Wall Street's Best Minds

Bill Gross: Central Banks Are ‘Running Out of Time’

The Janus manager warns that if central banks don’t reflate global growth by 2017 markets will fall.

By William H. Gross                

I once wrote that a good “bond manager” should metaphorically be composed of 1/3 mathematician, 1/3 economist and 1/3 horse trader. I still stand by that, although I would extend it now to the entire investment arena, especially after experiencing several years of “unconstrained” asset management. 
Central bank polices consisting of QE’s and negative/artificially low interest rates must successfully reflate global economies or else. Pixabay
Surprisingly though, upon reflection, I find that personally I was never really an “A+ student” at any of the three but good enough at each to provide consistent long term alpha and above average profits for clients. In math, for instance, I was a 720 SAT guy but certainly nowhere near 800 status. In economics, I never got beyond Samuelson and an introductory M.B.A. class at UCLA Anderson, but was self-educated enough to have forecast and ridden the secular bond bull market beginning in 1981, and fortunate enough – though “addled” – to have predicted the housing crisis, as well as named and described the “New Normal” that would follow. Horse trader? Well that’s an even more subjective assessment, but I can remember being a rather mediocre fraternity poker player. You could usually bluff me out of a big pot, and these days in the market I find myself turning right sometimes when I should be going left. Whatever. B+, A-, B is how I would grade myself but the returns and the relative alpha compared to contemporaries proved to be the real scorecard, and I’m happy with the result, acknowledging of course that some in the “classroom” I worked and work with at Pimco and Janus earned Summa Cum Laude status and more themselves.
But back to the 1/3 math thing. It’s there that I find the average lay and even many professional investors still thinking and managing assets at the grade school level. The childlike “teeter totter” principle, for instance which couldn’t be simpler in its visualization of bond prices going up when interest rates go down, produces foggy-eyed reactions from a majority of non-professionals, and from a few supposed experts as well. And too, the concept of longer maturities inducing more risk for bondholders seems to stump many.
Heaven forbid the introduction of the more refined concepts of duration and forward yield curves as well as the extension into stocks with the addition of an equity “risk premium” and how it might be calculated. “Forget about the math,” many investors really seem to say – “let’s stick to the old Will Rogers adage, ‘If a stock is going to go up – buy it. If it ain’t going up – don’t buy it’!”
Well today’s markets are markets that increasingly will be dominated by math, not Will Rogers. And negative interest rates are front and center. To explain, let me introduce a twister I first came across during one of my high school math classes known as Zeno’s paradox. Zeno was an ancient Greek who posed the following conundrum: Imagine a walker heading towards a finish line 10 yards away but every step he took was half of the length of the step he took before. If so, even if he walked an infinite amount of steps he could never reach his destination. Mathematically correct but the real world resolution was that Zeno’s walker and everything else that we experience moves forward in full step integers as opposed to fractions. It was a mathematical twist only.
But there is no “math only” twist to today’s bond and investment markets. Negative interest rates are real but investors seem to think that they have a Zeno-like quality that will allow them to make money. In Germany for instance, five-year Bunds or OBL’s as they are called, yield a negative 30 basis points. That produces a current price of 101.50 at a 0% coupon that guarantees, guarantees that an investor will get back 100 euros five years from now for every 101.50 euros she invests today. Why would a private investor (the ECB has a different logic) buy a five-year OBL at a minus 30 basis points and lock in a guaranteed loss?
Well credit and electronic money has its modern day disadvantages in that you can’t withdraw billions of physical euro notes from the local bank, nor can banks withdraw some from the central bank. You have to buy something and that’s the yield that’s artificially being imposed. Besides, the purpose of it is to force the investor to buy something with a positive yield further out the maturity spectrum or better yet with a little or a lot of credit risk to get inflation and the economy’s growth engine started again. Seemingly logical, but as I’ve pointed out in recent years – not working very well because zero and negative interest rates break down capitalistic business models related to banking, insurance, pension funds, and ultimately small savers. They can’t earn anything!
Anyway, for those private investors that continue to hold five-year OBL’s and lock in a guaranteed loss five years from now, many of them are using a bit of Zeno’s paradox to convince themselves that they will never reach the loss-certain finish line at maturity. They think that because four-year OBL’s yield even less (-40 basis points), the five-year OBL’s will actually go up in price (remember the teeter totter?) if four-year rates stay the same over the next 12 months, and the ECB has sort of – sort of – promised that. Whatever it takes, you know. If so, the private investor will actually make a little money over the next year (10 basis points) and she can give herself a slap on the back for having eluded the ECB’s negative interest rate trap!
Ah but Zeno’s, Draghi’s, Kuroda’s, and even Yellen’s paradox is actually just that – a paradox. Some investor has to cross the finish/maturity line even if yields are suppressed perpetually, which means that the “market” will actually lose money. Yet who cares about Zeno and a bunch of five-year OBL investors? Well 30%-40% of developed bond markets now have negative yields and 75% of Japanese JGB’s do. Still who cares about them, just buy high yield bonds or even stocks to avoid Zeno’s paradoxical trap. No!
All financial assets are ultimately priced based upon the short term interest rate, which means that if an OBL investor loses money, then a stock investor will earn much, much less than historically assumed or perhaps might even lose money herself. Yields have been at 0% or negative for years now across most developed markets and to assume that high yield bond and equity risk premiums as well as P/E ratios have not adjusted to this Star Trek interest rate world is to believe in – well to believe in Zeno’s paradox.
The reality is this. Central bank polices consisting of QE’s and negative/artificially low interest rates must successfully reflate global economies or else. They are running out of time. To me, in the U.S. for instance, that means nominal GDP growth rates of 4%-5% by 2017 – or else. They are now at 3%. In Euroland 2%-3% -- or else. In Japan 1%-2% -- or else. In China 5%-6% -- or else. Or else what? Or else markets and the capitalistic business models based upon them and priced for them will begin to go south.
Capital gains and the expectations for future gains will become Giant Pandas – very rare and sort of inefficient at reproduction. I’m not saying this will happen. I’m saying that developed and emerging economies are flying at stall speed, and they’ve got to bump up nominal GDP growth rates or else.

Cross your fingers. Zeno’s paradox was a mathematical twist only and the artificial/ negative interest rate world created by central bankers has similar logic. The real market and the real economy await a different conclusion as losses from negative rates result in capital losses, not capital gains. Investors cannot make money when money yields nothing. Unless real growth/inflation commonly known as Nominal GDP can be raised to levels that allow central banks to normalize short term interest rates, then south instead of north is the logical direction for markets.

Gross, a founder of Pimco, is currently manager of the Janus Global Unconstrained Bond fund (ticker: JUCDX ), a portfolio operated by Janus Capital.

Monetary policy

The central bankers’ dilemma

by Buttonwood .

CENTRAL banks have taken the brunt of supporting the global economy, ever since 2009, the last time that governments made any concerted attempt to indulge in a fiscal status. Low interest rates, quantitative easing, forward guidance and now negative rates have all been wheeled out.

But life for a central banker is more difficult than it used to be; the economic relationships that prevailed before the 2008 crisis may not hold good today. Take the relationship between unemployment and inflation, famously linked by the Phillips curve. As unemployment falls, inflation should start to rise as businesses compete for labour and wages go up. The relationship was the basis for the introduction of "forward guidance". In August 2013, Mark Carney, governor of the Bank of England, said that a fall in unemployment below 7% would be a necessary (but not sufficient) condition for tighter policy. UK unemployment has fallen to 5.1% but inflation is only 0.3% and there has been no need to tighten policy. 

The Federal Reserve had introduced forward guidance under Ben Bernanke way back in December 2012. That envisioned a US unemployment rate of 6.5% as a possible trigger; in fact, the first upward move in rates did not occur until December 2015, when the jobless rate had fallen all the way down to 5%. 

So what has been happening? The economic concept underlying the approach of the two central banks is that of the NAIRU; the non-accelerating inflation rate of unemployment. But it seems clear that the NAIRU is not a set figure; it varies from cycle to cycle. Paul Krugman has shown that the Fed's estimate of the NAIRU has trickled down as unemployment has fallen

It all depends on how much spare capacity there is in the labour market. The best measure might not be the unemployment rate, which measures those entitled to claim benefits, but the labour force participation rate, which calculates the proportion of those of working age who are in employment. In the US, that has fallen from a peak of 67% reached in 2000 to 62.9%. What is remarkable about the chart is that one would expect the labour force participation rate to rise as unemployment falls; until recently, the two have dropped in tandem. Would some of those people rejoin the labour market if wages were higher? It is hard to know; some may have been jobless for a time and thus may find it difficult to get jobs, others may have retired early. There is no "right" level of labour force participation that can be determined; the rate was below 60% for much of the 1950s and 1960s before more women joined the workforce..

So if you can't know how much slack there is in the labour market, are there other measures? Economists use the idea of the "output gap", the difference between the economy's actual output and its potential production. To figure this out, they need an idea off the tend rate of growth. But that is a slippery concept. It looks as if, in most developed countries, the trend rate of growth has fallen since 2008. In Britain, the Office for Budgetary Responsibility recently revised down its assumed rate of growth because of poor productivity.
The most significant forecast change we have made since November has been to revise down potential productivity growth. This is the amount of output the economy can produce sustainably per hour worked and is a key driver of its potential size. The data available in November showed a pick-up in productivity growth in mid-2015, consistent with our assumption that the receding financial crisis would exert less of a drag and that trend productivity growth would return to its pre-crisis average rate by the end of the forecast. But more recent data suggest that this was another false dawn. With the period of weak productivity growth post-crisis continuing to lengthen, we have placed more weight on that as a guide to future prospects – although this judgement remains highly uncertain. This in turn has prompted us to revise down our GDP growth forecasts by around 0.3 percentage points a year to an average of 2.1 per cent a year over the rest of the decade.
Why would productivity growth be weaker? This is a huge debate at the moment especially with the publication of Robert Gordon's "The Rise and Fall of Economic Growth" (reviewed here). Mr Gordon displays, in impressive detail, the transformational changes in America between 1870 and 1970 that brought vast improvements to both life expectancy and the quality of life; people have clean drinking water in their houses, for example, reducing the incidence of disease and the drudgery of clothes washing. The changes in the economy since 1970 have been remarkable in the sectors where they have occurred; information technology and communications. But they are nothing like as widespread as in the previous era.

Conversely, there has been no improvement in the real speed of road transport (congestion) or air transport (security checks) in the last 40 years. Vital household gadgets such as fridges, washing machines and central heating were all widespread before 1970.

Clearly, improvements in IT have the potential to improve productivity; we have seen it happen in areas such as distribution and retail. So why hasn't it happened in recent years?

One answer might be that wage growth has been so low; it is cheaper to employ workers than to invest in new technology. Another answer could be that modern economies are service- rather than manufacturing-dominated and it is simply harder to improve service productivity; a 10-minute haircut is not better (and probably worse) than an hour-long appointment. Perhaps the internet, with the instant distractions of e-mails, Twitter feeds and cat videos, actually reduces productivity for office workers.  Alternatively, we may simply be bad at measuring the improvement in service-sector productivity and later revisions may show that GDP is higher (and inflation lower) than we thought. We may discover this is the case in future, although it will need to be a big revision to explain the productivity slowdown.

In the meantime, central banks simply don't know the answer to these questions - how fast can the economy grow and, at what point will lower unemployment cause inflationary pressures? No wonder they sometimes seem adrift.

China’s Economic Identity Crisis

Stephen S. Roach
. China development forum

BEIJING – Unlike the West, where former US President George H.W. Bush once mockingly referred to “the vision thing,” China takes economic strategy very seriously. That much was clear at the recent China Development Forum (CDF) in Beijing, an important gathering held each year since 2000, immediately after the conclusion of the annual National People’s Congress.
Originally conceived by former Premier Zhu Rongji – one of modern China’s most strategy-minded reformers – the CDF quickly became a high-level platform for engagement between senior Chinese policymakers and an international lineup of academics, foreign officials, and business leaders. It is, in essence, an intellectual stress test – forcing Chinese leaders to defend newly formulated strategies and policies before a tough and seasoned audience of outside experts.
It’s not always easy to distill a singular message from an event like this, especially as the CDF, once a small intimate gathering, has morphed into a Davos-like extravaganza of some 50 sessions spread out over three days. But, having attended 16 of the 17 meetings (I missed the first one), my sense is that CDF 2016 was especially rich in its strategic implications for China’s daunting economic challenges. And, as I saw it, the elephant in the room was the core identity of China’s economic model – a producer-led versus a consumer-led model.
China’s 30-year development miracle – 10% real annual GDP growth from 1980 to 2010 – was all about the country’s prowess as the ultimate producer. Led by manufacturing and construction, China enjoyed a uniquely powerful impetus. In 1980, exports and investment collectively accounted for 41% of Chinese GDP; by 2010, the combined share was 75%. The export portion increased the most – by nearly six-fold, from 6% in 1980 to a pre-crisis peak of 35% in 2007 – as new capacity and infrastructure, low-cost labor, and accession to the World Trade Organization made China the world’s greatest beneficiary of accelerating globalization and surging trade flows.
Yet the producer model was not the definitive formula for achieving China’s aspirations of becoming a moderately prosperous society by 2020. This realization was foreshadowed by the now-famous “Four Uns” critique of former Premier Wen Jiabao, who back in 2007 correctly diagnosed the producer model as “unbalanced, unstable, uncoordinated, and unsustainable.”
Those, of course, were code words for surplus saving, excessive investment, open-ended resource demand, environmental degradation, and mounting income inequalities. A new model was needed not only to escape such pitfalls, but also to avoid the dreaded “middle-income trap” that ensnares most fast-growing developing economies when they reach income thresholds that China was rapidly approaching.
Wen’s critique triggered an intense internal debate that resulted in a key strategic decision to rebalance the Chinese economy by shifting to a consumer-based model, as framed by the 12th Five-Year Plan of 2011-2015. This new approach stressed three major components: a shift to services to boost job creation; accelerated urbanization to raise real wages; and a more robust social safety net to provide Chinese families with the security needed to channel their newfound income from fear-driven precautionary saving into discretionary consumption.
The results of the now-completed 12th Five-Year Plan were impressive – especially in light of the formidable challenge that structural change implies for any economy. But that’s where China’s strategic focus is most effective – providing an over-arching framework to guide the economy from point A to point B.
But this journey is far from complete. While China’s targets for services and urbanization were exceeded, the end results fell short on many aspects of building a more robust (that is, fully funded) social safety net. As a result, personal consumption inched up from just 35% of GDP in 2010 to only about 37% in 2015.
Notwithstanding the unfinished business of consumer-led rebalancing, China now appears to be embracing yet another shift in its core economic strategy – driven by a broad array of “supply-side initiatives” that range from capacity reduction and deleveraging to innovation and productivity. That emphasis was formalized in Premier Li Keqiang’s recent “Work Report,” which outlined the new strategy of the just-enacted 13th Five-Year Plan (covering the 2016-20 period).
In identifying the top “eight tasks” for 2016, Li put supply-side reforms at number two – second only to the government’s focus on economic stability in countering China’s growth slowdown. By contrast, emphasis on boosting domestic demand – long the focus of China’s consumer-led rebalancing strategy – was downgraded to third place on the so-called work agenda.
In China, where internal debates are carefully scripted, nothing happens by accident. In the keynote speech at this year’s CDF, Vice Premier and Politburo Standing Committee Member Zhang Gaoli drove this point home, emphasizing the need to direct supply-side initiatives at China’s “main threat.”
By contrast, there were only passing mentions of consumer-led rebalancing.
Maybe I am guilty of splitting hairs. After all, every economy needs to focus on both the supply and the demand sides of its growth equation. But this shift in emphasis – in the 13th Five-Year Plan as well as in the debate and messaging at this year’s China Development Forum – appears to be an important signal. I worry that it could indicate a premature shift away from the consumer-led model back to China’s comfort zone of a producer model that has long been more amenable to the industrial engineering of central planning.
Strategy is China’s greatest strength, lending credibility to its commitment to structural transformation. Yet much remains to bring the Chinese consumer to life. Yes, it is a tough challenge.
But de-emphasizing that strategic commitment could call into question a crucial shift now required of China’s core economic identity.


Endgame for the IMF-EU Feud over Greece's Debt

Greek parliament in Athens
Greek parliament in Athens

Greece hasn't been saved just yet, and the conflict between the International Monetary Fund and Europe is once again intensifying. Greece's former minister of finance Yanis Varoufakis expects a showdown between the IMF and Germany.

Though talks are now taking place mostly behind the scenes, negotiations over another bailout program for Greece have not come to an end. On Saturday, Wikileaks published the transcript of an internal International Monetary Fund (IMF) phone conference.
A discussion between high-ranking IMF officials reveals the bitter divide between the lenders and how they're still far from reaching a sustainable solution for the financial crisis in Greece. Yanis Varoufakis, Greece's former minister of finance, sees parallels to the situation one year ago, when he was negotiating a credit line with the IMF, the European Commission and Euro zone member states.

In an op-ed for SPIEGEL ONLINE, he describes his fears of a showdown between Greece and its lenders this summer.

The feud between the International Monetary Fund (IMF) and the European side of Greece's troika of creditors is old news. However, Wikileaks' publication of a dialogue between key IMF players suggests that we are approaching something of a hazardous endgame.

Ever since the first Greek 'bailout' program was signed, in May 2010, the IMF has been violating its own "primary directive": the obligation not to fund insolvent governments. As a result, the IMF's leadership has been facing a revolt from its staff members who demand an exit strategy arguing that, if the EU continues to obstruct the debt relief necessary to restore the solvency of the Greek government, the IMF should leave the Greek program.

Five years on, this IMF-EU impasse continues, causing a one-third collapse of Greek GDP and fuelling hopelessness to a degree that has made real reform harder than ever.

Back in February 2015, when I first met Poul Thomsen (the IMF's European chief) in a Paris hotel, a fortnight after assuming Greece's finance ministry, he appeared even keener than I was to press for a debt write off: "At a minimum", he told me "€54 billion of Greece's debt left over from the first 'bailout' should be written off immediately in exchange for serious reforms."

This was music to my ears, and made me keen to discuss what he meant by "serious reforms". It was a discussion that never got formally off the ground as Germany's finance minister vetoed all discussion on debt relief, debt swaps (which were my compromise proposal), indeed any significant change to the failed program.

What new light does the leaked dialogue between Thomsen and Delia Velculescu (the IMF's Greek mission chief) throw on this saga? It reveals the following state-of-play, as assessed by the IMF:

  • The EU Commission seeks another fudge to be agreed during the IMF's mid-April Spring Meetings that will allow European leaders to celebrate (again!) the end of the Greek crisis
  • The IMF will block this, unwilling to go along with yet another fudge that violates its no-lending-to-insolvent-governments directive
  • The Greek government is ready to capitulate on new austerity measures demanded by the IMF and amounting to between 2.5 percent and 3 percent of GDP, involving: (a) pension cuts, (b) reduction in income tax credits for the poor, (c) a shift of basic foodstuffs from the 11% to the 23% VAT band, and (d) salary cuts for many public sector workers
  • The Greek government is still holding out on these concessions because the Commission is offering Athens false promises of a 'softer' austerity package
  • The IMF is furious with the Commission, not for being 'kinder' to Greece but because the Commission's own "numbers" are pointing to even harsher future measures than the IMF's
  • The IMF regrets not having negotiated a common position with the Commission first, before the Commission started misleading the Greeks
  • To concentrate the Europeans' mind sufficiently to force them to come to a 'decision point', Greece 'must' come close to another catastrophic 'Event' (default to one of the troika lenders)
  • Because of the sensitive UK referendum, on 23rd June, the IMF predicts that its "hostilities" with the Commission will be suspended until July when, just like last July, the Greek "Event" will loom
  • At that point, in July, the IMF plans to corner Chancellor Merkel into choosing what costs her less politically: Continuing with the Greek program without the IMF? Or granting the Greek state substantial debt relief?
  • As long as Mrs Merkel chooses one of these two options, the IMF will be out of the woods: Either it will exit or the debt write-off will have rendered its Greek program consistent with its "primary directive".

To the uninitiated it looks as if the IMF-EU tussle is about some botched numbers. But the real issue behind them is deeply political and has ramifications well beyond Greece.

The IMF is right that the Commission's numbers do not add up and, thus, engender the insufferable hypocrisy of a Commission pretending to prefer "lighter" austerity when its denial of debt relief translates into a primary budget surplus target (total tax revenues minus government expenditure, exempting debt repayments) of 3.5 percent of Greek GDP which, in turn, requires measures even harsher than the IMF's.

The Commission's commitment to bad arithmetic is politically motivated: Making the numbers "add up" requires Mrs Merkel's admission that, in 2010, to gain her parliamentarians' consent to bailout funds that the insolvent Greek government would then pass onto the German and French banks, she made them a promise that could not be kept: that bankrupt Athens would pay every cent back and with interest! Such an admission today would be political poison for an already weakened Chancellor.

Are the IMF's numbers any better? Regarding the primary budget surplus target (a crucial number that must be kept under 1.5 percent of GDP to give Greece any chance of recovery) Thomsen and Velculescu embrace precisely the number that I was proposing to the troika last year.

Why then did the IMF not back me in 2015 but are adopting the same 1.5 percent surplus target now? Because they also wanted something that I would never grant: crushing new austerity which is inhuman and unnecessary but which, today, the Tsipras government (according to Velculescu) seems ready to accept, having already surrendered once in July 2015.

The IMF's austerity package is inhuman because it will destroy hundreds of thousands of small businesses, defund society's weakest, and turbocharge the humanitarian crisis. And it is unnecessary because meaningful growth is much more likely to return to Greece under our policy proposals to end austerity, target the oligarchy, and reform public administration (rather than attacking, again, the weak).

To give a monstrously exaggerated but terribly instructive parallel of the IMF's logic, if Greece is nuked tomorrow the economic crisis ends and its macroeconomic numbers are "fixed" as long as creditors accept a 100 percent haircut. But, if I am right that our numbers added up just as well, while allowing Greece to recover without further social decline, why did the IMF join Berlin to crush us in 2015?

For decades, whenever the IMF "visited" a struggling country, it promoted "reforms" that led to the demolition of small businesses and the proletarisation of middle-class professionals.

Abandoning the template in Greece would be to confess to the possibility that decades of anti-social programs imposed globally might have been inhuman and unnecessary.

To recap, the Wikileaks revelations unveil an attrition war between a reasonably numerate villain (the IMF) and a chronic procrastinator (Berlin). We also know that the IMF is seriously considering bringing things to a head next July by dangling Greece once more over the abyss, exactly as in July 2015. Except that this time the purpose is to force the hand not of Alexis Tsipras, whose fresh acquiescence the IMF considers in the bag, but of the German Chancellor.

Will Christine Lagarde (the IMF's Managing Director with ambitions of a European political comeback) toe the line of her underlings? How will Chancellor Merkel react to the publication of these conversations? Might the protagonists' strategies change now that we have had a glimpse of them?

While pondering these questions, I cannot stem the torrent of sadness from the thought that last year, during our Athens Spring, Greece had weapons against the troika's organised incompetence that I was, alas, not allowed to use. The result is a Europe more deeply immersed in disrepute and a Greek people watching from the sidelines an ugly brawl darkening their already bleak future.

jueves, abril 07, 2016



Face The Music And Dance

So, what’s the trouble ahead?

Was sell-off Tuesday a sign of a severely overbought market correcting (see McClellan Summation index below? 

Worries about a weak earnings?

Is Greece crawling its way back to the forefront as the IMF and EU duke it out over another rescue (the IMF recent leak)?

Do the so-called Panama Papers revelations indicate just scratch the surface of these issues?

How about ongoing global economic weakness, including the U.S where Tuesday’s Trade Deficit indicated a downgrade to GDP ahead, (the Atlanta Fed downgraded U.S. growth to only 0.4%)? Oil prices declined sharply for re-linking previous correlations to stock market declines once again?

And so it goes.

Stock declines became sharp as the day wore on and any previous dip-buying wasn’t seen for the first time in weeks.

So don’t feel too bad as there’s always Fed Minutes on Wednesday for bulls to find a kernel of information to drive stocks higher? Sure, at some point the world’s Central Bank policies will eventually become tiresome and lose their impact. Really? Um, maybe.

Other market moving news was Obama’s threat to deny with more Executive action instead of offering policies to encourage companies with tax policies to would encourage them to bring the money home.

The Allegan and Pfizer merger may be in doubt. Allegan is the largest holdings in the hedge fund space.   

Below is the heat map from Finviz reflecting those ETF market sectors moving higher (green) and falling (red). Dependent on the day green may mean leveraged inverse or red leveraged short. 

4-5-2016 4-08-49 PM
Volume was light  and breadth per the WSJ was as negative as you might expect.
4-5-2016 4-09-38 PM
12-17-2015 9-04-44 PM Chart of the Day
4-5-2016 4-17-15 PM KBE

Charts of the Day







































    The NYMO is a market breadth indicator that is based on the difference between the number of advancing and declining issues on the NYSE. When readings are +60/-60 markets are extended short-term.


    The McClellan Summation Index is a long-term version of the McClellan Oscillator. It is a market breadth indicator, and interpretation is similar to that of the McClellan Oscillator, except that it is more suited to major trends. I believe readings of +1000/-1000 reveal markets as much extended on an intermediate term.


    The VIX is a widely used measure of market risk and is often referred to as the "investor fear gauge". Our own interpretation is highlighted in the chart above. The VIX measures the level of put option activity over a 30-day period. Greater buying of put options (protection) causes the index to rise.

It’s about time we had even a small correction. All the while we’ve seen insiders sell and breadth declining as markets rallied.

That’s a sign of weakness.

Earnings will be rolling out soon enough and those promise to be disappointing unless analyst’s lowered expectations are beat. Even so, earnings won’t be great.

The often odd Fed Minutes will be released Wednesday afternoon. What is it we don’t already know? 

You Want ANOTHER Hike? Already?

By: Michael Ashton

I was surprised in December when the most dovish central banker ever to lead the Fed allowed the body to implement a tightening, so perhaps I shouldn't be surprised now that she is staunchly resisting an increasingly-raucous chorus of hawks. Prior to the Fed's last meeting, I noted that if there was ever an excuse for tightening, unemployment being around 5% with core CPI above 2% while emergency measures still remain in place from the last crisis was probably a pretty good one. When the Fed eschewed action at the meeting, I scratched my head even though I wasn't totally shocked. Yellen is a dove, and an unrepentant one at that. Despite all efforts to rehabilitate her image in that regard, the truth remains.

But her arguments are getting increasingly weak. Her argument seems to be that if domestic growth is weak, then even if inflation is rising the Fed will maintain the extraordinary measures as long as inflation is not yet at disturbing levels, or if the inflation is believed to be transient.

Okay, fair enough - I believe it's the wrong tine of the fork to focus on, since in the long run growth is maximized when inflation is low, stable, and predictable (as Greenspan once was fond of reminding us) and because the Fed can actually control inflation through monetary policy while there is little evidence they can control real growth. But still, it's a point that many at the Federal Reserve would agree with.

However, in her remarks on Tuesday Yellen went further and pointed to weakness in other parts of the world where the Fed clearly has no direct mandate but also where it isn't clear the weakness isn't a net positive for the US in terms of our growth/inflation tradeoff. Lower energy prices due to weak growth in Europe and China, for example, has a positive impact on the United States which almost certainly outweighs the decline in our exports to those countries.

Yellen's argument sounds a lot like what you will sometimes hear around bonus time at a large company (and perhaps here I will reveal lingering frustrations of my own!). In some companies, what you hear at bonus time if your group or your particular project did really well is "you did well, but we can't pay you as much as it deserves because the firm/the division/the group came in below plan." At the same organization, if your group or your project did poorly while the overall firm had a banner year, the bonus time discussion will begin with "well, as you know you didn't perform well..."

Growth will always be weak somewhere in the world. Soon enough, it will probably be weak here.

But even when it weakens here it is not likely to be so weak that we continue to need extraordinary liquidity provision such as that which is currently in place.

Yes: to me, the bigger issue is the size of the Fed's balance sheet and the global pile of excess reserves. Higher interest rates from the central bank are not only not a cure, they make the problem worse by causing money velocity to increase. But I would be somewhat less uncomfortable if there was any indication that the Fed had some sense of urgency on the inflation front.

In any event, if the Fed does not raise rates in April then it means it will be at least 6 months between 25bp rate increases. At that rate, it would be about six years until the short rate returned to something like a normal level. But that's irrelevant - because a change in rates every six months cannot be seriously called a tightening "campaign."

The Fed's credibility erodes further with every passing day. The good news is that there isn't much left to erode.

Activating the Sleepers

Islamic State Adopts a New Strategy in Europe

By Christoph Reuter in Beirut

 A photograph published by the media branch of Islamic State in Iraq's Anbar Province purports to show a French fighter with the terrorist organization.
AFP PHOTO/Ho/Welayat aL-Anbar
A photograph published by the media branch of Islamic State in Iraq's Anbar Province purports to show a French fighter with the terrorist organization.

Last week's attacks in Brussels show that Islamic State has built up a sophisticated network of terrorists that goes well beyond al-Qaida's capabilities. It is now able to strike using sleepers who have not yet been identified by security officials.

They chose the perfect moment. Just as Europe was letting out a sigh of relief, having captured one of the Paris terrorists after months of pursuit, the bombers detonated their explosives. The signal sent by the arrest was that Islamic State (IS) is defeatable. But the Brussels attack tells us that isn't the case. Just when you think you've beaten us, we'll strike you right in the heart.

Investigators and intelligence agencies both agree that preparations for the attacks in Brussels must have begun long ago. The Belgian bombs thus heralded a new approach for Islamic State in Europe -- one that does not bode well for those trying to prevent acts of terrorism -- because the threat is no longer limited to individuals known to the police or already on wanted lists, but also comes from those in the shadows in the second or third rank. Even jihadists who have not yet been identified by officials are now capable of striking.

This approach reflects the one used in IS' main battle grounds of Syria and Iraq. For some time there, unsuspected aggressors, who have been discreetly trained, have infiltrated targeted circles and built up long-term sleeper cells. Or men from regions neighboring a target are recruited to wait and attack at the right moment.

Surprisingly Farsighted

This is a modus operandi that has been employed by terrorists against prominent and often well-defended opponents multiple times -- it's how Abu Khalid al Suri, the Syrian emissary for al-Qaida boss Aiman al-Zawahiri, was betrayed by one of his own employees and killed in early 2014 by IS despite all possible protective measures being taken at his top secret hideout.

A rebel commander who had fled after Islamic State had taken over Raqqa was abducted by his own driver in Turkey, who was working under the orders of IS. And the founder of the secret activist network Raqqa Is Being Slaughtered Silently was massacred in his apartment in the Turkish city of Sanliurfa by an IS agent who had infiltrated the opponents months before, posing as a supporter.

The people behind this terror are proving to be surprisingly farsighted, patient planners and not rash actors -- and this applies in both Europe and Syria. This is the new and long underestimated side of IS.

The length Islamic State goes to in order to install sleeper cells is illustrated by a lesser-known case -- one in which IS attempted to infiltrate opposition forces.

Jamil Mahmoud, a young Kurdish man from Afrin who worked as a furniture painter in Beirut, was selected to be inserted into the ranks of the People's Protection Units (YPG) in the northern Syrian district where he had come from. Once his recruiters were confident enough that he would act in their interests, Mahmoud was smuggled through the harbor in Tripoli into Turkey, without ever having to show his passport.

From the sea, he was driven inland for four hours, the Kurd later told SPIEGEL. "Until we got to a large, isolated farmhouse. There were around 25 men there, Arabs and Turks. We were trained in the use of Kalashnikovs and Glock pistols."

They never left their camp. But the area of Gaziantep came up often in conversation. After two months, he was assigned to join the YPG militia in Afrin (a group close to the Kurdistan Workers' Party, or PKK) and told to await further orders. "They said simply they would always be nearby and that they would get in contact when it was time to take action."

Mahmoud was driven to the border, whereupon he traveled to Afrin and joined the militia, as ordered. After a few months, however, he handed himself in to to the Kurdish authorities -- before the order to strike came through.

Sleeper Cells in Europe

IS' behavior is in many ways more like that of a secret service than of animated fanatics. Al-Qaida committed its attacks as its raison d'etre, the result being that there were no subsequent attacks far outside their usual theaters of war following their acts of violence on New York and Washington in 2001, on Casablanca, Madrid, Amman and elsewhere. Al-Qaida had acted, not reacted. But IS appears capable of doing so.

Testimony from deserters suggests the terror organization began establishing sleeper cells in multiple European countries early on, in Turkey in particular. According to the former IS fighters, they are made up of men who aren't on any watch lists. This enables IS to elude the vulnerability suffered by many based in Europe -- namely that they are known terrorists. The biographies of many terrorists are very similar: an early period of radicalization precedes a period of preparation just before an attack.

By this point, however, many are already known to the authorities as dangerous and are subsequently often placed under surveillance. This included the Belgians who, in January 2015 wanted to attack police stations in Brussels immediately after the Charlie Hebdo massacre.

Apartments, telephones and cars were bugged -- the authorities always had a clear picture of what was going on.

Attacks could repeatedly be thwarted mostly because the aggressors had left behind traces. Just after the July 2005 attacks on London, a British investigator warned that investigations placed too little emphasis on terrorists acting below the security services' radar. At that time, most of the attention had been focused on "homegrown terrorists," young men who radicalized themselves without even coming into contact with the al-Qaida leadership or prominent hate preachers. This category applied to each of the four men who blew themselves up in London.

Terrorism has become more professional since then. IS' masterminds now build up sleeper cell networks from an early stage in order to attack without hindrance at any chosen moment. That they are doing so in Syria is well documented. And that they are doing the same in Europe is very probable.

Fed Will Be Forced to Lower Interest Rates and Declare War on Cash

By: Sol Palha

"No great genius has ever existed without some touch of madness."  
~ Aristotle

The simple and easy to understand chart shown below quite clearly illustrates why the Fed has no option but to lower interest rates. Central bankers worldwide have already embraced negative rates, so it is just a matter of time before our central bankers are forced to walk down the same path. The Fed is trying to put on a brave act, but you can already see them backtracking from the strong stance they took last year. Now they are stating that all is not well, and the economic outlook is weaker than expected. Rubbish we already stated in several articles that they would take this path and that the only reason they even raised interest rates was so that they could come out with an excuse to lower them again.

When an economy is booming, the velocity of money increases and as you can see from the chart below, the velocity of money has been dropping and quite precariously we might add.

Hence, the only thing supporting this market is hot money. Take away the hot money and this illusory economic recovery crumbles.
Velocity of M2 Money Stock

The chart topped out in 2000 with a double top formation. We did get a small pop up when Greenspan flooded the markets with money to create the housing bubble, but it put in a lower high.

After that, it has been nothing but a downhill ride, and this is why Gold prices have tanked.

The money supply has increased, but the money is not moving, the masses do not have access to this money yet. This is why we stated that if they really want to create a monstrous bubble, they need to put this money into the hands of the masses. Only the masses are foolish enough to take markets to levels you can only envision after smoking some illegal substance. This is why we are dead certain that the Fed will come out with another stimulus plan; this economic recovery is being held up by hot money and nothing else.

If the recovery were real, interest rates would not be held low for so long, and the Fed would need to support the stock market. After it stopped the corporate world stepped in via the illegal usage of Stock buybacks. Now instead of trying to improve the bottom line, they focus on simply buying back more shares and in doing so artificially boosting the EPS. It's a perfect scam, no work and big pay; and as interest rates are low, the incentive to borrow large sums of money to do these dirty deeds is larger than ever. Hence expect stock buybacks to surge to levels that will appear insane one day.

Game plan

The negative rate wars have just begun, and it's a matter of time before our central bankers take the same path. This ultra low rate environment created the perfect backdrop for speculation. Individuals and corporations looking for better returns were forced to speculate.

However, the corporate world took things a step further; they went on share buyback binge, and this binge is not showing any signs of letting up. It allows corporations to borrow money for next to nothing and then use these funds to buy back massive amounts of shares and in doing boost the EPS (Earnings per share). Negative interest rates will be akin to offering a crack addict, super crack; do you think he is going to refuse this offer? Negative rates will provide rocket fuel to the share buyback programs. Individuals should expect corporate debt to hit insane levels before a top is in; while today's debt levels might appear insane, they will look sane in comparison to corporate debt in the near future. Thus, all strong corrections should be viewed as buying opportunities. From a mass psychology perspective, this is still the most hated bull market in history and until the masses embrace, it is destined to run a lot higher than most envision.

Lastly, we would suggest having a core position in Gold; at some point in time Gold will start to
react strongly to this massive form of currency debasement. Currencies are being destroyed on a global basis at a level never seen before. This will not end well, but as we have pointed out many times before, being right does not equate to market success. One has to look at the time factor, and most individuals do not have the staying power to bet against the Fed. Wall Street is full of tombstones of good men who were right but could not stay solvent long enough to benefit from their insights.

Hence, we would not bet the house on Gold and nor should you. No matter how good an investment appears to be, one should never put all of one's eggs in one basket.
"And what is an authentic madman? It is a man who preferred to become mad, in the socially accepted sense of the word, rather than forfeit a certain superior idea of human honor. So society has strangled in its asylums all those it wanted to get rid of or protect itself from because they refused to become its accomplices in certain great nastinesses. For a madman is also a man whom society did not want to hear and whom it wanted to prevent from uttering certain intolerable truths."  
~ Antonin Artaud

BlackRock Joins Pimco Warning Investors to Seek Inflation Hedge    

BlackRock Inc. joined Pacific Investment Management Co. in recommending inflation-linked bonds and warning costs are poised to pick up.

“Stabilizing oil prices and a tighter labor market could contribute to rising actual, and expected, U.S. inflation,” Richard Turnill, BlackRock’s global chief investment strategist, wrote Monday on the company’s website. “We like inflation-linked bonds and gold as diversifiers.” New York-based BlackRock manages $4.6 trillion.

Federal Reserve Chair Janet Yellen will get a chance to give her views in a speech Tuesday at 12:20 p.m. in New York. Pimco, which manages the $87.8 billion Total Return Fund, and BlackRock have both told investors this year that inflation is picking up. Fed officials Stanley Fischer and James Bullard chimed in this month to say costs are increasing, driving speculation the central bank is moving closer to raising interest rates.

The U.S. 10-year note yield fell four basis points, or 0.04 percentage point, to 1.85 percent as of 8:58 a.m. New York time, according to Bloomberg Bond Trader data. The 1.625 percent security due in February 2026 rose 11/32, or $3.44 per $1,000 face amount, to 98.

The Treasury Department is scheduled to sell $34 billion of five-year notes on Tuesday, which yielded 1.35 percent in pre-auction trading.

Portfolio Losses

The BlackRock Inflation Protected Bond Portfolio has lost 1.5 percent during the past 12 months, while the Pimco Real Return Fund has lost 1.8 percent, based on data compiled by Bloomberg. Both funds were beaten by more than 60 percent of their peers.

“If you look at inflation expectations as they are reflected in the bond market we think they are too low,” Joachim Fels, global economic adviser for Pimco said in an interview with Francine Lacqua on Bloomberg Television’s “Surveillance.” “We still think markets are pricing in too low a profile for inflation. We don’t think inflation will move significantly above central bank’s targets but we think that there’s a good chance that over the next 12 months or so, particularly in the U.S., that we will get back to 2 percent.”

The Treasury market inflation outlook and oil prices have both risen from lows for the year set in February. A government report April 1 will show U.S. employers added 210,000 workers in March, after hiring 242,000 in February, according to a Bloomberg survey of economists.

Inflation Outlook

The difference between yields on 10-year notes and similar-maturity Treasury Inflation Protected Securities, a gauge of trader expectations for consumer prices, has increased to 1.55 percentage points from as low as 1.12 on Feb. 11. It’s still below its average of 2.08 for the past decade.

The Fed’s preferred inflation gauge rose 1 percent in February, a report showed Monday, half of the central bank’s target of 2 percent.

“We may well at present be seeing the first stirrings of an increase in the inflation rate --
something that we would like to happen,” Fischer, vice chairman of the Fed Board of Governors, said this month.

Policy makers should consider increasing interest rates in April in reaction to a tightening labor market and the prospect of inflation overshooting the 2 percent target, Fed Bank of St. Louis President Bullard said March 23. He said in separate comments inflation hasn’t materialized as he expected. Fischer and Bullard both vote on monetary policy this year.

The central bank’s next meeting is April 26-27. It probably won’t raise rates until September, futures contracts indicate.

“We like Treasury Inflation Protected Securities,” Pimco’s Worah said in a video on the company’s website this month. “The market is pricing 1 percent inflation in the United States for next year. We think it’s likely to be closer to 2 percent.”

Investors Should Listen To The New Goldcorp CEO When Screening Their Gold Explorers

by: Hebba Investments

- The new Goldcorp CEO emphasizes that the new normal for gold production is flat to negative.
- This will make explorers even more valuable for investors.
- Majors are cutting greenfield exploration and pursuing strategies of seeding explorers.
- Investors should be looking at gold explorers with "seed" investments from majors.

We think it is critical for precious metals investors to listen to what PM CEO's are saying as ultimately they are the ones with a ground floor view of the industry. David Garofalo, 50, will become chief executive of Goldcorp (NYSE:GG) next April, when Chuck Jeannes retires and he is leaving his current role as CEO of HudBay Minerals to take the Goldcorp job. In a recent interview, he gave a brief view into the industry and spoke about what would make a quality acquisition for Goldcorp.

This is very important stuff for investors and we believe that there are key takeaways that can help precious metals investors improve their portfolios and buy the explorers that gold majors are going to be the most interested in.

Flat is the New Normal for Gold Production

The first thing that came up in the interview was the fact that Goldcorp is preparing itself for a low-to-negative growth environment for gold production. "Flat is the new growth in our sector", Mr. Garofalo mentions and even that we think is optimistic as we think declines in production is the new normal for most gold companies.

In fact, gold reserves have declined significantly over the past three years.

Source: Goldcorp Investor Presentation

Investors need to remember that as miners mine reserves they will naturally go down, but in the past miners were able to replace these reserves - that's no longer happening. There is some lag between declining reserves and declining production, but the chart below shows we may be at that inflection point where the lack of past discoveries directly influences current production.

Source: Goldcorp Investor Presentation

The point here for investors is that as production declines and flat or negative gold production becomes the new normal, majors will be forced to acquire deposits. That's very important as that means that explorers that have good assets (or even mediocre ones) will become even more valuable.

That means the right explorers will provide much better returns than the mid-tier and major gold producers - it will become a seller's market for good assets.

Majors Are Seeding Explorers Rather Than Exploring Themselves

That brings us to the second takeaway from the interview - Goldcorp is seeding explorers rather than conducting the expensive Greenfield exploration that it has conducted in the past.

As Garofalo emphasizes, "We are diversifying our grassroots exploration risk by proxy through existing junior vehicles and make a portfolio push towards what is the highest-risk part of the value creation equation and then, when they've sufficiently derisked the projects, we marry them with our strong balance sheet, mine construction and operating experience and expertise."

Essentially, Goldcorp wants to outsource the riskiest part of the process to explorers and then buy projects that are shovel-ready and just construct the mine - which isn't new. But what is new is the degree to which this is being done by Goldcorp and the rest of the industry. Capital budget cuts have been killing Greenfield exploration budgets and are making explorers (and JV's with explorers) virtually the only source of Greenfield exploration.

That's another reason to be bullish on the right explorers as majors really have no other source of new deposits - which is even more important to the miners with lower reserves. To solve this problem, Goldcorp is embarking on seeding these explorers with JV type investments - and we don't think they are the only one.

That means investors should pay much more attention to explorers that have significant investments by majors - much more so than they have done in the past. That is why we are focusing on these types of exploration companies as we have outlined in a previous piece where we outlined three explorers with investments from majors.

Two Important Characteristics Goldcorp is Looking for in Deposits

Finally, Mr. Garofalo also provided us with the important characteristics that he looks for in Greenfield exploration plays - a minimum of five million ounces of potential production and in stable jurisdictions. While this may be specific to Goldcorp, other companies are probably thinking and screening for the same thing.

Unfortunately for investors, these two criteria are extremely rare in deposits that are economic at current gold prices. So we think prudent investors should think a bit more liberally and focus on deposits that have 3 million potential ounces in stable jurisdictions - a bit easier but still very few qualify for even these lesser standards.

Conclusion for Investors

We are focusing on these types of exploration companies and plan future pieces outlining explorers that fit this bill, but we would love to hear from investors in the comment section on their favorite companies that have a minimum of 3 million potential ounces, are in a stable jurisdiction, and have a project that is sufficiently economic at current gold prices.

Ultimately, the interview with Mr. Garofalo highlighted that gold production from the industry five years from now is going to be quite different than it currently is - much lower. Thus investors need to prepare for this new normal in gold production and purchase the explorers that the gold majors will want to purchase as future production drops.