of the problem, and have been proven not to be the solution. Every time I have heard San Francisco Fed's John Williams talk it reminds me of the Peter Principle, and how incompetent people rise within organizations and society because even more incompetent people feel comfortable and not threatened by their presence. In a sense this says a hell of a lot about the competence of Janet Yellen to have this intellectual lightweight as her wingman at the Federal Reserve. This guy is an embarrassment to the economics community, the Fed really stooped to all-time low levels with this hire, he literally is just there to insulate Janet Yellen from competent economists like James Bullard who should be head of the Federal Reserve, and actually can make sound objective judgments regarding the state of the US economy apart from his ideological disposition.

US Economic Data Should be Focus of Fed & Nothing Else

The US Fed is responsible for basing monetary policy on the economic data here in the United States, and not based upon an Ebola outbreak in the third world, how many times has that happened over the last 40 years? Many parts of Africa have been a shithole, and probably always will be because their values are shortsighted, yes cultural values matter, you do stupid things and you as a country are going to get stupid results, starvation, civil wars, Ebola, other diseases, etc. We seriously have not withered to a new low level of monetary policy where we are waiting for Africa to get its act together before normalizing rates and getting out of the business of manipulating market prices with QE Infinity creating more continued and unsustainable asset bubbles? Why do you think these markets freak out every time QE ends, because the asset prices were not created through a natural price discovery process – again the Fed is part of the problem with these insane bubble creating monetary policies!


US is a Capitalist Country (at least used to be) European Union is a Socialist Entity – and their Socialist Economy reflects this reality: US Fed has no control over Structural Issues in Europe
Does US monetary policy really revolve around whether Germany deficit spends to boost their sluggish economy, or diversifies from their current narrow engineering and manufacturing based economy? If the US really wants to help the German and European economy then just take back all the Sanctions against Russia one of the region’s most dominant trading and business partners. But since when does US Monetary policy depend on structural issues that they have no control of in the European Union? Where is that in the Fed mandate? The US cannot raise rates because Europe is a socialist mess, and until they adopt more market based capitalistic economies that can compete on a global basis, the US must continue on with recession era interest rates. How did we ever survive World War II without ZIRP & QE Infinity?
ZIRP & QE Poorly Incentivize Capital Allocation at the Zero Bound
However the biggest reason to discontinue ZIRP, never entertain QE again, and normalize interest rates is because of all the wasted capital around the globe chasing Yield Delta trades based upon 10 to 15 basis point borrowing costs, think about all this capital that could be better served actually creating economic growth in the form of project development, cap ex spending, bank lending for infrastructure projects, research and innovation, and small business loans. Literally low interest rates are actually self-fulfilling and deflationary, they are not good for any economy, and this is the Fed fallacy. 
ZIRP is Deflationary at the Zero Bound Level
If financial capital is so cheap that normal investments decisions are put on hold because investors can borrow at 10-15 basis points and without taking any project risk at all, just electronically Delta or pocket the difference between ZIRP borrowings and US Treasuries, Global Debt, Utilities, and anything else with an Electronic Yield of course this is an overall deflationary effect on the economy. The entire chase yield trade which is in the Trillions is a counterproductive, inefficient and poor use of capital allocation which only stunts long-term economic growth. What the Fed doesn`t get is that once you normalize interest rates you get healthy capital allocation strategies which boost economic growth because they are not strictly Electronic Transactions, but transactions that actually have knock on effects that add to other parts of economic growth, and thus they are growth driving and inflationary in nature. If the Fed truly wants inflation like they always make an excuse for why they need to print more money, just raise interest rates and that is the fastest way to get real inflation once you hit the zero-bound level, see Japan for the best example of the self-fulfilling policy of lower interest rates actually being deflationary, and not inflationary. 
If the Fed Really Cares about Raising Inflation Expectations, then they need to Raise Rates
The Federal Reserve has this all backwards! If they want to create inflation they need to raise interest rates off the zero-bound level period! What does the Fed have to lose [besides their whole Reason for Existence I know], but try normalizing rates and then examine the results, because we know low interest rates and QE hasn`t worked, or they wouldn`t have to be re-initiated in the form of additional QE Programs, and we wouldn`t still be having this entire conversation 7 years after ZIRP began. So enough of the excuses from these dovish Fed members, End QE, Never bring back QE Programs, and normalize interest rates ASAP, and stay the hell out of financial markets forever! Your only job is show up at economic conferences and raise and lower the Fed Funds Rate between 3.5 and 5.5%, and that is it! San Francisco Fed's John Williams is an absolute idiot, and representative of why so many market participants have lost all deference for the Federal Reserve and their incompetent monetary policies.

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CNN in Full Fear Mongering Mode Cashing in on Ebola

December 3, 2014 by EconMatters   Comments (0)

By EconMatters

2 Cases of Ebola

From the ‘news’ network that covered and beat the Missing MalaysiaAirlines Flight 370 story to death comes the latest hysteria promoting journalistic approach to the 2 cases of Ebola here in the United States. These people should literally lose their broadcasting license as although many Americans have the ability to rationally think about the issue, unfortunately many Americans lack the level of reasoning abilities necessary to rationally think in a level headed manner regarding the actual risks of becoming infected by Ebola.

More Likely to Die from…

In a sense CNN is shouting fire in a crowded movie theatre, they are pandering to the lowest common denominator to make a rating`s buck on this story. Literally their viewers are more likely to get hit by a car and killed crossing the road, or develop pneumonia this winter, or die shoveling snow than from being affected by Ebola in any manner whatsoever. Literally we are starting to see some of the hysteria play out in patients going to the emergency rooms when they haven`t traveled to Africa, come into contact with anybody who has been to the affected African regions but happen to exhibit a slight fever and or stomach ache which normally they would just take some over the counter remedies. 

Examine the Facts: Use Logical Reasoning
Ebola isn`t that easy to catch folks just consider the fact that the original patient was holed up in what was probably less than 1000 square feet apartment with his girlfriend, her five children, and many neighbors going in and out of the apartment when he was already exhibiting enough symptoms to go to the emergency room, and for several days after interacted with all these people in such a confined space, and yet none of those people are showing any signs of coming down with Ebola, and are probably out of the woods from a time perspective.
Nigeria Would Have Been a Disaster Zone if Ebola ‘Airborne Threat’ on Meaningful Scale
If Nigeria a poor country right next door to ground zero for Ebola can halt Ebola in its tracks when by all accounts the conditions would be perfect for it to reach epidemic proportions, and compare Nigeria to the United States and the rest of the developed world`s resources, Ebola is a very manageable problem even under the worst case scenarios here in the United States. The problem is that many people lack basic reasoning abilities, and the last thing these people need is a ‘news’ network hyping up Ebola with their Big Red Flashing News Headlines blowing all proportion out of the story in a hysterical fashion.

Journalistic Line & Fear-Mongering for Ratings
They have a responsibility in having a broadcasting license to inform the public about news stories in a professional manner which provides general context to the stories that they cover so that their viewers can understand how this news affects their lives, not create the context for the story that hyper exaggerates the actual level of risk on how this news will affect the lives of the viewers in a practical sense. Ebola isn`t a new movie release, and CNN isn`t its viral marketing advertising agency, they should be ashamed of themselves over their coverage of news these days. They not only aren`t journalists anymore, they aren`t even infotainment providers, they have stooped to the level of blatant Fear-Mongers.

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The Fed Has to Sell Treasury Holdings Back to Marketplace

December 3, 2014 by EconMatters   Comments (0)

By EconMatters

Not Holding Assets to Maturity

The conventional wisdom by Wall Street was that the Fed would just hold onto these Treasuries until they expired off their $4.5 Trillion balance sheet largely made up of US Treasuries and Mortgage backed securities, but during the last Fed Meeting Janet Yellen talked a lot about exiting these securities off the Fed`s balance sheet, and how they are thinking and planning about this process of selling these assets back onto the market.

$4.5 Trillion is a lot of Assets Needing to find a Permanent Home

This sort of news went under the radar with everyone focused on the exact date of the first rate hike, but it looks like the Fed is coming to terms with the fact that they have to sell many of these assets, especially all the treasuries, as it does no good to just let them expire on the Fed`s balance sheet, because in a sense the government at a time when their liabilities will be far more taxing in the form of the ramp up of the entitlement`s curve starting around 2018, will have to not only issue bonds and treasuries to cover these expenditures, but will then have to issue more treasuries to fund the fact that the expenditures for the treasuries issued during the Fed`s asset purchasing program (essentially government IOU`S for iou`s of T-bills and Bonds) never got funded. 
These expenditures need to be funded by an external holder other than the US Government for these Treasuries, and while Bond Yields are so low relative to historical standards it makes sense for the Fed to sell these bonds back to the market regardless if yields spike a little, versus creating additional Treasury allocations say in 2018 to cover these expenditures that never really got funded by external debt holders when interest rates are going to be much higher maybe by factors of 3 to 5 times higher in yields and financing costs.

The Government Cannot ‘Un-Spend’ the Money
There is no way the bond market will handle both an entitlements funding increase in Treasury allocation and funding the IOU`S of the Treasuries that never got funded during the QE era of the Federal Reserve, it isn`t like the government didn`t spend this money already, and not go full boar Bond Vigilante like we saw in Europe in 2012.
The Fed Hurts themselves for being Overly Transparent & Risks Front Running Actions
Of course the smart thing would have been to subtly without signaling the market put some of these Treasuries back on the market when yields were so low with everyone wanting to chase yield with lots of ZIRP floating around the financial system. But that would be ‘dishonest’ and a little odd considering they are still buying treasuries (15 Billion this month), but it sure would have been the best way to exit some of these holdings, call it an administration or procedural allocation, of course the market would catch on real quick (if they were dumb enough to reveal this in a shrinking balance sheet) a little deception would be helpful here as well.
Reverse QE: Just How Big & When Will it Begin?
But it does appear that the Federal Reserve is going to sell these bonds back to the market over the next several years, so besides raising the Fed Funds Rate, investors should probably be paying attention to just how much per year the Fed is going to sell back to the market now that they are no longer buying any more bonds as QE officially winds down this month. Based upon Janet Yellen`s own words on the topic and the ramifications of just holding these assets to maturity, many on Wall Street got this one wrong. The fact that the Fed isn`t just going to hold these assets to maturity, they are actually going to sell these assets back to the market, and hope the environment both in the bond market and the overall economy are robust enough to take this process without too much of a hiccup. 
Mainstream Business Media Completely Missed The Importance of this Issue
I was surprised that the media didn`t pick up on this fact, just how much time Janet Yellen spent addressing exiting these assets off the Fed`s balance sheet during her last press conference. They are actually formulating an exit plan for these assets to slowly liquidate these holdings off their balance sheet in the coming years. The real question and problem is that QE went on in several forms for essentially 7 years, and by my conservative calculations some of these Treasuries will start expiring for the longer duration items in just 4 years.

Let the Front Running Begin in 2015
Thus 2018 being the target date just divide the number of years 4 by the number of Fed assets that they want to slowly transfer off the balance sheet, and this is the number that the Federal Reserve will be doing Reverse QE per year, and I guess per month probably starting sometime in 2015. But when you run the numbers it sure isn`t going to be $15 per month of asset sales as that only gets the Fed to $180 Billion on an annual basis, and that pace isn`t going to solve their balance sheet dilemma/problem! And based upon the dismal turnout for the last 10-Year Treasury Auction, and the fact that we have our first two Treasury Auctions of the year with no Fed Buying for the month in November and December, maybe overzealous bond investors might want to rethink that Yield Chasing Strategy for 2015. 

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News Flash: 5.5% Unemployment Rate Represents Full Employment

December 3, 2014 by EconMatters   Comments (0)

By EconMatters

3-5 Months Ahead of Fed Forecasts for Employment Levels
What has sort of gone under the radar recently with Ebola fear mongering, Europe throwing a tizzy fit until they get their ‘stimulus fix’ and everything is miraculously all well again, profit taking in front of earning`s season here in the US, and oil on one of its customary $20 trading range moves to the downside is that last Friday the unemployment rate dropped to 5.9% due to another robust employment report and several upward revisions to prior month`s reports. Yes we are in the 5`s for unemployment, well ahead of everyone`s forecasts including the Federal Reserve. 

Fed Minutes after Incorrect Employment Report

It is great that everyone interpreted that the Fed Minutes were dovish, but the mistake is that this was after a dismal employment report, these minutes were based on old and incorrect economic information, and a Data Dependent Fed has some explaining to do now that the new employment data has come out last week for the economy.

But What About…
I know this is where the doom and gloom crowd who look at every glass as half full will point to the number of people who have left the workforce, or the under-utilization rate, or the quality of jobs created in the economy, or wages only being up 2% this year, or these jobs aren`t cosmic fulfilling to their ethos spirit. 
Have You Seen The Jolts Chart?

My response to that criticism is the following data set from JOLTS data released this week showing there were 4.835 million job openings out there for all those who have either not been looking very hard for a job, have left the workforce, are not satisfied with their current job, or are seeking additional training to move into the workforce. This was the highest level of job openings since January 2001. The number of job openings increased for total private and was little changed for government in August. This is good for the economy the strength that we have seen in both the Employment numbers and JOLTS data the fact that the private sector is leading the way, and not burdensome non-market related government jobs which frankly act as a negative in my book considering their performance and compensation disconnect. 


The Federal Reserve is Clueless

Thus this country has both created the most jobs this year since 1997, and has the most jobs still available since 2001, the unemployment rate is 5.9%, and by my standards full employment is the 5.5% level given historical standards in a normal, healthy economy and job market. Go back and look where the Fed Funds Rate was during times of comparable employment percentages for the last 20 years, throw in the fact the gas prices are finally coming down giving consumers extra money to spend on retail and discretionary spending during the Holiday shopping season, thus giving a boost to third and fourth quarter GDP numbers, the US economy is growing above trend, and there is no way in hell the Fed should still be stuck at recession era level of interest rates.

What Comes After a Tightening Labor Market?
The amount of off-sides in the bond markets here taking advantage of ZIRP to borrow at essentially nothing and juice up bonds because when it costs nothing to borrow money any yield is a good yield in their book is setting the entire financial market up for major volatility in the massive getting back on-sides with the reality of a healthy economy growing above 2.5%. 
I am sorry for the doom and gloom dovish free money for life crowd but use a little logic, the job market is tightening by any standards, we are growing above trend, and we are approaching by historical standards full levels of employment, what is the next shoe to drop in a tightening labor market reaching full employment, it is wage inflation and pricing power for goods and services other than petroleum products which have been overvalued for a long time given the fundamentals of the energy market. Make no mistake don`t be fooled by lower energy prices and its effects on inflation, giving a huge tax break to US consumers is actually after a slight lag effect, highly inflationary for overall prices in other categories of the CPI bucket, we are going to experience a sharp increase in inflation once these minimum wage initiatives start pushing through the system.

Fed Dovishness Out of Control
I have never seen a more mismanaged Fed right now, Janet Yellen and the Doves snuggling up to her good graces are completely out of touch with the economic data and realities of the US economy. Furthermore, the latest ploy for those on Wall Street who want continued free money at any costs to long-term financial stability to the system are the same crowd that was buying subprime mortgages the last time interest rates were low chasing the same type of levered yield trades that time with securitized debt instruments, and this time with treasuries around the world. The can`t raise interest rates mentality because the dollar is too strong are myopic ZIRP sycophants, this is what happens when an economy is growing better than other economies, the currency appreciates against other currencies, and interest rates rise. Do any of these people have a basic understanding of economic, business and financial market theory?

Liberalism at core of Fed Cluelessness
This is how economics work, this is a good thing to have one`s economy outperforming its peers on a globally competitive basis, to be entrepreneurial, create innovative products, better ways of doing things, paying higher wages because employment levels are rising, the job market is tightening, and by any normal measure interest rates should be following suit and rising as well regardless of whether the US Dollar also strengthens.

This isn`t a new concept, the US Dollar has been strong before, and the Fed Funds Rate has been much higher. I swear these doves at the Fed are from this West Coast school of ‘Feel Good Liberalism’ at the expense of throwing all their economic principles out the window. These doves at the Federal Reserve are so left wing ideologues that they are basically risking the entire financial system, creating massive bubbles in most of all the bond markets that are going to end disastrously at this pace, all because of their social welfare mentality which is at the core of all of this ZIRP Nonsense. 

But Look We Are Helping People Mentality
I finally figured out what is part of the core reason shaping this out of touch view by what are supposed to be trained economists, it all starts from academia, which is as politically correct and socialist liberal leaning as you can get stuck in the easy confines of protected walls of ‘Feelgoodism’. These people feel good about themselves if they are in their mind playing a role in giving something away, they are participating in the cause, even if it means being totally disconnected from economic reality and basic historical economic relationships that have held for decades, all along the way creating massive bubbles in financial markets that create more damage to the system over the long-term. It is the fact that in their minds they are ‘helping people’ by keeping interest rates below healthy levels, and the big banks are more than willing to accept the free money, they sure the hell don`t give a damn about the long-term. The big banks and financial institutions will never say NO to free capital.
The Federal Reserve Should Not Be a ZIRP Soup Kitchen for Financial Markets

Consequently Social Liberalism is really what has corrupted this Federal Reserve, and no I am not a conservative, in fact I have no political affiliation, other than maybe a person interested in price discovery and the beauty of free markets without Fed controlled manipulation of asset prices. But if these folks are going to let their politics interfere with basic economic reasoning and theory, then we need to start treating them like politicians and voting them in or out of office every two years.

And I would clean house with this Federal Reserve, they are incompetent, irresponsible risk takers with Monetary Policy, and with a 5.9% unemployment rate and a 25 basis point Fed Funds Rate, motivated by their ‘Feel Good Do Goodism’ liberal bearings have lost all objective economic reality! These people should have become social workers instead of objective ‘data dependent’ economists. The financial system doesn`t need any more ZIRP handouts to ‘fix’ things, or break things so that they can be ‘fixed’ again, what they need is for the Federal Reserve to get out of financial markets, return interest rates to more normalized conditions, and stay out of financial markets for good in terms of asset purchases. Enough of this Social Welfare Mentality for Financial Markets!

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Selling The Shale Boom: It's All About Reserves

December 3, 2014 by EconMatters   Comments (0)

By EconMatters

Over a year ago, Netflix CEO Reed Hasting got into trouble with the SEC when Netflix stock price spiked 21% after Hasting boasted on his Facebook page that Netflix monthly viewing exceeded 1 billion hours 3 weeks before the company's scheduled earnings release.  At the time, we opined that

Ever since the collapse of Enron and Lehman Brothers, corporate executive behavior and communication has been under the microscope with increasing regulatory scrutiny. There’s a good reason why almost all Fortune 500 C-Suite executives are very cautious and tight-lipped when speaking to the public about anything with stock price moving potential ..... It is irresponsible for a CEO to announce something without all the facts and figures.    

Well, apparently we might have been too harsh on Hasting.  Bloomberg reported even more serious discrepancies rife in the U.S. shale industry (see also chart below from Bloomberg):

Sixty-two of 73 U.S. shale drillers reported one estimate [of oil and gas reserves] in mandatory filings with the Securities and Exchange Commission while citing higher potential figures to the public, according to data compiled by Bloomberg.   

Chart Source: Bloomberg.om

For example, Bloomberg cited Pioneer Natural Resources (PXD) Co.’s estimate was 13 times higher, while Goodrich Petroleum Corp. (GDP) was 19 times.  Bloomberg also noted the number PXD told to potential investors has increased by 2 billion barrels a year in each of the last five years -- even as the proved reserves it files with the SEC have declined.   Similarly, the investor presentation by Rice Energy (RICE) shows 2.7 billion barrels. Rice, which went public in January, reported 100 million barrels to the SEC in March, that's almost 27 times higher.

So in other words, these companies tell SEC one number, then can just turn around and inflate that number to whatever 'estimates' companies believe to be 'probable' and/or 'possible'.  If you think executives would be held responsible for this kind of 'mis-communication', you would be wrong. Apparently it is legal and a common operational procedure as Bloomberg explains:

The SEC requires drillers to provide an annual accounting of how much oil and gas their properties will produce, a measurement called proved reserves, and company executives must certify that the reports are accurate.  

No such rules apply to appraisals that drillers pitch to the public, sometimes called resource potential. In public presentations, unregulated estimates included wells that would lose money, prospects that have never been drilled, acreage that won’t be tapped for decades and projects whose likelihood of success is less than 10 percent ........ 

Many of the companies use their own variation of resource potential, often with little explanation of what the number includes, how long it will take to drill or how much it will cost. The average estimate of resource potential was 6.6 times higher than the proved reserves reported to the SEC, the data compiled by Bloomberg News show.

Meanwhile, Bloomberg quoted comments from two of the drillers.  From the Chairman and CEO of Pioneer Natural Resources (PXD):

"Experienced investors know the difference between the two numbers........We’re owned 95 percent by institutions. Now the American public is going into the mutual funds, so they’re trusting what those institutions are doing in their homework.”

Here is the spokesperson of Marathon Oil chiming in:

Figures the company executives cite during presentations “are used in the capital allocation process, and are a standard tool the investment community understands and relies on in assessing a company’s performance and value,”

So this means Wall Street analysts model valuation, growth, and therefore stock recommendation based on 'estimate' that does not meet SEC reporting standards but thrown out by executives to pitch a better story of their stocks to the potential investors?

Honestly, it seems even worse than Enron's off-Balance Sheet Financing scheme.  Ultimately, in the Enron aftermath, CEO Jeff Skilling is serving 14 years of a 24-year original sentence for misleading investors.  Unfortunately, that precedent does not seem to have made as much impact one would think at least within the onshore E&P industry.  In that regard, we totally agree with John Lee, a Petroleum Engineering professor at University of Houston:

If I were an ambulance-chasing lawyer, I’d get into this.

This 'over-optimism' also opens up a whole new can of worms as to the current projection of U.S. energy reserves and production.  Is the U.S. really on its way to become energy self-sufficient as some may believe based on "resource potential"?  We certainly hope U.S. government checks all supporting data and facts before lifting the crude oil export ban.

According to Bloomberg, investors poured $16.3 billion in the first seven months of the year into mutual funds and exchange-traded funds focused on energy companies.  Our advise to retail investors -  Do your homework and double triple facts-checking, if something sounds too good to be true, it usually is.

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The 5–Year Bond is Emblematic of Careless Risk Taking in Bond Markets

December 3, 2014 by EconMatters   Comments (0)

By EconMatters

Dovishness Begets Excessive Risk Taking by Speculators
The Fed minutes came out this past week and they mentioned the strong dollar and less than stellar growth out of Europe, basically more over the top dovishness which just encouraged more unwise risk taking in the bond markets. This week Dallas Fed's Fisher said that they have identified areas of risk in markets, and James Bullard has said on several occasions that the markets are even behind the most dovish participants at the Federal Reserve regarding the forecasts for rate hikes, and the actual market actions of participants. 

Market participants may say that the Fed will raise rates mid-year in 2015, but they are speculating in bonds far out of touch with this reality. In other words, bond speculators just like any other speculators will push price as far as they can up until the last possible moment until they literally are forced out of the market by real fear of rate hikes, and the more dovish comments out of the Fed just reinforces this risky speculation.

The 5-Year Bond Yield is Under the Forecasted Fed Funds Rate for 2015 by the Fed

For example take the US 5-Year Bond trading with a Yield of 1.53%, remember this is for a 5 year time period, and if the Fed starts raising rates by June of 2015, roughly 8 months from today, the Fed has 10 members forecasting a Fed Funds Rate above 1% by the end of 2015, with 4 members between 1.75% and 2%. There is no way in hell the 5-Year Bond trading with a Yield under what the Fed Funds Rate could be in 2015 by their own Fed Forecasts, (with a highly dovish Fed slant by the way) there is no way this is a safe investment strategy. There is no way in hell this bond is any good this time next year with the current price and yield.

But remember this is a 5–Year Bond, so theoretically an investor is locking up the money for 5 years, and even based on the Fed`s own forecasts for Rate Hikes for 2017 (only 3 years from now) 15 Fed Members forecasts are all above 3% for the Fed Funds Rate. Remember this is for the Fed Funds Rate, and doesn`t even include an inflation forward looking component added to every bond, or just call it a risk premium that inflation could spike during the duration of this bond. By the way, Inflation is currently running at 1.6% by the government models. 
Negative Real Rates - Doesn`t apply with ZIRP Financing
In essence current bond holders have a negative real rate, the only way they make this risky trade is if they can borrow at essentially zero percent borrowing costs, use insane leverage, and ‘speculate’ on the low borrowing cost to bond yield Delta and also benefit from price appreciation by pushing the bond prices up as far as they can. I am sure this is the kind of risky behavior the Fed wants to encourage with their ZIRP program versus promoting sound long-term investment decisions that aren`t a threat to the financial stability of the system. Remember all these bond purchases that are only viable in a ZIRP Environment will have to be unwound – this unwinding is the systemic risk that the Fed has created! This is where the Unintended Consequences of ZIRP come back to bite the Federal Reserve. They cannot provide ZIRP with no restrictions and expect investors to make rational sound investment decisions, the cheaper the liquidity and the more available the liquidity is in direct correlation with the ‘riskiness’ of the investment choices.

Read More >>> Central Banks Biggest Concern Should Be Market Stability

Do These Bond Speculators ever Plug These Trades into a 5-Year Model

Literally the 5-Year Bond has to be one of the ill-advised investments in the history of stupid investments by speculators who bought this bond the past week. There is no way in hell this is sound risk reward investing, it isn`t even sound speculating. It is the most idiotic place one could store one`s money, and is indicative of what James Bullard and many see as major problems ahead for these speculators in the bond market induced by ZIRP borrowing costs. These investors will literally pick up pennies in front of a massive steamroller, more money has been lost chasing yield in the history of financial markets than any other mainstream trading strategy. It is amazing how risky and stupid speculators can be when their gains are rewarded by profits and fat bonuses and theirs losses are subsidized by bank bailouts! 
Market Participants May Say they are onboard for June 2015 Rate Hikes, However they haven`t come to terms with this Reality given the positions they are putting on, and the length of time required to unwind said positions without causing major market dislocations
I think the Fed needs to get out their calculator and start realizing just how off-sides the mainstream bond market is in ‘actual terms’ to their own forecasts for rate hikes, calculate the amount of losses ahead for anyone holding a 5-Year Bond with a yield of 1.53% today, with a conservative Fed Funds Rate of just 3% during this 5 year period. Moreover, guess who are holding a lot of these bonds, financial institutions, namely banks. Is the Federal Reserve prepared to bail out these banks or buy these bonds all over again with an already stretched 4.5 Trillion Dollar Balance Sheet? 
Janet Yellen Failing to do the kind of ‘Prudential Regulation’ that she advocates
This is the kind of “Prudential Regulation” that Janet Yellen should be doing right now in assessing over the top risk taking due to zero percent cheap money slushing around the banking sector. This has encouraged all kinds of “imprudent risk-taking” by investors, and the Fed better wake up to the actual numbers we are talking about here, especially once you calculate the interconnectedness of financial assets, and the fact that many of these bonds are used as leverage and collateral for other investments.
The Federal Reserve is seriously asleep at the wheel to the massive bubble building in what is supposed to be a conservative market, but losses are losses, just start doing the math Janet Yellen. The Bond Market is in a massive bubble even by your own conservative forecasts, she better start doing some “Prudential Regulating” and developing a real hawkish tone just to get some of these overzealous speculators to start unwinding these massive positions. Forget the stock market, commodities, or Social Media Stocks they can go up or down; no real threat to the financial system, but the size of the bond market, and the sheer bubble that exists, is the real threat to financial stability of the entire system. 
Bond Haircuts & Risk Modeling

Just look at the 5-Year Bond and tell me that price and yield makes any sense, (just do the math it doesn`t add up) this is symptomatic of the bond market in general, there is no way that any of those 10-Year European Bonds are any good during this duration of time, and many banks have these toxic assets on their books right now because of global ZIRP incentives. 
The difference between 2007 and today is these were largely sub-prime loans and overvalued real estate mortgages in the financial crisis of 2007/08; but this is the entire global bond market from Spain and Greece to the United States 5-Year Bond with rates rising by everyone`s standards in 8 months’ time by the Federal Reserve. There is no capacity in the ECB or the US Federal Reserve to buy all these toxic and deteriorating by the minute bond assets on banks` balance sheets. This time the only option is major haircuts by bond holders, shoot even the best house on the block in the United States has a 5-Year Bond that from a price and yield perspective is going to cause major losses for these investors going forward! 

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The Fed Can`t Raise Rates Because the Sky Is Blue

December 3, 2014 by EconMatters   Comments (0)

By EconMatters

We Cannot Raise Rates Because…

This is starting to become outright laughable if it wasn`t so incompetent and irresponsible interest rate policy, or lack of policy by the Federal Reserve. Forget unemployment, GDP, Structural Economic Issues, Wages, or Inflation now the reason the Federal Reserve cannot raise interest rates from recession era levels is because the dollar is too strong. Talk about drawing the line, moving the line back or forward; now the Federal Reserve is trying to redefine what constitutes a ‘line’ in the first place.

Fed Out of Financial Markets

We are not talking about raising the Fed Fund`s Rate to 4% we are just talking about raising rates more in line with basically a normal functioning economy growing at 2 plus percent on an annual basis with an unemployment rate in the fives. If the Federal Reserve cannot raise rates after 7 long years, this either says a lot about their lower rate and QE strategy in the first place, i.e., it hasn`t worked, or they need to quit making excuses and raise the freaking rate already. This has gone on long enough; I want the Federal Reserve out of financial market manipulation with absurdly idiotic interventionist policies. There is something seriously wrong if the Federal Reserve cannot raise the Fed Fund`s Rate a measly 100 basis points after 7 longs years of ZIRP!  Seven years is an entire business and economic cycle, shoot the economy has been at ZIRP for so long it literally could cycle back to recession just because it has been so long, and business cycles have normal patterns of growth and contraction, we did study this in business school, this is economics 101!

Newsflash: “Imperfect World”
If I hear another idiot dove discuss another obscure reason why they need to continue with ZIRP methodology because Apple had a bad quarter, or Spain has high unemployment, or China is trying to rebalance their economy, or Venezuela has a social system that sucks, or Germany needs to diversify from Luxury Automobiles, or 50 people in Developed Economies die from Ebola, or the Middle East is in conflict then the Federal Reserve should just come out and state that due to an ‘imperfect world’ they can never raise rates, and the Fed Fund`s Rate has now been renamed the ZIRP New Normal Rate for eternity.

ZIRP Will Save the Planet!
I heard some analyst come on TV and say Geo-Political turmoil is at unprecedented levels, gee how did the world ever survive two world wars, AIDS, Communism, the Iraq-Iran War, Israel fighting many wars, starvation in Africa, Presidential Assassinations, the Vietnam War, Argentina, Mexican, Russian Currency Bailouts all without a ZIRP Mandate for Lifetime Emergency Measure to save Mankind! If only we keep ZIRP around and investors are enabled to buy more stocks and bonds at any valuation and low of a yield, throwing all risk exposure scenarios out the window, because ZIRP is the Wonder Drug it solves all global problems, and any valuation and yield is justifiable when the money is free under the New World Normal Economic Models of the Federal Reserve. 
Unintended Consequences & History of Fed Interventions
Everything has a cost, that is the first lesson the Fed needs to get straight right now, and absurd dovishness has consequences, as I see it there is a tradeoff, and with an economy creating 250k jobs a month, and an unemployment rate under six, it is only a matter of when and not if before wage inflation smacks the Fed where they though they actually wanted to see Wages Rising Faster than Janet Yellen can say $15 minimum Wage for flipping burgers. Gas prices may be giving consumers a break but this just means prices will be raised in retail now that consumers have a little extra cash in their pockets to spend on discretionary purchases until oil makes its next $25 dollar run in the other direction on stronger demand and the next Middle East Crisis. I agree that the Minimum Wage needs to be raised, corporations will exploit as much as you let them get away with, but why do you think the Minimum Wage is so out of whack with the Cost of Living, it is because there has been runaway inflation since the last raise in the Minimum Wage due to excessively loose monetary policies and selective measuring of overall inflation in the economy!
Ask Yourselves Why the Minimum Wage Needs to be raised So Much?
Oh poor Fed the “Official Government Tracked” measure of inflation is under 2%, this is mighty convenient for a body that benefits from lower inflation measures, so that they can continue printing money and creating more asset bubbles that amazingly enough don`t turn out right, and then the Fed needs to come to the rescue all over again with additional economic stimulus. The financial markets have become so reliant on Fed Stimulus in what are supposed to be price discovery and value setting mechanisms that they literally don`t know how to function without their monthly Crack Infusion from the Federal Reserve. Europe literally is begging for more Crack or they are going to throw a temper tantrum as if 10 basis point borrowing costs isn`t enough already. More Crack Stimulus is not the answer for economic problems at the zero bound, and failure to recognize this ‘Enabling Central Bank Role’ in setting the groundwork for future financial crises in the form of unsustainable asset prices not reflecting the underlying fundamentals of poor Debt To GDP Ratios in Europe, or US Stocks & Bonds unable to sustain themselves without ZIRP Stimulus from the Federal Reserve is the definition of insanity.
The Tradeoff: Deferred Gratification a Sign of Competence
Enough already the world is never going to be perfect, the economy is never going to be perfect but responsible Fed Policy understands this tradeoff, you can raise interest rates sooner and in a more gradual fashion, or wait to raise rates and have to raise a bunch in a short amount of time. And given where asset prices are after 7 years of stimulus which scenario do you think will cause more market instability? What I am referring to is the next financial crisis if the Fed waits to raise rates, i.e., they take the short-term benefit at the risk of the long-term ruin, then they are not only destined for sending the financial markets into a calamitous event, but given all the warnings and recent history of Fed inspired Bubbles Bursting, it seems a deliberate suicidal plan. It seems the Federal Reserve being an independent body accountable to no oversight has to stop; a strong dollar because the US Economy is outperforming its peers is a good thing, and not an excuse to continue ZIRP Madness. I swear next the Doves at the Fed will say that ‘Aging Demographics’ is a real concern for them, and therefore they might have to keep interest rates lower for a more prolonged amount of time. How did my parent`s generation ever survive with a 4% Fed Funds Rate? The Fed has become the local Crack Dealer for Financial Markets!

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The Fed Cannot Wait For Wage Inflation to Raise Rates

December 3, 2014 by EconMatters   Comments (0)

By EconMatters

5.9% Unemployment Rate
On Friday the Employment Report came out reaffirming the stellar 2014 employment story, in fact the United States has created an amazing amount of jobs this year, well ahead of both the Fed`s own forecast for job creation and the most optimistic economist outlook for 2014 bringing the unemployment rate down to 5.9% with three months still left in the year.

To say that the Federal Reserve is behind the curve is an understatement now that we have broken the 6% barrier, of course all the participants who want continued free money will point to all kinds of excuses for maintaining recession era rates to juice everything from stock buybacks to yield carry trades.

Spoiled Little Brats 

Financial markets are like a bunch of spoiled sweet sixteen little girls who have daddy wrapped around their finger, and when they don`t get what they want, they throw a temper tantrum, i.e., European banks who bought all those bonds expecting the ECB to take these largely terrible investments off their books.
Here is a newsflash the ECB isn`t going to save Europe, Europe needs to start making themselves competitive on a world stage, or be left by the wayside as strictly a tourist destination, they just aren`t very innovative, how`s the high tech startup scene in Paris? They will be forever economic dinosaurs symbolic of those rotting locks on a bridge without some major cultural rejuvenation, tourism and property money laundering businesses can only go so far up against China, South Korea and the United States as Global Business Competitors.
Federal Reserve Doesn`t Dictate Wage Rates versus Market Forces 
Similarly, in the US if the Fed waits for wages to jump before raising rates it is way too late, and the risk will be that they will have to raise rates by a lot more in a shorter duration of time, and this will cause major market tumult. Those of you who thought volatility was high this past week just wait until the Fed waits to as I have heard it described by some naive commentators as the “Whites of the eyes of inflation” before raising rates; and they have to deal with 100 basis point rate rises in two months’ time because inflation did really show the economy its wicked whites
Sooner and Slower versus Later and Faster
The responsible choice is always to raise rates sooner but at a slower pace versus to wait and have to raise rates a lot more to play catch up from a market and economic perspective, and overall risk to financial stability of the financial system, i.e., have you seen the repo market at quarter end in a relatively low volatility environment.
Market behind the Fed who is Behind the Curve!

Everybody wants the party to continue for the last possible second, and we are in October with a 5.9% unemployment rate, and everybody thinks they are going to be the first to get out when they get the signal from the Fed. But the financial market is so complacent, that half the market doesn`t believe the Federal Reserve will raise rates in 2015. 
The financial market is so behind the dot curve for rate rises that James Bullard keeps feeling the need to chide the market on this matter, he can save his breath as they are like the proverbial college student doing the 15 page term paper the night before it is due, they will literally wait to unwind these leveraged yield chasing trades until there is absolutely no liquidity in the market for getting out of these trades.

Market Participants Don`t Have a Good Track Record of Profiling Risk Positioning 

The Fed needs to understand the risk taking maturity of these players in developing their exit strategy, and the last thing they want to do is wait for wage inflation to raise rates. This will result in 50 basis points rate raises of the Fed Funds and more market volatility that frankly the financial system just cannot handle. 
I am talking about a VIX at 40 and above, and 500 point down days in the Dow on a regular basis if the Fed makes the irresponsible choice to wait but have to raise rates by a bunch in ‘catchup mode’ versus responsibility signaling small 25 basis point rate rises starting in March of 2015. 
And if the Fed chooses the responsible strategy they need to signal to market players this month in the October Statement now that QE has come to an end what their rate timetable is in concrete fashion and not a bunch of dots on an econ graph for 2015. 
F
orget the Nuance – Spell it out Clearly
These people in financial markets need everything spelled out for them in easy to understand metrics, spare the nuance, it is way over these guy`s heads, most of these people can barely fog up a mirror on a good day, simply state we intend to raise rates by 25 basis points at the March QTRLY Meeting all things being equal, i.e., the economy continues growing at a modest pace of above 2% GDP Growth.
Current Fed Mumble Jumble Irresponsible & Confusing

But this current data dependent, dot plots on a graph, fed mumble jumble is only going to make any change more dramatic for financial markets; they need a formalized, concrete plan for rate rises in 2015 in the next Fed Statement this month. Shoot if Janet Yellen told financial markets that she intended to raise rates by such an such date, at this level of market complacency, it would take at least 6 months just to get positioned for such a change in Rate Policy given 7 years of positioning in the other direction, and I don`t think she or any of those commentators who advocate wanting to see the whites of the eyes of inflation before changing monetary policy have any real experience of needing to exit large positions in an illiquid market where there are no buyers for the other side of the trade! 
October Fed Statement Needs Clearly Defined Rate Hike Schedule for 2015! 
If Janet Yellen doesn’t spell out a clearly defined rate rise schedule for 2015 in this October statement, she is conducting Fed Policy in such an irresponsible manner, and will be directly responsible for the disastrous results that will follow in 2015 for financial markets as market dislocation reaches epic proportions with a VIX at 40 and market curbs and CNBC Nightly Specials a common occurrence. 
This past week gives her and investors a slight glimpse of this horror show, and that is with 15 Billion of Fed stimulus still backstopping asset prices, and a ZIRP environment – and we still had almost 300 point down days in the Dow. What does she think will happen if she waits until March to inform investors that the Fed will be raising rates in June of 2015 – seems like the recipe for a Market Crash Scenario if you ask me?

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Central Banks Biggest Concern Should Be Market Stability

December 3, 2014 by EconMatters   Comments (0)

By EconMatters

Good Year Performance Wise
We closed out our bond short this week and are up 42% so far this year. The reason we closed out our bond short is that we are trying to make money and control risk as much as possible in a market that frankly speaking is off its rockers! Who knows what “Fair Market Value” is for any asset? 

Markets are so influenced by Central Bank liquidity that we have little confidence in what the actual ‘market prices’ are for many assets, we strategically take advantage of extreme mispricing’s relative to our models, i.e., the low hanging fruit, and get out of the market. I don`t want to hold anything these days!
 

Liquidity, Liquidity, Liquidity

As I was shorting S&P Futures late Thursday night it once again hit home how close financial markets are to some major shocks all due to ridiculous amounts of liquidity by Central Banks all over the world. The movements in the currencies as of late are starting to become worrisome, and with the movements on Thursday night I will not be surprised if we start having some currency inspired major volatility in other asset classes.
Strong Dollar

Have you seen the effect of the strong dollar on commodities, silver in particular? I will not be surprised to wake up some morning and find silver trading at $14 an ounce at this point due to some holders getting liquidated in a massive way.
Too Insane That Fed Will Still Be Buying 15 Billion Next Month with S&P at these levels

So late Thursday night Japan hits 2014 highs, then Europe hits 2014 highs, and the US Futures hit all-time highs, and I was struck by the fact that next month the Fed will still be buying 15 Billion of asset purchases for October.
Stock Buybacks & Earnings
This thought further hit home the fact that as earning`s season is just around the corner, I am pretty sure that much of the Dow`s outperformance of late is companies buying back stock to hit their respective earning`s marks. And as Oracle CEO Larry Ellison steps down what did Oracle announce, another 13 Billion in stock buybacks to soothe investors’ concerns. Low interest rates have fueled a ridiculous and unhealthy amount of stock buybacks at the top of valuations, and this has truly distorted financial markets.
Draining Market Liquidity Primary Concern Right Now!
The Fed`s biggest concern needs to be draining the liquidity in the financial system before the entire market collapses, and not the unemployment rate, slack in the unemployment rate, or even inflation at this point. The reason is that sure central banks can pump so much liquidity into the system that markets will not go down, volatility will be reduced, but after several years of artificial support, all the liquidity in the world isn`t going to support an unsustainable market led by disproportional and untimely stock buybacks, asset prices with overextended multiples, and every company in the world coming to the market to cash in on the IPO madness due to robust excess market liquidity.
Retail Investors Get Out of the Market – Don`t be the ‘Suckers/Muppets’ this time!
Retail investors just go to cash because the financial markets are going to crash it is just a matter of when and not if. The Fed will have much bigger employment worries on their hands when the entire financial system collapses because central banks mucked up markets with actual buying of securities in the Bank of Japan, ECB, China and the US Federal Reserve. 
Somebody Has to Have Relative Stronger Currency

We are starting to see the strain in the currencies, and everyone cannot debase their currency at the same time, and the market is starting to look away from the US Dollar being the weak currency, and if this continues gold and silver markets will get destroyed, US corporate profits are going to get hit, and all the stock buybacks in the world are not going to help US Corporations hit the earning`s marks.
Alibaba a $20 Stock without Central Bank Liquidity
It is funny watching the analysts discuss Alibaba`s stock price and what constitutes a proper multiple for the stock, is this pre-Central Bank Liquidity or post-Central Bank Liquidity? Is this before or after the financial collapse of the latest fed inspired bubble? Or China for that matter as their property market isn`t trending in the right direction at the moment! 
Currency Moves & Magnitude of Moves Warning Sign for Markets
I am not calling for a market top, markets will go up until they stop going up, but trading late this week the sentiment that most provoked my psyche was just how vulnerable and shaky the entire financial system is right now, and it is only being masked by massive central bank liquidity, which is ultimately unsustainable, and then what? Look to the currency markets as they are starting to signal that things aren`t all  ‘Hunky-Dory’ right now by the magnitude of the currency moves, there is just too much liquidity in the financial system right now, and that is a ticking time bomb waiting to explode!

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Solar in Oil Drilling: Beat Them or Join Them?

December 3, 2014 by EconMatters   Comments (0)

By EconMatters

Solar energy has garnered quite a buzz lately as China is set to beef up its solar installation. Fundamentally, many energy forecast scenarios by numerous agencies suggest while renewable energy would enjoy a higher growth rate, fossil fuels would remain as a dominant global energy source.  Nevertheless, as the old saying goes -- If you can't beat them, join them.  This seems to be what's happening with at least one solar company.

CNBC reported that GlassPoint Solar landed a $53 million investment from Royal Dutch Shell and the sovereign investment fund of Oman for its enhanced oil recovery (EOR) technology. As the company's name suggests, GlassPoint's technology runs on solar power, which produces steam to help pump more fossil fuel from conventional crude oil plays.

According to CNBC, GlassPoint has been using this technique in Oman since 2012, and it helped the firm score more than double its initial funding. According to EIA data, Oman is the largest oil and natural gas producer in the Middle East that is not a member of OPEC, and that EOR techniques have helped Oman's oil production rebound from a multi-year decline in the early 2000s. Oman relies heavily on complex EOR process to extract more oil than traditional drilling—to boost production.

EOR is nothing new to the oil industry.  With much of the world's 'easy oil' already recovered, more and more producers are turning to EOR for prospects of ultimately 30-60% more of the reservoir's original oil.  CNBC quoted consulting firm Ernst and Young which estimated [oil] companies spend at least $5 billion annually on the [EOR] process, and the need for this type of methods to expand the efficiency of wells is particularly acute in places like Oman and Russia where oil fields are getting long in the tooth (see chart below also from CNBC).

Graphic Source: CNBC.com

According to CNBC, GlassPoint's CEO Rod MacGregor noted in an interview that "This application looks like the next step for solar." Take it at face value, this new niche solar technology indeed looks very promising as it could reduce oil projects environmental impact, replacing and conserving other energy source(s) used in the EOR process.  This could become a tremendous growth area for the solar industry, and for companies with the expertise.  But before everyone gets overly excited, keep in mind that ultimately, like any new technologies and methods, it will need to pass the number crunching test.

The CNBC article made no mention of the cost factor.  EOR is already a very cost-intensive process. So given that (1) The economics of solar and other renewable energy is still a much debated issue among experts, and (2) the intermittent nature of solar,  I think the most likely scenario is that the new solar drilling technology would be become part of, but not replacing the existing traditional methods. This would put a very different perspective on its growth prospect.

Before the jury is in, solar industry should have no problem getting funding from oil companies that are desperate to gain some kind of positive association with any renewable drilling project. In the meantime, whether this niche technology sector within the solar industry could lose support from the environmental cause due to the involvement with oil drilling is yet to be seen as well.        

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