May 2012 Investment Journal
Markets in May were rocked by more bad news coming out of Europe, mostly of the Spanish variety. Bankia, the largest Iberian savings bank conglomerate, announced on May 9 that it was effectively insolvent after writing down its bad assets (i.e real estate, remember those condos in Marbella?!)- thus a 300 million Euro profit turned into a 2 billion Euro black hole. In stepped Madrid, nationalizing the "caja". Shortly thereafter, it was announced that another 19 billion Euros would be needed to keep Bankia going (kind of a big miss eh?). The Spanish Government asked the ECB to help, got a "nothing done", and then promptly agreed to issue more government bonds to fund the bailout (as Spanish bonds yields soared, pushing up their cost of borrowing). The money thus raised completed the largest bank rescue ever in Spanish history, and was handed to Bankia, who can now present the cash to the ECB as collateral for more loans to fund itself. Got it?
It is this type of bizarre logic that has the markets on edge and wondering if any grown-ups are in charge. (Not in Spain: shortly after the Bankia debacle, the head of their central bank announced his resignation after six years of "bank supervision" that created the largest housing bubble ever seen south of the Pyrenees. Leaks from officialdom are saying there are "probable prosecutable offenses". Imagine Ben Bernanke suddenly resigning and the FBI announcing an investigation - a hypothetical US situation that's happening in real time in Madrid!)
Against this ugly backdrop, stock markets globally swooned, while non-PIIGS bonds again touched modern era low yields as the flight to safety intensified:
Market sentiment topped in March, as we pointed out in our Technical Chart from our March Journal, and investors are in a decidedly cautious mode. To make matters worse, the venerable Dow Theory signaled a new bear phase as the Industrials topped on May 1, were not confirmed by advancing Transports, and then both broke below their April lows (not a peep from CNBC on this either, as far as we can tell).
The real shocker of this market is how low long term bond yields are moving, especially since many notable fixed income shops, PIMCO among them, have more or less said the bull market in bonds is over. Well, for 2012 year to date, many bond indices are ahead of stock returns, and once unimaginable rates are here and sticking: 10 Year Treasuries at 1.6% and 30 Years at 2.7% are going to lead to a whole new wave of mortgage refi offers. Anyone up for a 2% 15 year or 3% 30 year fixed?
It is worth noting also that, while the US Dollar has strengthened, the Euro is wilting and contributing to never before seen actions by other currencies to stay competitive. Switzerland this month issued 2 year bonds with a NEGATIVE .6% yield - that's right, for the right to own Swiss bonds/francs, an investor earns no return and has to pay the government!
What we think was also very notable in May was the ultimatum issued by the EU Commission to Germany on May 30: Brussels basically told Angela Merkel's government that Europe was going "all in" to support the issuance of collectively backed bonds (Eurobonds) to bail out the banking system, funded mostly by Germany. If the EU continues down this road, it will be the catalyst for a division of Europe: there is no way that any German politician or the Bundesbank is going to cave in again and rob German citizens of their hard earned wealth. THE PARTY IS OVER. Unless German industrialists win as they did during the Third Reich era (and keep Germany in the "cheap" Euro so their factories can hum), investors should be thinking about a new currency axis that runs from Berlin to Amsterdam and around the Nordic zone. In short, all things Euro seem to be coming to a head and big changes will result.
In the US, economic data was overwhelmingly weak, contributing to slippage in stocks and commodities, while US bonds performed strongly. As we go to press, the US Unemployment figures for April have been released and they were a shocker: only 69,000 jobs added versus a consensus add of 150,000. Speculation is rife that this will be the straw that broke the camel's back: the US Federal Reserve will meet on June 19-20 and then launch the next round of Quantitative Easing to stimulate the economy, putting a bid under risk assets and sending stocks, commodities, and precious metals higher.
The problem is that the prior two rounds of QE haven't really worked, and, as the US Presidential campaign heats up, we are seeing more and more commentary critical of the zero interest rate/money printing policy of the Federal Reserve. This month's link is a delicious skewering of the Fed by noted money manager David Einhorn of Greenlight Capital. This is one of his few public writings, so we recommend you sit down for ten minutes and have a "jelly doughnut":
Thank you for reading our Journal; we'll be back to you next month.
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