The risk faced by those who
are analyzing macro trends is sounding like a broken record. For those
younger readers who have no idea what that means, imagine an MP3 song that
will stick on and endlessly repeat a random segment of the song you are
listening to until you give your device a sharp knock on the side. That's
what a broken record sounded like.
The world economy is on the ropes and it
won't ever recover. At least not to anything resembling its recent past.
Neither the gleeful housing bubble nor the free-flowing credit that enabled
that side bubble to emerge will return. The resources simply do not exist to
repeat that final orgy of consumption. A new reality is upon us and - while
fortunately more and more people are choosing to face our predicament rather
than pretend the current risks and challenges do not really exist - the
absolute numbers are still small and for the most part don't inlcude any of
our political leaders.
The macro trends of
worsening public and private debt loads, a looming and unaddressed Peak Oil
threat, exponentially increasing global population, resource depletion, and
an all-too-human tendency to use the money printing machine to deal with
tough economic problems all remain pointed firmly towards an uncomfortable
conclusion: There's a future of less in store for most people.
Our best hope
is for a negotiated decline to lower levels of economic activity that allow
us to gracefully adjust our expectations to a new and lower level consumption
that offers an even more enjoyable and purpose filled existence. Our worst fear
is that a stubborn insistence on business as usual by our leadership leads to
a future shaped by disaster rather than design.
The Fundamental Issue is
this: you can't solve a problem rooted in too much debt with more debt. It
just doesn't pencil out.
"Here we go
again…solving a debt problem with more debt has not solved the
underlying problem. ...Can the US continue to depreciate the world's base
currency?"~ Goldman strategist Alan Brazil (Source)
Yet we now see that both
Europe and the US are busily conceding to banker demands and coming up with
all manner of fancy schemes to hide the fact that what is happening is simply
that old debt is being replaced with new debt.
Consider the confusing news
about the European EFSF, the so-called rescue facility for the Eurozone,
which is currently conceived to use leverage (to solve a debt problem!) and
is thought to look something like this:
(Source)
We could analyze the details
of that flowchart and opine on the structure, but that really won't aid
anything. Additional complexity and Jell-o redistribution will not change the
basic fact that the debts simply cannot be paid back under current terms or out
of any imaginable future economic growth.
As far as I can tell the
complexity serves one main purpose and that is to baffle enough of the
populace for long enough to allow a significant transfer of public wealth to
occur in broad daylight into private pockets. In this regard Europe and the
US seem to be identical.
A Bad Reaction
On September 21, 2011 the
Fed disappointed the world equity and commodity markets by announcing
Operation Twist, nothing more than monetary Jell-o being moved from one side
of the plate to another, instead of more QE stimulus (which would be additional Jell-o
in this metaphor).
The reaction was swift and
negative.
Beginning with stocks, we
see that a couple of severe down days (the red bars in the green circle)
ensued following the operation twist announcement.
We also note that the
S&P 500 is down year to date (YTD, blue dotted line) and that it is
bouncing between the 1120 and 1220 marks (purple lines) with a lot of
volatility but not much direction. The simplest explanation for this is that
tensions exists between what the fundamental data is telling us about the
state of the global economy (not good, more below) and the hope that more
central bank money will soon be flooding the world.
As always, this is not a
good sign and any time you read the word "investors" being used in
an article about who is driving these price movements I invite you to replace
that word with "speculators" as that's what we all are now; speculating
wildly about when and how much thin-air money will next be injected by one
central bank or another.
Gold had particularly tough
going after the Twist announcement getting clobbered for ~$100 on a couple of
days (green circle) following the twist announcement:
These price drops had
nothing to do with an improved outlook on the viability of the world's fiat
money systems or a reduction in overall systemic risk. Neither were
appreciably altered by the Fed decision although systemic risk was probably
elevated. Without the Fed absorbing additional existing debt the entire
system is at greater risk of slipping into a deflationary spiral that could
get out of control.
If that happens, you want to
be sure to have gold, in hand.
Silver was especially
slammed, and was the undisputed loser of the entire commodity complex losing
as much as 25% in a single session (before recovering):
I have always held that the
risk for silver in this current rout would be that it behaves more like an
industrial metal than a monetary asset and therefore could slip in price
regardless of systemic stress. For a while there throughout July and August I
began to think that silver was displaying some money-like qualities but the
recent slam dispelled those thoughts.
I continue to think that
this rout is not yet over and am waiting better prices for silver before I
remove some of my dry powder and accumulate some more.
The 'off note' in this story
is the price of oil:
Until and unless oil, the
main lubricant of commerce and a feed-in to the price of everything, slips
and plummets a long way from here, I remain bullish on commodities in
general. The macro story for oil is simply that a marginal new barrel of oil
costs at least $70 in today's world and quite a bit more in some cases.
If oil falls below that
$70-$80 level then you can forget about new supply coming on line. In many
respects we are living in an 'oil shadow' created by the plunge in oil to $38
in 2009 which delayed a large number of oil development projects that would
otherwise be yielding supply today.
Should oil fall below the
marginal cost again here in 2011 or 2012 then we'll have another oil shadow
to contend with a few years down the line.
Of course I should point out
here that the above chart is for US oil only (WTIC) and that theworld price
for oil is roughly $20 higher as indicated by the price of Brent crude at
$104/bbl.
Slip Sliding Away
Presently, the global
economy is not doing all that well. There are troubling signs from Japan, the
US Europe and now China that the economy is stalling out and in serious
danger of slipping back into recession. If that happens, all of the debt
rescue plans will both have additional headwinds with which to contend and
new debt implosions to rescue.
Any analysis of the global
economy has to begin with Dr. Copper, the most trusted source for an accurate
economic diagnosis. Used in an enormous variety of commercial applications
from houses to cars to electronics to electricity cables, copper prices
usually provide a useful early read on the direction of the economy.
That tale is one of
weakness:
Copper prices are now back
to where they were in 2008, although still considerably up off the lows of
late 2008 and early 2009, and are in negative territory YTD by more than 20%.
Consistent with the weakness
in copper prices are recent reports of Chinese manufacturing activity
slipping into contraction:
China manufacturing
data paint weak picture (Sept 22, 2011)
HONG KONG (MarketWatch)
— HSBC’s preliminary China Manufacturing Purchasing
Managers’ Index, or “flash” PMI, fell to a two-month low
in September, indicating a broadening slowdown in the Chinese economy,
with industrial output swinging from a modest expansion to a deterioration.
The weak data were a factor
in the broad equities sell-off in Hong Kong Thursday.
The headline preliminary PMI
for the month was 49.4, down from 49.9 in August, HSBC said in a statement
Thursday.
The PMI’s output index fell
to 49.2 in September, down from 50.2 in August andbelow the 50
level dividing expansion from contraction.
China is addicted to rapid
rates of growth and its banking system is heavily exposed to a wildly
over-priced real estate market, especially in their major urban centers. If
the Chinese property bubble busts then expect major banking stress to follow
suit.
Perhaps one nearby indicator
is the health of the Hong Kong real estate market which is now entering a
dangerous phase:
Hong Kong’s
Tsang Sees Property ‘Soft Landing,’ Backs Peg ( September 27, 2011)
(Bloomberg) -- Hong Kong
Financial Secretary John Tsang predicted a “soft landing” for
the real estate market and said the city will keep its currency peg to the
U.S. dollar, blamed for helping drive home prices up about 70 percent.
“The residential
market has basically frozen as a result of the curbs and the global
downturn,” said Alva To, head of consulting for North Asia at DTZ, a
property broker. “Our surveyors are seeing almost a 60 percent drop in
the number of valuation queries from banks compared with normal times.”
Hong Kong’s used home sales have slowed, with
prices falling for the first time in seven months in July. That’s not a
“very violent reaction,” Tsang said. Prices have jumped
about 70 percent since the start of 2009. New loans approved fell
10.3 percent in August from a month ago.
A 70% jump in prices in two
years is not a healthy sign; it is an indication of a bubble. The basic
trajectory is simple enough; falling sales then lead to falling prices. Once
the dynamic is underway it will not stop until prices again reach
affordability for the median household (at best) and may even badly overshoot
to the downside (at worst).
More directly, Chinese real
estate developers are encountering a slump in both sales and prices:
China Developers
Face More ‘Severe’ Credit Outlook, S&P Says
Sept. 27 (Bloomberg) --
Chinese developers face an “increasingly severe” credit
outlook, which may force them to cut prices and turn to costlier funding
sources as sales weaken, Standard & Poor’s said.
A 30 percent decline in
sales may
leave many developers facing a liquidity squeeze, S&P said after
conducting stress tests of the nation’s real estate companies. Most
developers would be able to “absorb” a 10 percent sales drop next
year, the credit rating company said.
“The worst isn’t
over for China’s real estate developers,” S&P analysts led by
Frank Lu wrote in a report today. “Developers are bracing themselves
for slower sales and lower property prices ahead.”
Fewer than half of the 70 cities
monitored by the government in August posted month-on-month gains in
home prices for the first time, according to Samsung Securities
Co.
What will happen to Chinese
lending to the US and Europe if global trade slumps and their banking system
begins to experience severe stress as a consequence of their own real estate
bubble popping? Probably nothing good. That's why we have concerns that the
enormous bubble in US Treasuries may be exposed as early as next year (2012).
Consistent with the
rumblings from Dr. Copper are the reported slumps in global trade recently
hitting the wires:
German Exports
Unexpectedly Fell in July (Sep 8, 2011)
German exports unexpectedly
declined for a second month in July, underscoring signs Europe’s
largest economy is losing momentum as the global recovery falters.
Exports, adjusted for work
days and seasonal changes, fell 1.8 percent from June,when
they dropped 1.2 percent, the Federal Statistics Office in Wiesbaden said
today.
German growth is slowing as Europe’s debt
crisis prompts governments from Spain to Ireland to cut spending, sapping
export demand. Factory orders from abroaddropped in July and
executives and investors grew more pessimistic last month. Bayerische Motoren
Werke AG (BMW), the world’s biggest maker of luxury cars, said on Sept.
1 that U.S. sales dropped in August.
Japan exports
disappoint, could weaken further (Sept 20, 2011)
TOKYO, Sep. 20, 2011 (Reuters)
— Japan's exports rose in the year to August atless than half the
pace expected as a global economic slowdown, a strong currency and
Europe's sovereign debt crisis put Japan's own recovery increasingly in
doubt.
"The impact of a
slowing in the global economy is starting to become visible in
Japan's export figures," said Takeshi Minami, chief economist at
Norinchukin Research Institute.
"In the coming months
exports may go back to posting year-on-year declines, meaning the
economy will have no sufficient support factor unless the government quickly
implements reconstruction spending."
[US] Economic
indicators predict continued weak growth (Sept 22, 2011)
[F]actory orders,
unemployment benefit applications and hours worked were among six measures
that weakened in August.
Existing home sales
up but price outlook grim (Sept 21, 2011)
WASHINGTON (Reuters) - Existing
home sales rose in August to their highest in five months as lower
prices and rock-bottom interest rates drew more buyers into a still moribund
market.
Sales climbed more than
expected, up 7.7 percent from
the previous month to an annual rate of 5.03 million units, the National
Association of Realtors said on Wednesday. The median price was
5.1 percent lower than a year earlier.
Existing home sales have
trended lower in 2011 and prices are still weakening. One factor keeping prices
low is the high rate of "distressed sales" which include those
forced by foreclosures.
Distressed sales accounted
for 31 percent of August transactions, up from 29 percent a month earlier.
Comment: Note that falling
prices are not a good sign here. Also the 7.7% bump in sales, assuming we
believe the NAR data (always worth taking it with a grain of salt), still
leaves us well off the peak of several years back and is being driven in
large measure by distressed sales.
Let's contrast the
distressed bargain activity with new home sales, also for August, to see if a
different picture emerges:
New home sales fell
in August for 4th month (Sept 26, 2011)
Sales of new U.S. homes fell
to a six-month low in August.
The fourth straight monthly
decline during the peak buying season suggests the housing market is
years away from a recovery.
The Commerce Department said Monday that new-home sales fell 2.3 percent to a
seasonally adjusted annual rate of 295,000. That's less than half the
roughly 700,000 that economists say must be sold to sustain a healthy housing
market.
New-homes sales are on pace for the worst year since the
government began keeping records a half century ago.
New home sales are on a pace
for the worst year since records began fifty years ago? That statistic alone
should tell you exactly where we are in this so-called recovery. Absolutely
nowhere. The decline in new home sales wipes out the warm glow from the increase
in existing home sales.
Summary: Part I
The world that Europe, the
US and Japan are desperately trying to sustain is no longer possible in a
world of too much debt and too expensive energy. The plethora of sliding data
noted above are classic warning signs one would expect to see from a global
economy in systemic decline.
We are now down to the wire.
Over the next few months and years, our story of credit growth - four decades
in the making - will continue to unwind. Those who place their faith in the
authorities to first understand the true nature of the predicament and second
to implement restorative policies are at tremendous risk of personal and/or
financial losses.
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