Living in a Macro World

Thursday, August 2nd, 2012

by Cullen Roche, Pragmatic Capitalism

We are increasingly living in a macro world.  What I mean by that is that the world is becoming a smaller and smaller place due to technological change and the increasingly interconnectedness of globalization.  The result is that the macro occurrences in other parts of the world influence the domestic economy like never before.  And the investment world is being forced to adapt to this massive shift in the landscape.  So what we’re seeing is less micro and more macro.  We’re seeing the myth of stock picking lose momentum and we’re seeing investors veer increasingly towards investment products that are more broadly diversified in an attempt to reduce systematic risk and eliminate unsystematic risk.  This is in large part why the ETF world is surging in growth and mutual funds and stock picking are becoming a thing of the past.  I think this trend is likely to gather more and more momentum over the years and that the myth of Warren Buffett (the value buy and hold stock approach) will die out.

I think this chart from Goldman Sachs via Bondsquawk is quite telling with regards to macro trends going forward.  It’s recent in nature, but will only become more pronounced in future decades:

“According to Goldman Sachs US Economics Analyst, equity markets have become increasingly responsive to macroeconomic news releases ever since the financial crisis took place in 2008. The bond markets on the other hand have always had a close eyes on the US macroeconomic news.”

It’s a macro world and you’re living in it.  The funny thing is, I had a reader ask me today whether I could recommend a macro investment book…I looked at my bookshelf and rattled my small brain around in my head and came up with nothing.   Someone better get on that….There’s gold in them thar hills.

Copyright © Pragmatic Capitalist

Tags: Bond Markets, Capitalist, Domestic Economy, ETF, Funny Thing, Gold In Them Thar Hills, Goldman Sachs, Interconnectedness, Investment Book, Investment Products, Investment World, Macro Trends, Macro World, Macroeconomic News, Massive Shift, Occurrences, Systematic Risk, Technological Change, Us Economics, Warren Buffett, World Influence
Posted in Markets | Comments Off

Housing: Good Vibrations (Sonders)

Thursday, August 2nd, 2012

July 30, 2012

by Liz Ann Sonders, Senior Vice President, Chief Investment Strategist, Charles Schwab & Co., Inc.

Key Points

• Household formations are moving higher but housing completions aren’t keeping pace.
• Real mortgage rates plunge into negative territory.
• Key housing market index indicates continued sales (and pricing) recovery.

I’ve penned quite a few reports dedicated to housing over the past six years or so, the most recent being my “Rock Bottom” report in January of this year. I’ve also incorporated many of the charts I track into recent Market Snapshots videos. It’s time for an update.

First, I wear no blinders hiding the truth that the recovery in housing is not yet “healthy” relative to history. The housing market will continue to be hampered by anemic job growth, “underwater” homeowners and the foreclosure pipeline. But the forces of demographics and supply/demand imbalances have begun to register their weight and the data has done a great job of reinforcing our message from earlier this year.
Laws of supply and demand
Current conditions in the economics of housing reflect a considerable imbalance between supply and demand. Many chapters have been written about the supply part of the imbalance (i.e., overbuilding), but less ink has been spilled on the role of weak demand specific to declining household formations in since 2007. The National Association of Home Builders’ (NAHB) HousingEconomics.com division concludes that two-thirds of excess vacant housing units in the existing housing stock can be attributed to a steep decline in demand during the recession.

Household formations (e.g., adult children leaving parents’ households, singles leaving shared housing arrangements, etc.) are the largest component of demand for additions to the housing stock. These new households are accommodated by additions to the housing stock when vacancy rates are low, and are absorbed into the existing stock when vacancy rates are high. There’s a strong trend component to growth in the number of households, but formations are influenced by economic conditions—rising during good times and declining during bad times.

In the history of the data, the biggest declines in household formations occurred around recessions and bear markets. The 2010 drop in formations set a modern-day record, as seen in the chart below.
Boomerang Kids Moving Out of Parents’ Homes

Source: ISI Group, US Census Bureau, as of 2011. Household formations are calculated as the difference in households this year versus the past year.

A large gap is now developing as household formations surge from their recent base, while home completions lag behind. HousingEconomics.com suggests that a considerable portion of the excess housing supply (NY Fed president William Dudley recently estimated three million units) is due to a steep decline in demand related to economic conditions, rather than overbuilding. This has important implications: if excess housing supply was “pure” supply (i.e., assuming no pent-up demand), then recovery would take as long as it would take for demographic forces to catch up with supply. But, given that the excess supply embodies pent-up demand, then the recovery in housing will probably unfold more quickly than many believe.

Whether measured in terms of months’ supply or as a percentage of the working population, inventories of homes for sale have fallen dramatically since their peak. Inventories of single-family homes are down 24% from a year ago—the largest annual drop in at least 30 years, leaving inventories at roughly the historic levels that preceded the housing bubble. The number of homes for sale normalized for potential buyers (working age population) is now at a record low. This helps to explain the recent weaker home sales reports, which brought a few housing bears back out of hibernation. Existing home sales fell more than 5% in June to the lowest level in eight months. But, the prior month was revised up nicely and sales remain up more than 4% from a year ago. Looking deeper, the National Association of Realtors noted the decline in June was due to “tight supplies of affordable homes, limiting first-time buyers.” Another good sign is that despite weaker sales, median existing home prices shot up, reaching their highest level since September 2008. Real median home prices are up over 5% on a year-over-year trend basis, which is the most since March 2006, before the bubble burst.

Mortgage rates … get real!

Home prices are important for the obvious reasons, but also as an input into what I think is one of the most important housing metrics—the real mortgage rate. We’ve seen plenty of good news on the nominal mortgage rate front. The nominal 30-year fixed mortgage rate is now a record low 3.5%, but the “real” mortgage rate is even lower—in fact, it recently went negative.

Many long-time readers know that I pay more attention to the real mortgage rate (RMR) than the nominal mortgage rate. Just like real gross domestic product (GDP) is the difference between nominal GDP and inflation, the RMR is the difference between the nominal mortgage rate and the rate of appreciation (or depreciation) in median home prices. Why should we look at it this way? It’s not only the rate at which we’re borrowing that matters, but what’s happening to the price of the asset we’re borrowing to buy. See the chart below, which tracks the RMR back to the early 1970s.

Real Mortgage Rates Plunging

Source: FactSet, Federal Reserve, National Association of Realtors, National Bureau of Economic Research (NBER), as of June, 2012.

At the peak in the bubble, RMRs were -11% (6% nominal mortgage rate minus 17% appreciation rate). Fast-forward to the trough of the housing bust and RMRs had surged to 22% (5% nominal mortgage rate minus a 17% depreciation rate). No wonder the bubble burst: who would want to borrow at any rate to buy a rapidly depreciating asset? But today, RMRs are back in negative territory. It makes sense again to borrow to buy a house since home prices are now appreciating at a rate higher than the mortgage rate.

Surging housing market index

The NAHB/Wells Fargo Housing Market Index (HMI) is one of the most watched housing metrics and is based on a monthly survey of the National Association of Home Builders’ members. It gauges builder confidence about the single-family housing market and is a weighted average of market conditions for current new home sales, sales expectations for the next six months, and traffic from prospective buyers. As you can see in the chart below, there has historically been a tight relationship between the HMI and total home sales; and the latest jump is “forecasting” more sales to come.

Housing Market Index Suggests Higher Sales

Source: FactSet, National Association of Home Builders (NAHB), National Association of Realtors, US Census Bureau. NAHB Housing Index as of July, 2012. Total Home Sales (existing and new) as of June, 2012.

As an aside, I recently discovered (thanks to Wolfe Trahan) the relationship charted below, which compares the HMI (advanced 21 months) to the fed funds rate (which has effectively been zero since late 2008). Historically the two have been highly correlated. This should not serve as any kind of “warning” that the Fed will be raising rates sooner than it’s telegraphed (late 2014)—the Fed is making decisions on more than just trends in housing—but it will be something I am tracking.

Will Housing’s Recovery Alter Fed Policy?

Source: FactSet, Wolfe Trahan & Co., as of July 30, 2012.
Echo boomers to the rescue
I recently read the “State of the Nation’s Housing” report by the Joint Center for Housing Studies of Harvard University. In it was a discussion of demographics and I’ll conclude with some of their most interesting observations. “Assuming the economic recovery is sustained in the next few years, the growth and aging of the current population alone—including the entrance of the echo boomers into adulthood—should support the addition of about one million new households per year over the next decade.” The report also suggested adding at least another 180,000 to that estimate from immigration. Due to these demographic trends, it’s a decent bet that demand will continue to revive, even if job growth remains weak.

One of the concluding comments from the report was its most compelling: “The good news for housing production is that this new generation already outnumbers that of the baby boomers at the same ages. With even a modest lift from immigration, the echo boom generation will grow even larger as its members move into the prime household formation years.”
Important Disclosures

The information provided here is for general informational purposes only and should not be considered an individualized recommendation or personalized investment advice. The investment strategies mentioned here may not be suitable for everyone. Each investor needs to review an investment strategy for his or her own particular situation before making any investment decision.

All expressions of opinion are subject to change without notice in reaction to shifting market conditions. Data contained herein from third party providers is obtained from what are considered reliable sources. However, its accuracy, completeness or reliability cannot be guaranteed.

Examples provided are for illustrative purposes only and not intended to be reflective of results you can expect to achieve.

Copyright © Charles Schwab & Co., Inc.

Tags: Adult Children, Blinders, Charles Schwab, Chief Investment Strategist, Completions, Good Vibrations, Housing Market, Keeping Pace, Laws Of Supply And Demand, Liz Ann, Market Index, Market Snapshots, Mortgage Rates, Nahb, National Association Of Home Builders, Negative Territory, Rock Bottom, Senior Vice President, Steep Decline, Vacancy Rates
Posted in Markets | Comments Off

HFT Algo Goes Totally Berserk And Serves Knight Capital With The Bill

Thursday, August 2nd, 2012

We all know something went horribly wrong in various NYSE-traded stocks today between 9:30 am and 10:15 am. So wrong in fact that the NYSE had to step in and cancel numerous trades in 6 symbols. However it did not DK millions of other trades in 134 other symbols, the vast majority of which we assume traded errantly due to the market making of Knight Capital (as admitted by the company), which today saw its biggest drop ever since going public on volume about 60 times greater than its average. We also all know that one should buy low and sell high. At least that is what human traders are taught, and that is what they attempt. Because if one consistently does the opposite, one will simply run out of money. Well, the opposite is precisely what the berserk algo in Knight’s Market Making group may have done if Nanex, which has done a forensic analysis of one of the trades in question, is correct. In other words, instead of at least attempting to provide liquidity via limit trades, Knight’s algorithm acted as a market order… gone horribly wrong. As the third chart below shows what the algo did with furious repetition and steadfast consistency was to buy at the offer, and sell at the bid, in other words buy high and sell low. Over and over and over and over. As Nanex laconically notes, “In the case of EXC, that means losing about 15 cents on every pair of trades. Do that 40 times a second, 2400 times a minute, and you now have a system that’s very efficient at burning money.” Which also means that by not DK’ing several hundred million prints, the NYSE may have just thrown Knight under the bus, because the market maker is suddenly on the hook for tens if not hundreds of millions in inverse market making profits.

Here we will assume that readers are sufficiently familiar with market structure to know that market makers only participate in the market in order to collect liquidity rebates, i.e., to be the limit on the bid which is hit, or the offer which is lifted. What Knight did was effectively the opposite, and it also collected the opposite of a rebate: i.e., it paid someone else for no reason at all… well technically to withdraw liquidity. However liquidity that led to creation of losses not profits.

Naturally, when the entire logic of trading was perverted courtesy of Knight’s busted algo, everything went Bizarro Day, and stocks went higher, because they went higher, and the higher they went, the greater the incentive for the algo to keep pushing the stock higher. This explains not only the volume surge, but also the shocking price moves in some stocks such as China Cord Blood which exploded several hundred percent higher before someone had to finally step in. And what is most notable is that because there were neither fat finger trades, nor busted algos that took out the entire bid or offer stack in one trade, thus triggering circuit breakers, but a slow methodical bleed, there was no reason under the current SEC order cancellation methodology to bail out Knight and its berserk algorithm.

Simply said: today may be the single worst day in Knight’s market making history. And sadly, as the NYSE already noted minutes before the market close, the decision to not cancel any more trades is “not subject to appeal.”

From Nanex:

What really happened, or how to lose a ton of money, fast.

What follows should strike you as crazy. If it doesn’t, read it again, because it is.

The following 3 charts plot non-ISO trades (regular trade condition) reported from NYSE in the stock of Exelon Corporation (symbol EXC). By plotting and connecting only regular trades from NYSE we get a clearer picture of the nature (some might say horror) of this event.

1. EXC One second interval chart. Circles are trades, the blue coloring is the NYSE bid and ask which is mostly covered by gray lines that connect the trades.

2. Zoom of above chart showing about 27 seconds of data. Now the gray lines connecting trades are more clearly visible. NYSE’s bid/ask is the blue shaded area (the bid price is the bottom of the shading, and the ask is the top).

3. Zooming in to a 1 millisecond interval chart, we can see one second of data which shows 39 trades.

Note how the trade executions ping pong from bid to ask. As if someone is buying at the offer, then 10 ms later selling at the bid, and so forth. It turns out, the gray shading you see in the first chart of EXC is from this alternating between buying and selling. That’s right, almost all these trades alternate between buying at the offer and selling at the bid, which means losing the difference in price. In the case of EXC, that means losing about 15 cents on every pair of trades. Do that 40 times a second, 2400 times a minute, and you now have a system that’s very efficient at burning money.

Tags: Algorithm, Chart Below Shows, Consistency, Exc, Forensic Analysis, Hook, Human Traders, Hundred Million, liquidity, Market Structure, Money, Nyse, Prints, Profits, Rebates, Repetition, S Market, Stocks, Tens, Trades
Posted in Markets | Comments Off

Déjà vu With a Difference in China’s Investment Drive

Thursday, August 2nd, 2012

by Anthony Chan, Asian Sovereign Strategist, AllianceBernstein

Infrastructure investment in China is an important indicator of demand and a key signal of Beijing’s ability to revive the economy. This week, a flurry of news suggested that the rebound in infrastructure investment is gathering momentum.

On Tuesday, the China Securities Journal reported that some commercial banks have asked local branches to provide loans to local government financing vehicles (LGFVs) at the provincial level and in the “top 100 counties”. These loans will focus on projects including highways, railways, gas, clean energy and welfare.

Local governments are competing to pitch mega investment programs. From Nanjing and Ningbo in the east to Guizhou in the south, cities and provinces have unveiled plans for major investment drives. Changsha, a city of 7 million, has launched a massive 830 billion renminbi ($130 billion) investment program, worth 2.5 times the municipality’s annual gross domestic product (GDP). And the Ministry of Railway (MOR) has also announced a 12% rise in investment spending, to 580 billion renminbi for 2012.

In 2009, MOR-led investment was the core of China’s fiscal package, and helped to reflate global demand, particularly in commodities.

China-watchers might be feeling déjà vu. Isn’t this the same investment-led reflation policy that we saw in 2009, which led to a damaging buildup in local government debt?

Not quite. Beijing has been much more cautious this time around. In early 2009, the surge in investment growth was driven by unbridled credit expansion, helping China to power the global recovery while also fueling domestic debt. This time, investment spurred by credit growth is boosting the economy at a more moderate pace.

As shown in the chart below, China’s fixed-asset investment and new project starts indicators have already picked up noticeably in the last two months. All of the recently announced projects are part of the government’s five-year plan, but timetables are being pushed forward and project sizes are being increased while the People’s Bank of China is providing more liquidity. Taken together, these steps aim to protect growth amid rising global uncertainty. We expect China’s GDP growth to stabilize in the third quarter of 2012 at about 7.8% year on year, before rebounding to 8.5% in the fourth quarter as the cumulative effect of fiscal support and monetary policy easing works its way through the economy.

I’m not too concerned about the risks of the investment-led policy, as long as some lessons on funding have been internalized. It would be bad news if local branches of commercial banks provide funds to LGFVs; this would echo the format used in 2009-10, when non-policy banks funded 40% of LGFVs’ investment and increased local government debt levels. Since 2009, many officials and local economists have proposed funding the next round of local investment projects with more private-sector money, corporate and local government bonds or direct fiscal transfers from the central government. If done this way, I think it could create some welcome checks and balances to China’s investment and reflation policy this time around.

The views expressed herein do not constitute research, investment advice or trade recommendations and do not necessarily represent the views of all AllianceBernstein portfolio-management teams.

Anthony Chan is Asian Sovereign Strategist—Global Economic Research at AllianceBernstein.

Copyright © AllianceBernstein

Tags: Anthony Chan, Asset Investment, China Securities, Commercial Banks, Credit Expansion, Domestic Debt, Fiscal Package, Global Recovery, Infrastructure Investment, Investment Drive, Investment Growth, Investment Program, Investment Programs, Local Government Financing, Local Governments, Moderate Pace, Provincial Level, South Cities, Sovereign Strategist, Time Investment
Posted in Markets | Comments Off

What History Suggests About the Future of Stocks

Thursday, August 2nd, 2012

by Seth Masters, Chief Investment Officer, AllianceBernstein

Some experts today argue that the world has entered a “New Normal” condition in which stocks have permanently lost their return edge. We’ve heard this before. It was wrong then, and we think it’s wrong now, too.

In 1979, BusinessWeek published a cover story famously called “The Death of Equities.” Then, like now, stock market returns had lagged 10-year Treasury returns for a decade, although for somewhat different reasons.

Stock returns had been dragged down by the bursting of a bubble (the Nifty Fifty) and bleak economic conditions. OPEC had unleashed its second oil-price shock in five years. The so-called misery index—the sum of the unemployment and inflation rates—was 20% in the US, double its level today (because inflation is now very low). And corporate profits were very weak (today, they are very strong).

BusinessWeek was capturing widespread sentiment about the economic and market outlook. Nonetheless, stocks handily beat bonds over the 10 years starting in 1979.

As the ubiquitous legal disclosure says, past performance does not guarantee future returns. Indeed, performance often reverses sharply.

Between 1901 and the onset of the recent credit crisis, there have been 11 10-year rolling periods in which bonds beat stocks, all of them coinciding with the Great Depression or the stagflation of the 1970s. And after each and every one of them, stocks beat bonds for 10 years—on average, by 5.8%, as the Display below shows.

Because we are human, we all tend to expect the future to resemble the recent past—to become “anchored” in our recent experience. It takes guts to buck the trend. But at a September 1983 client conference, we cited good fundamental reasons in making “The Case for the 2,000 Dow.” The Dow Jones Industrial Average was then slightly below 1,300. It reached 2,000 in January 1987, about three-and-a-half years later.

Today, our median annual return projections for global and US stocks are about 8% over the next 10 years, far ahead of our projected 2% median return for 10-year Treasuries. At that rate, the Dow could hit 20,000 in five to 10 years. In the same time frame, the S&P 500, a more representative index, could hit 2,000. (It’s now around 1,300.)

Our projected stock returns may sound optimistic. They’re not. They are well below the long-term average for US and global equities, and are based on conservative assumptions about economic and market conditions.

Still, many pundits argue that stocks today are overpriced. My next blog post will assess stock valuations.

The views expressed herein do not constitute research, investment advice or trade recommendations and do not necessarily represent the views of all AllianceBernstein portfolio-management teams.

Seth J. Masters is Chief Investment Officer for Asset Allocation at AllianceBernstein and Chief Investment Officer of Bernstein Global Wealth Management, a unit of AllianceBernstein.

Tags: Businessweek, Chief Investment Officer, Corporate Profits, Credit Crisis, Different Reasons, Dow Jones, Dow Jones Industrial, Dow Jones Industrial Average, Fundamental Reasons, Future Returns, Great Depression, Inflation Rates, Legal Disclosure, Market Outlook, Misery Index, Oil Price Shock, stagflation, Stock Market Returns, Stock Returns, Stocks Bonds
Posted in Markets | Comments Off

The Vanishing Treasury Yield

Thursday, August 2nd, 2012

by Neuberger Berman Research

July 2012 – Investment Strategy Group

Despite hitting record lows earlier in the year, the yields on U.S. Treasury bonds continue to tumble. The 10-year rate ended last month at 1.62%, materially below the long-time monthly record low of 1.95% set in January 1941. Yields for 10-year Treasury Inflation-Protected Securities (TIPS) have been persistently negative since the fourth quarter of 2011 and continue to trend lower, implying that investors are paying increasingly higher prices for the relative safety these investments are supposed to provide. In this edition of Strategic Spotlight, we consider why yields continue to decline and the implications for investors.

Download PDF

A Mystery, But Is It?
Yields on long-term Treasuries have been declining since the 1980s, when they peaked along with inflation. Since the financial crisis of 2008, the continued reduction in Treasury yields has at times perplexed even the most astute investors. One prominent bond guru famously avoided them in 2010 to the detriment of his portfolio, and pundits who prematurely declared the imminent “death” of bonds couldn’t have been more wrong. In recent years, yields have moved even lower even though inflation has held fairly steady.

Over the longer term, nominal yields for long-term Treasuries generally follow inflation levels and growth expectations. When inflation rises, nominal yields typically rise to compensate for the erosion in purchasing power and, similarly, if growth expectations rise, the increase in attractive investment opportunities in the economy tends to result in rising real (after inflation) interest rates (see Figure 1). Oddly enough, inflation expectations (as implied by the difference between the nominal 10-year Treasury yield and TIPS yield) have held steady at around 2% and the decline in nominal rates has been driven mostly by declining real yields—all in the face of a positive, albeit slow, growth environment.

REAL YIELDS AND GDP TEND TO MOVE TOGETHER

Source: Factset.

So, what explains this somewhat unusual phenomenon? Since the onset of the financial crisis, bond purchases by the Federal Reserve have increased as it has implemented unconventional monetary policies, specifically quantitative easing and maturity extension programs (known to most as Operation Twist). Through these measures, which have tended to lower long-term interest rates, the Fed has sought to stimulate the economy and reduce unemployment at a time of low inflation. Another pressure on rates has come from foreign demand for Treasuries, which has generally been very strong, especially during periods of heightened market anxiety. In recent months, slowing purchases by emerging market central banks have been offset by flight-to-quality demand from European investors, who have also driven the nominal rates on certain German, Dutch and Danish bonds to negative levels. Meanwhile, U.S. investors have shown a lack of appetite for risk as flows to bond mutual funds have outpaced those into equities.

How Low Can Rates Go?

In theory, there is no bottom for bond yields. Declining inflation and continued risk aversion have historically caused nominal rates to fall. Real yields have been significantly negative in certain time periods, although admittedly when inflation was higher than today. Figure 2 shows that there have been two key periods since the 1920s in which real rates where very negative—during the Great Depression and World War II era, and in the 1970s when inflation spiked along with oil prices. Should global economies falter in the coming months, it’s possible that interest rates could move In theory, there is no bottom for bond yields. Real yields have even been significantly negative in certain time periods. lower (even turning negative on the short end), especially if the Fed engages in another round of asset purchases.

REAL RATES HAVE ‘GONE NEGATIVE’ IN THE PAST

Source: Factset.

Better Opportunities Elsewhere

It should be noted, however, that there are major risks in holding Treasuries with little to no yield. An end to the continued bull run in Treasuries would imply a reversal of some factors supporting it now, such as low inflation, deteriorating growth expectations and worsening prospects for the eurozone debt crisis. With global central banks launching unprecedented levels of monetary easing, potentially higher levels of inflation could hamstring the Fed’s ability to continue asset purchases – causing both inflation expectations and real yields to go higher. In addition, investors may realize that Treasuries might not be as “risk-free” as they assumed, particularly as the debate over the U.S. federal budget deficit intensifies later this year.

While interest rates could still move lower in the short term, we believe that the return profile for the asset class is skewed to the downside, especially given our base-case assumption of low but positive growth. We advise caution in holding excess levels of Treasuries and believe that other assets, such as high yield fixed income and high-quality U.S. equities, could be more attractive in this environment. Similar to buying tech stocks in the late 1990s with no sales and earnings, buying today’s Treasuries with minimal yields could prove hazardous for investors.

*Source: Factset

This material is presented solely for informational purposes and nothing herein constitutes investment, legal, accounting or tax advice, or a recommendation to buy, sell or hold a security. The views expressed herein are generally those of Neuberger Berman’s Investment Strategy Group (ISG), which analyzes market and economic indicators to develop asset allocation strategies. ISG consists of five investment professionals who consult regularly with portfolio managers and investment officers across the firm. Information is obtained from sources deemed reliable, but there is no representation or warranty as to its accuracy, completeness or reliability. All information is current as of the date of this material and is subject to change without notice. Any views or opinions expressed may not reflect those of the firm as a whole. Third-party economic or market estimates discussed herein may or may not be realized and no opinion or representation is being given regarding such estimates. This material may include estimates, outlooks, projections and other “forward-looking statements.” Due to a variety of factors, actual events may differ significantly from those presented. Indexes are unmanaged and are not available for direct investment. Investing entails risks, including possible loss of principal. Past performance is no guarantee of future results.

This document is issued for use in Europe and the Middle East by Neuberger Berman Europe Limited which is authorised and regulated by the UK Financial Services Authority (“FSA”) and is registered in England and Wales, Lansdowne House, 57 Berkeley Square, London, W1J 6ER. Neuberger Berman is a registered trademark.

This document is being made available in Asia by Neuberger Berman Asia Limited (“NBAL”), a Hong Kong incorporated investment firm licensed and regulated by the Hong Kong Securities and Futures Commission (“SFC”) to carry on Types 1, 4 and 9 regulated activities, as defined under the Securities and Futures Ordinance of Hong Kong (Cap.571) (the “SFO”).

This document, and the information contained in it, is being made available in Australia by Neuberger Berman Australia Pty Ltd (CAN 146 033 801), holder of Australian Financial Services Licence No. 391401 (“NB Australia”), to a person defined as a “wholesale client” under section 761G of the Corporations Act 2001 (Cth) and applicable regulations, and other such persons to whom disclosure would not be required under chapter 6D and Part 7.9 of the Corporations Act 2001 (Cth) (“Wholesale Investor”), for informational and discussion purposes only. This document is intended only for the Wholesale Investor to which it has been provided, is strictly confidential and may not be reproduced or redistributed in whole or in part nor may its contents be disclosed to any other person (other than such Wholesale Investor’s agents or advisers) under any circumstances without the prior written consent of NB Australia.

This document, and the information contained herein, is not, and does not constitute, directly or indirectly, a public or retail offer to buy or sell, or a public or retail solicitation of an offer to buy or sell, any fund, units or shares of any fund, security or other instrument (“Securities”), or to participate in any investment strategy.

The Wholesale Investor who receives this document should not consider it as a recommendation to purchase any Securities mentioned in it. To the extent that information in this document constitutes financial product advice, it is general financial product advice only, and provided only by NB Australia to Wholesale Investors. This document does not take into account the Wholesale Investor’s investment objectives, financial situation and particular needs (including financial and tax issues) as an investor. Any Securities mentioned in this document will only be available to a Wholesale Investor to whom the provision of a disclosure document prepared in accordance with Australian law is not required. The Wholesale Investor to which this document is provided should not rely on the information contained in this document in making any future investment decision.

This document has been issued for use in Japan and Korea by Neuberger Berman East Asia Limited, which is authorized and regulated by the Financial Services Agency of Japan and the Financial Services Commission of Republic of Korea, respectively. Please visit https://www.nb.com/Japan/risk.html for additional disclosure items required under the Financial Instruments and Exchange Act of Japan.

The “Neuberger Berman” name and logo are registered service marks of Neuberger Berman Group LLC. Neuberger Berman LLC is a Registered Investment Advisor and Broker-Dealer. Member FINRA/SIPC.

Tags: Astute Investors, Attractive Investment Opportunities, Detriment, Financial Crisis, Growth Environment, Growth Expectations, Imminent Death, Inflation Expectations, Inflation Protected Securities, Investment Strategy, Neuberger Berman, Pundits, Purchasing Power, Record Lows, Relative Safety, Strategy Group, Treasuries, Treasury Inflation Protected Securities, Treasury Yields, U S Treasury, U S Treasury Bonds
Posted in Markets | Comments Off

David Rosenberg On Headless Chickens, Topless Americans, And Bottomless Europeans

Thursday, August 2nd, 2012

The S&P 500 has made little headway for two years running and as Gluskin Sheff’s David Rosenberg points out, it first crossed 1380 on July 1, 1999 and since then has run around like a headless chicken (while other asset classes have not). Meanwhile, Europe’s bottomless pit of debt deleveraging (which is as much a problem for the US and China but less ion focus for now) makes the entire discourse of some new and aggressive intervention by the ECB even more ridiculous (and all so deja vu); and the US is facing up to an entirely topless earnings season as revenues are coming in at only 1.2% above last year as it appears Q2 EPS is on track for a 0.2% YoY dip – with guidance falling fast. But apart from all that, Rosie sees the only source of real buying support for the stock market is the stranded short-seller forced to cover in the face of CB-jawboning as there is little sign of long-term believers stepping into the void.

Headless Chicken Markets: BULL OR BEAR?

The cup is half full camp would lay claim that the S&P 500 is not only still up on the year in what has been a challenging 2012 but it is more than twice the lows posted in March 2009.

A discerning bear, however, would point to the fact that the index has made little headway for two years running and keep in mind that it first crossed the 1,380 mark on July 1, 1999 and since then:

• It has crossed 59 times above and below the 1,380 level on a closing daily basis
• Gold is up 515%
• The producer price index is up 45%
• The consumer price index is up 37%
• The 10-year Treasury total return index is up 160%
• The 30-year Treasury total return index is up 215%

So bench-marked against gold prices, producer prices, consumer prices, or bond prices, the secular bear market in equities remains an ongoing phenomenon.

Bottomless Europe: UNRESOLVED DEBT ISSUES

Quote of the day:

What can they do and what would bring about a sustained turnaround in market confidence? There I struggle to find something that would really be convincing.

 

From Jacques Cailloux, chief European economist for Nomura, in yesterday’s NYT (page B3).

Indeed, this entire discourse on some new and aggressive intervention by the ECB is all so ridiculous, and all so déjà vu. The ECB has already done two LTROs and bought bonds outright before. Draghi is still throwing spaghetti against the wall to see what sticks. The bottom line is that monetary policy is a blunt tool to deal with structural insolvency issues as they pertain to bank and government balance sheets. The ECB has only a temporary effect and then bond yields go back up in the periphery. Until there is a move to solve the issue of too much debt relative to the economy’s capacity to service the debt, the problem will re-emerge.

Meanwhile, the credit crunch in the euro area continues unabated, exacerbating recessionary pressures. Cross-border lending by German banks to the periphery has declined nearly 20% in the past seven months to stand at the lowest level since 2005. Overall bank loan books in Spain. Greece and Portugal have contracted 2% as deposits shift to the northern regions. At the same time, the entire regional banking sector is beset by a trillion euros worth of impaired loans, which have expanded 9% from a year ago (2.5 trillion euros are non-performing) with Spain, Ireland and Italy suffering with the largest increases.

Europe for some reason continues to believe that a debt crisis can be fought with more debt. Maybe because they think this strategy has worked in the United States. But it hasn’t and the U.S. is either recession-bound or at best left with a listless economy, and also will likely soon face its own existential moment from a fiscal crisis perspective if it doesn’t get its act together. If left unchecked, the day will come when the entire revenue base will be absorbed by interest expense, defense, health care and social security.

TOPLESS EARNINGS SEASON

The numbers vary by the hour and the data source. but it looks like Q2 operating EPS of S&P 500 companies is on track for a 0.5% YoY dip — by far the weakest since the recovery began three years ago (and well below consensus views of +3% a month ago) . The big problem !s revenues which are coming in just 1.2% ahead of year-ago levels and only 43% are beating their sales targets the lowest since the first quarter of 2009 (only the fourth time in the past 10 years that the beat-rate was under 50%).

The other problem is guidance. The WSJ cites research that finds that 40 companies have already warned about Q3 versus only eight who have raised guidance. We have not seen a gap like this since the onset of the tech wreck in the second quarter of 2001. The bottom-up consensus is now looking for just +3.3% for YoY EPS growth for Q3 — last October, the analysts collectively were calling for 14.5% for the quarter. Talk about a mea-culpa.

Summing It All Up

All that said, the key for all of us is to understand that we are still in the throes of a debt deleveraging cycle that first engulfed the housing and consumer sectors and is now attacking the government sector in country after country. It is not only Europe. China and the U.S.A. too. There is still far too much debt at all levels of society relative to the world’s capacity to service it. This is a critical reason why government and central bank policies aimed at fighting traditional recessions in the past have so far been ineffective and now we have monetary authorities dipping into the toolbox of unconventional balance sheet expansions and contortions.

We have governments battling a debt deleveraging cycle of epic proportions, and by definition, these phases involve debt paydowns, defaults, and rising savings rates — a highly deflationary brew. And it also means that we now reside in a world of fat-tail distribution risks, where the range of outcomes is unusually wide, as opposed to the comfort zone of a classic post-WWII cycle, where we understood what caused recessions and we knew exactly what it took to get out of them, and where there was a much thinner tail to the probability curve.

May those days rest in peace. But once we can acknowledge that we are in a fat-tail world, it is akin to moving into the acceptance phase of the classic five Kubler-Ross stages of grief. This is no time for denial.

Tags: 10 Year Treasury, 30 Year Treasury, Aggressive Intervention, Asset Classes, Basis Gold, Bond Prices, Bottomless Pit, Chicken Markets, Consumer Price Index, Daily Basis, David Rosenberg, Debt Issues, Earnings Season, Gluskin Sheff, Gold Prices, Headless Chicken, Headless Chickens, Producer Price Index, Producer Prices, Secular Bear Market
Posted in Markets | Comments Off