Thursday, December 27, 2012

Central Banks Race to the Bottom

This was presented by Zero Hedge last week.

So what do these central bankers propose as an alternative to sound money? The chart below shows precisely that, by projecting where the balance sheets of the final backstops of the modern financial world will be in one year. In short: far higher - driven by what? Why even more paper money dilution of course. Which is precisely the issue at hand - in a closed loop world in which relative currency devaluation does nothing to raise absolute global value, and merely shifts relative benefits from one actor to another, the only way the world can "grow" now that it has reached maximum leverage capacity is to devalue currencies but not against one another, but in a coordinated fashion against a hard asset(s). Which is precisely what will eventually happen. And that hard assets will be gold, silver and/or anything else that historically has had monetary equivalency. That daytraders seem to ignore or forget this fact is, well, expected. After all there are margin call demands to be met: everyone else should be delighted that real money is suddenly on sale.

Central Bank Balance Sheet as a % of total host GDP (via Guggenheim):

VIX Trading Updates, Changes to the Model, and Potential Trading Portfolio

As I stated in past weekly updates concerning the VIX Trading Portfolio, I been running a number of different scenarios on the standardize VIX data in attempt to smooth out the daily variation in the
VIX, which even in the standardized variation is exceeding volatility. I am doing this in order to provide cleaner signals. The data was just too noisy to make any calls useful. Take for instance some of the recent tradings days, where the VIX traded in range of +/- 2 points. These figures, when standardized, were resulting in excessive trading calls. There were even some days where the data would suggest a buy one day, only to go to sell the next. This just was not useful.

To subdue the daily noise, I began to model using a number of different scenarios and methods. I  settled in on using a weighted average measure, compiled using data over the course of a number of weeks while putting more emphasis on near-term results. In this way, the data provides less noisy results and smoother transitions period between calls, while still providing timely calls in my opinion.

With that in mind, I came up with results that appears fairly robust and tradeable while keeping the systematic aspects of the strategy simple. I provide some details on the model and show the results below.

The following table shows the average rolling daily six month performance of the S&P 500 as compared to forward six month performance averages following certain criteria on the weighted-average standardized VIX data.

Standard VIX

Buy-n-Hold >1, <2 >-2, <-1.5
Avg 0.81% -1.20% 3.75%
Median 2.56% -3.11% 3.83%
# Up 1842 195 355
Total 3136 451 489
Batting Avg 58.7% 43.2% 72.6%

The above tables shows three columns, the first is the average buy-and-hold figures including the average 6-month market return, the median return, the number of instances where the market was up, the number of days in the sample, and the batting average or percentage the market increased over a six-month period. The second column shows the market performance figures following instances when the standardized VIX data greater than 1 but less 2. The third, in contrast, shows the performance figures following instances when the VIX data was less than -1.5 but greater than -2. I excluded those instances when the standardized VIX was +/- 2 due to the mix signals in these regions. The market has a tendency to become highly momentum oriented when the standardized VIX is an absolute 2 and the betting averages tend to move toward even odds. Hence, I excluded these results from the signals.

Using a weighted average also comes with its own problems. One of the most glaring is that sometimes signals are slow to develop. With that in mind, I also ran models for periods when the weighted-average standardized VIX hovered between -1.5 and 1, and used the standardized daily VIX data to discern buy and sell signals. Specifically, sell signals were generated when the daily standardized VIX is greater than 1 and buy signals when results are less -1.45. In both cases the standardized VIX was between the -1.5 and 1.

>1 <-1.45
Avg -8.59% 2.26%
Median -9.69% 4.35%
# Up 19 67
Total 91 99
Batting Avg 20.9% 67.7%

The results, in my mind, look compelling and I think they can provide cleaner trading signals (probably in conjunction with other data). With all that said, I should mention that the current weighted-average standardized VIX is around -0.09 while the current daily VIX is at about 2.32. This is a sell signal in my mind, noting that downside volume on the SPY has been picking up in recent days.

As for the VIX Trading Portfolio model, I am staying the course for now and keeping the short S&P 500 position. Even still, I am toying with the notion of using 2x and 3x ETF funds to gain greater long or short exposure depending on the signals and other market data.

Japan's Problematic Deflation Due to Demographics

This is from the Christian Science Monitor.

However, if you adjust for population growth, Japanese growth has actually been in line with U.S. growth and somewhat higher than the average for Western Europe. And if you further adjust for the fact that Japan's population is aging much faster than elsewhere, growth has actually been higher. Total GDP may have grown slower, but GDP relative to its working age population has been growing somewhat faster than the average for rich countries.

As a result, unlike both the U.S. and Western Europe it has a higher employment to population (in the 15 to 64 year age span) than a decade ago, and a lower unemployment rate. This clearly indicates that the source of Japan's economic stagnation is demographic, not monetary.

More here.

Makes you wonder if the Fed using the wrong model when creating its own monetary policy.


The Fallacy of the Fed- Mises Institute

The Mises Institute on the Fed's latest easing and the follies of in their thinking.

On Wednesday December 12, 2012 Fed policy makers announced that they will boost their main stimulus tool by adding $45 billion of monthly Treasury purchases to an existing program to buy $40 billion of mortgage debt a month. This decision is likely to boost the Fed’s balance sheet from the present $2.86 trillion to $4 trillion by the end of next year. Policy makers also announced that an almost zero interest rate policy will stay intact as long as the unemployment rate is above 6.5% and the rate of inflation doesn’t exceed the 2.5% figure.

Most commentators are of the view that Fed Chairman Ben Bernanke and his colleagues are absolutely committed to averting the mistakes of the Japanese in 1990’s (More here) and the US central bank during the Great Depression. On this Bernanke said that,
A return to broad based prosperity will require sustained improvement in the job market, which in turn requires stronger economic growth.
Furthermore he added that,
The Fed plans to maintain accommodation as long as needed to promote a stronger economic recovery in the context of price of stability.
But why should another expansion of the Fed’s balance sheet i.e. more money pumping, revive the economy? What is the logic behind this way of thinking?

Bernanke is of the view that monetary pumping, whilst price inflation remains subdued, is going to strengthen purchasing power in the hands of individuals. Consequently, this will give a boost to consumer spending and via the famous Keynesian multiplier the rest of the economy will follow suit. Bernanke, however, confuses here the means of exchange i.e. money, with the means of payments which are goods and services.In a market economy every individual exchanges what he has produced for money (the medium of exchange) and then exchanges money for other goods. This means that he fu nds the purchase of other goods by means of goods he has produced.

Paraphrasing Jean Baptiste Say Mises argued that,
Commodities, says Say, are ultimately paid for not by money, but by other commodities. Money is merely the commonly used medium of exchange; it plays only an intermediary role. What the seller wants ultimately to receive in exchange for the commodities sold is other commodities. [1]
Printing more money is not going to bring prosperity i.e. more goods and services. Money as such produces nothing,
According to Rothbard,
Money, per se, cannot be consumed and cannot be used directly as a producers' good in the productive process. Money per se is therefore unproductive; it is dead stock and produces nothing.[2].
Contrary to popular thinking there is no need for more money to keep the economy going. On this Mises argued,
The services which money renders can be neither improved nor repaired by changing the supply of money. … The quantity of money available in the whole economy is always sufficient to secure for everybody all that money does and can do.[3]
Printing more money will only result in the diversion of goods from those individuals that produced them to those who have produced nothing i.e. the holders of the newly printed money.
According to Mises,
An essential point in the social philosophy of interventionism is the existence of an inexhaustible fund which can be squeezed forever. The whole system of interventionism collapses when this fountain is drained off: The Santa Claus principle liquidates itself.[4]
What is required to set in motion a broadly based prosperity is to enhance and expand the production structure of the economy. Printing money however, will undermine the expansion and the enhancement of the wealth generating infrastructure. If by means of money printing and the lowering of interest rates one can generate prosperity, why after all of the massive pumping by the Fed are things not improving? The reply of Bernanke and his colleagues is that the pumping wasn’t aggressive enough. If Bernanke’s way of thinking were to be implemented, it would run the risk of severely damaging the process of wealth generation and deepening economic impoverishment.
If money printing can create prosperity then why are all the poor nations still poor? These nations also have central banks and know well how to print money. A good recent example in this regard is Zimbabwe.

Even if we were to accept that the Fed ought to pump money to revive the economy, we would still have a problem if banks refused to channel the pumped money into the economy. It must be realized that after being badly hurt in 2008, banks are likely to be reluctant to embark on aggressive lending of the money pumped by the Fed. For the time being, banks still prefer to sit on the cash rather than lend it out aggressively. The latest data for the week ending December 12 indicates that the banks’ holding of excess cash increased by $25 billion from the end of November to $1.464 trillion.

We should be grateful to the banks for resisting aggressive lending so far - it has prevented an enormous economic disaster. Obviously if the Fed were to force the banks to push all the pumped money into the economy then this could inflict severe damage.

Summary and conclusion
On Wednesday December 12, Fed policy makers announced that they will boost their main stimulus tool by adding $45 billion of monthly Treasury purchases to an existing program of buying $40 billion of mortgage debt per month. This decision is likely to lift the size of the Fed’s balance sheet from the present $2.86 trillion to $4 trillion by the end of next year. The Fed Chairman Ben Bernanke, the initiator of this plan, is of the view that aggressive money pumping is going to strengthen US economic expansion. We hold that without the cooperation of banks, the massive pumping of the Fed is unlikely to enter the economy. If banks were to push the money the Fed is going to pump into the economy, this would inflict serious damage on the economy’s ability to generate real wealth.

Think You Are Smart Enough For Jeopardy?

You may be smart enough, but are you lucky enough? I have tried out a few times, more or less on whim, as I thought it would be fun. At the very least, I have something to tell the kids and grand kids about and I can say I tried. That said, you learn fast that out of the thousands that try out, only a handful are accepted. Even if you can answer every questions. Any way, it is a fun experience if you like that kind of thing.... which I do.

The application process starts here.

Santelli Rants on the Dow & America's Future


Mortgage Demand More Sensitive to Rate Changes

I am getting through a backlog of stories, articles, research, and data surrounding the Christmas holiday. Last week, Reuters reported that mortgage applications, as measured by the Mortgage Bankers Association, fell by a seasonally adjusted 12.3% for the week ended December 14. As Reuters writes....

The Mortgage Bankers Association said its seasonally adjusted index of mortgage application activity, which includes both refinancing and home purchase demand, fell 12.3 percent in the week ended December 14.
The MBA's seasonally adjusted index of refinancing applications fell 13.8 percent, while the gauge of loan requests for home purchases, a leading indicator of home sales, fell 4.8 percent, dropping from its high point on the year.
The refinance share of total mortgage activity fell to 83 percent of applications from 84 percent the week before.
Fixed 30-year mortgage rates averaged 3.50 percent in the week, up three basis points from 3.47 the week before, which was the lowest in the history of the survey.
The rise in rates came even with the Federal Reserve's announcement last week that it would purchase more Treasury securities each month.
If anything, the rising sensitivity of consumer to changes in rates is probably one of foremost threats to the nascent recovery in US housing. Just look at the chart of the average 30-year mortgage in the US.

FRED Graph

We are not talking much of an increase here. What would happen if rates instantly increased by 50 basis point? 100 basis points? 200 basis points? Could the Federal Reserve act to contain that sort of increase and if they attempted to at what cost? These sort of rate increases are not of the realm of possibility. In any event, something to watch.

Vortex System of Motion of the Solar System

Barry Ritholtz had this posted on his blog. It really makes me think about the synthesis of information, as I knew the sun was moving through the galaxy but never really combined that with the rotational motions of the planets. It also calls up Fibonacci sequences and the nuances of dynamics in the solar (and other) system(s). Besides, it looks awesome.

Coal Stocks May be Set to Improve

This was reported by Barrons late last week...

Blame the regulatory woes of a dirty industry, the oversupply of coal, the rise of natural gas, or global growth worries. Whatever the choice, there’s plenty of negativity to go around. And that’s what makes it worth a second look. Ned Davis Research’s Neil Leeson, for his part, calls coal his “sleeper” pick for a strong 2013 in a subscribers-only podcast this morning.

The thesis is premised less on sour investor opinion than on hopes for emerging markets. If emerging-markets demand picks up, so will demand for coal, Leeson notes. China in particular has strategists convinced of stronger growth next year. If it all comes together, coal is a banged-up sector that will benefit.

Additionally, reports are showing very strong imports of coal into China, and are expected to increase by about 7% to 10% next year. Coal is increasingly becoming an export story. High natural gas prices world-wide, the reduction of production capacity, and the eventual export of U.S. gas will likely support coal prices over the intermediate term.

As the Fed Prints, Rents are Rising

WSJ reports:
Across the U.S., "effective" monthly rent—which means the final amount paid including discounts—averaged $1,044 in October, up 3.7% from a year ago, according to Reis Inc., REIS a real-estate data firm. Landlords no longer have to "pony up in order to entice tenants," said Victor Calanog, Reis's chief economist[...]

In the third quarter, the ratio of rent to after-tax mortgage payments was 107.8%, according to Deutsche Bank. A rent-to-mortgage ratio above 100 means mortgage payments are cheaper than rent for the median homeowner. The ratio was down from an all-time high of 120.7% in the first quarter, but well above an average of 85% since 1991.

The rising cost of renting is putting pressure on tenants at a time when many are still grappling with slow or falling income growth. In the third quarter, renters spent 24.12% of their disposable income on financial obligations—things such as rent, debts and auto leases. That was the highest level since early 2010, according to the Federal Reserve.
Granted- rents shows signs of improvement well before QE 3, Operation Twist, and any QE Infinity. That said, it should be remembered that owners' equivalent rent is the largest component within the measurement of inflation.

Corporate Profit Margins at All-Time Highs

Corporate Profits at all time highs. Can this be sustained? Some, like John Hussman, would argue no while others, like Seigal, would argue yes. Does this even matter?

The answer is yes, as high corporate profit margins are leading to continued earnings growth and higher stock prices. My guess is that profit margins will fall at some point, as one of the main tenants of competitive markets and economic theory is that out-sized profit margins are not sustainable indefinitely. As to when they fall, I do not know. It is what I call the market uncertainty principle. You can know what or when, but never both. The video is here after the jump.

Update on Technical Price Outlook for Gold

I have read many articles over the last few days discussing increased demand for gold from either central banks or some other end consumer, with the author concluding that higher prices will result at some point in the future. That may be the case, but looking at the price chart of gold suggests an entirely different outcome. The technical setup here suggests gold trades down to about $1590 per ounce.

Visit to see more great charts.

The rally over the last few days has been on weak volume, and compares to much higher volume levels in the recent downdrafts. This is while the internal technical measures remain weak. I think this suggests that gold is under distribution. However, I would not be surprised if traders push the price of gold up to around $1,670 area to work out of positions before resuming its fall. In any event, don't bite yet.

Be More Happy- Game Your Anchor

This is from Barking Up the Wrong Tree blog who cites Kahneman.

Via The Paradox of Choice: Why More Is Less:
Nobel Prize-winning psychologist Daniel Kahneman and his colleagues have shown that what we remember about the pleasurable quality of our past experiences is almost entirely determined by two things: how the experiences felt when they were at their peak (best or worst), and how they felt when they ended. This “peak-end” rule of Kahneman’s is what we use to summarize the experience, and then we rely on that summary later to remind ourselves of how the experience felt. The summaries in turn influence our decisions about whether to have that experience again, and factors such as the proportion of pleasure to displeasure during the course of the experience or how long the experience lasted, have almost no influence on our memory of it.

So how can you game the system with this information and use it to be happier?
Structure events so that the peak is great and the ending is great.

Tuesday, December 25, 2012

Retail Sales Sluggish

As reported by POLITICO. U.S. holiday retail sales this year grew at the weakest pace since 2008, when the nation was in a deep recession. In 2012, the shopping season was disrupted by bad weather and consumers’ rising uncertainty about the economy.

A report that tracks spending on popular holiday goods, the MasterCard Advisors SpendingPulse, said Tuesday that sales in the two months before Christmas increased 0.7 percent, compared with last year. Many analysts had expected holiday sales to grow 3 to 4 percent.

This is major disappointment, considering expectations. Will have to see markets reaction.

Monday, December 24, 2012

India to Overtake China

Interesting article by Gary Shilling originally on Bloomberg. Original link here.

Most of us still look at China, the world’s second-largest economy, as the undisputed leader among major developing countries. In the long run, however, I’m betting on India to emerge as the more significant global economy.

Those who are dazzled by China often forget that much of the rapid growth before 2008 was caused by the shift of global manufacturing from Europe and the U.S., not by domestic-oriented activity. China’s economy remains export-driven, with consumers accounting for only 38 percent of gross domestic product, far below the levels of many developing and developed countries.

Chinese leaders are working to shift toward a more domestically directed economy. They want households to spend more and save much less than the current rate of almost 30 percent. One of the reasons that savings play such a big role is the high value Confucian society puts on providing for one’s family. The Chinese also save to pay for education for their children and to cover health care and retirement costs because there is no equivalent of Medicare and Social Security.

In 2010, the Chinese government promised basic health care for all by 2020. That’s eight years from now, and basic care remains pretty basic. In some rural hospitals, a practical nurse is the most highly trained medical practitioner.

Higher Wages

China has also increased minimum wages 20 percent to 30 percent in the last year to enhance consumer incomes and purchasing power. Yet higher pay, notably for factory workers producing goods for foreign companies, is driving low-skilled manufacturing jobs to cheaper venues such as Vietnam, Bangladesh and Pakistan.

Furthermore, Western companies are increasingly resisting the requirement that they transfer technical expertise to Chinese partners as the price of setting up production facilities in China. There is a widespread belief that much of the success of Chinese manufacturers is due to such voluntary technology transfers or outright theft of intellectual property.

China recently reduced its target for real GDP annual growth to 7.5 percent from 8 percent. That target is probably too high as China’s one-child policy leads to a population decline, especially among new labor-force entrants. The number of 15- to 24-year-olds is already dropping and this group is projected to account for 150 million people in 2030, compared with 250 million in 1990. As a result, China’s labor force between the ages of 15 and 65 is expected to peak in 2014.

China’s ample labor has increased GDP growth by an estimated 1.8 percentage points annually since the 1970s, but the contraction will cut into growth by 0.7 percentage point by 2030. At the same time, better conditions in rural areas have reduced the availability of cheap labor in coastal cities.

By contrast, India has had no effective constraints on population growth. China still has the advantage -- with 1.34 billion people last year, compared with India’s 1.24 billion -- though not for too much
longer. Furthermore, the age distribution of India’s population is better because of China’s one-child policy, which is now being reconsidered in view of its negative consequences for the country’s long-term labor force and economic growth. This means that the dependency ratio, the proportion of children and senior citizens to working-age people, is expected to continue falling in India in coming decades and to increase in China.

Younger Population

Younger people, of course, tend to be more geographically mobile, flexible in terms of occupation and creative. But these advantages only translate into greater productivity and economic growth if these workers have the right education and training as well as job opportunities.

Several centuries of British colonial rule left India with a vigorous democracy and a parliamentary form of government. As in the U.S., these kinds of institutions are very well adapted to running a large, religiously diverse country where the central government is constrained by increasingly powerful states and weak coalition governments. China, however, remains centrally controlled, with the Communist Mao Dynasty, as I’ve dubbed it, simply replacing the dynasties of old.

The British also left India with a railway system that enabled the relatively easy movement of people and goods in that vast country. By contrast, China doesn’t grant resident status to farmers who move to urban areas in search of work.

And, of course, the British gave India the English language -- very useful in today’s world and a unifying force in a country with hundreds of languages and dialects. India also inherited a legal system that is very different from the Communist Party-dominated courts in China, which feature show trials and foregone convictions, as demonstrated by the recent trial and conviction of Gu Kailai, the wife of the disgraced party leader Bo Xilai.

India is also home to a number of large, sophisticated companies, such as Tata Group, that can compete globally. China, meanwhile, is burdened with government-controlled banks and other hugely inefficient state-owned enterprises that still produce a significant share of GDP and employ a quarter of the workforce.
Indians have a natural bent toward technology, as was pointed out to me by the U.S. ambassador to India when I visited him in his New Delhi office in 1986. The ability of India’s many engineers and scientists to communicate in English is also a big help. Furthermore, the booming information-technology sector relies more on new technologies such as satellite transmission than it does on India’s utilities and inadequate basic infrastructure.

English Speakers

U.S. and European companies outsource many back-office and even legal and medical services to India. Outsourcing now yields about $69 billion in annual revenue, accounting for a quarter of Indian exports. The lower wages in India and English-language skills of call-center employees offer big advantages to this industry.

Another asset for India, as well as China, is a rapidly growing middle class. PricewaterhouseCoopers LLP estimates that 470 million Indians, or 38 percent of the population, had annual incomes of between $1,000 and $4,000 in 2010, enough to permit some discretionary spending. The number of consumers with such ready cash is expected to jump to 570 million in a decade, with about $1 trillion in income.

The household-savings rate is high, almost 30 percent. Even so, 82 percent of Indian households had phones, usually mobile, last year. Of the 247 million Indian households, 77 percent owned televisions, and 42 percent had bicycles, motor scooters or motorcycles, though only 10 percent possessed a motor vehicle, according to the 2011 census of India. Furthermore, much of Indian household saving is invested in gold and the dowries of yet-to-be married daughters.

Another strong point is that the Reserve Bank of India is relatively independent of government influence, while the People’s Bank of China is completely controlled by the state. During the recent regime change in China, the PBOC governor, Zhou Xiaochuan, was dropped from the list of 205 members of the Communist Party’s Central Committee and is apparently being forced into retirement. Politicians, not central bankers, call the monetary shots in China.

India has a vigorous and opinionated free press, compared with China’s state-controlled propaganda machine. Internet use in India is expanding, although it is still tiny compared with the U.S. and even its BRIC cohorts: Brazil, Russia and China.

(A. Gary Shilling is president of A. Gary Shilling & Co. and author of “The Age of Deleveraging: Investment Strategies for a Decade of Slow Growth and Deflation.” The opinions expressed are his own. This is the first in a five-part series. Read Part 2 and Part 3.)

To contact the writer of this article: A. Gary Shilling at

Sunday, December 23, 2012

High Volume Highs 12/21/12

All I have to say is wow, although new volume off the highs expanded in Friday's trading, so did new high volume highs. This makes think that there is some real underlying strength in the market. Although some indicators are flashing warning signals, this and other fundamental data make me think this market may have some legs.

Volume Off the High for 12/21/12

Seeing an expansion of the number of stocks and funds falling from recent highs on volume. I noticed a few insurance names hitting the screens and making the list.