Market Opinion

 

Michael Campbell:  I just love this chance to Martin Murenbeeld,  Chief Economist of Dundee Wealth because of course there is so much drama that is impacting directly the investment markets, Greece, Italy,  Spain and the bond rates etc. . What does that mean to investors and why should we care about these stories?

Martin Murenbeeld: Oh gosh! The big issue is if Europe goes into a very significant recession, or heaven forbid a mild depression,  we are going to have ramifications right around the world. Certainly companies in Canada and the United States that have an exposure or are selling into Europe are all going to be affected. You also have the bank side, the exposure of the US banks to Europe is not very high when you compare it with the exposure of European banks to Greece and Italy but there will still be linkages there and there will also be some very minor linkages between the Canadian banks and the European financial sector. Bottom line, nobody will really escape an implosion in Europe.

Michael:Let me just say I have not been this pessimistic in quite a while. In terms of societal dislocation, a lot of disruption and I think its going to be with us for a while. I don’t see a way out of the Italian problem that doesn’t spell some pretty negative consequences, some worse than others, and I’ve looked at their numbers. Can you manage the dislocation or is it just sort of jump all over us?


Martin: Well yes, the solutions that are being presented are sort of coming down to two, and probably the second one is not a solution. The first one as you are probably aware the French have began to insist that the European central bank should step into the market in massive amounts to buy Italian debt, Greek debt, French debt, Spanish dept and so forth to keep those interest rates down some what because as you know, the higher the interest rates get for those countries, the more it taxes and the government fiscal position and a larger amount of money in the budget ends up debt servicing and it gets to the point where the the countries cannot support it.

Michael: It’s a pretty straight forward thing. Nobody wants to lend those countries any money. I mean the major private clientele around the world would think you are nuts if you said, ‘Hey I got an idea. Let’s go buy some government debt out of Italy or Spain. Nobody who has a choice wants to lend these people money so hence, they’ve got to go to other bodies like the International Monetary Fund, the European central bank or some other entity,  hey just simply won’t get private investors interested at this point.

Martin: Well that what the rise in interest rates is all about, the higher the interest rates go the hope is of course the more it encourages the private sector invest, but you’re absolutely right the private sector is balking.  I overheard somebody saying on business network the other day, the fellow said ‘you know I think Italy will make it’ and then pause ‘but not with my money.’ That’s the situation we are in. Somebody has got to buy the debt otherwise interest rates just keep rising and rising and rising. Greece is already putting a haircut on the debt it owes and at some point Italy will say ‘listen, we cannot pay these interest rates, we cannot pay the debt.’ It comes down to somebody having to buy debt, if it isn’t the private sector its going to be the ECB which is what the French proposal is. The Germans are aghast to this proposal, they do not want the ECB to go in and buy debt from these various governments so if we follow the German model which is the model we are currently on, I have almost no doubt at all that we are going to have a breakup of the Euro.

Michael: One of the things I love about your research is you always put out probability scenarios of which way we are going. If the euro breaks up and it’s a sudden shift, you know how fast it can overcome us like bottom line is that if the European central bank doesn’t want to lend any money and individual investors don’t want to lend any money then you get the Greece like situation that is not doable. So with the euro, what would it look like and what are some of the scenarios if the euro just can’t keep going the way it is.

Martin: Well there are different ways that the euro could split up. My preferred way, lets start with the nicest way,  is where the northern European countries, the triple A rated countries, the countries that don’t have these massive debts, the countries that can service their debts they leave the euro. Not that Greece leaves, but the Germans and the Dutch leave. And the reason for that is what is left is what we call the Latin block or the Southern European block and that block retains the euro. So that Southern Block keeps all the debts of those countries, denominated in euros which they by in a large owe to the northern half of Europe.

Okay now obviously what will happen when the northern half breaks away, they will have their own currency, will call it the Deutsche mark or the North Euro it doesn’t matter and that currency is going to rise against the southern euro. But from an accounting point of view, everything kind of stays the same, the debts that Italy owes to the German banks and so forth and to the French banks will all remain denominated in euros. A German Bank operating under the north Euro block now, will obviously get paid back in Euros which will be less than north Euros, so they loose but they are going to loose anyways.

At this point and time, the northern countries are going to loose big time no matter what happens, that’s the nicest way. The worst way things will break up is that you get some kind of a rogue withdrawal of Greece and possibly even Spain and Italy and that will then immediately shock the system. You and I will do exactly like the fellow I just quoted, we are not going to lend any money to anybody over there because we don’t know where the rot will go. Remember after Lehman went under general electric had trouble rolling over its short term paper and you wonder what the heck is general electric got to do with Lehman? But the point is, you and I will not be lending and that then spells a disaster.

Michael: With all the uncertainty that’s in Europe about who can pay their debts, whose going to do it, if they can resolve it. Do you see this as a scenario though that could be very positive for gold or for the US dollar as examples.  

Martin: I think generally speaking yes. I mean it will be, at the moment as we speak you know that the gold market has been a little bit rocky because you know there is always the other things at play in the gold market. Suppose we go into recession or God forbid a mild depression in Europe that’s going to shock the international economy and so the international economy gets dragged down a little bit so that’s the other side. That could pull gold down a little, down somewhat. But you know if the world goes in that direction then there is no doubt in my mind that within relatively short order you are going to see a significant amount of fiscal and monetary stimulus certainly in the United states. In Canada too,  I mean the bank of Canada has said a number of times it stands ready to put liquidity in the system if and when its needed. However it happens in Europe, whatever currencies are working in Europe the central banks behind those currencies will also be printing to curtail the negative drag in economic activity and all of that will be very, very beneficial for gold. In fact I could see gold breaking the $2,000 barrier in that sort of a scenario.

Michael: I could see a scenario where major pools of capital that don’t have a lot of choices to move to go the the US Dollar,  or the Yen, especially on the short term.

Martin: Yes absolutely, I mean there has been some attempts for money to move into the Yen, and you saw the bank of Japan did. They basically said hey we don’t want the Yen to go up and they started intervening heavily. The same thing was happening to the Swiss Franc which probably if you are sitting in Europe that would be your first move. You’d move your Euros over to Switzerland and you probably wouldn’t keep it in Euro’s because you are not entirely sure that there is going to be a Euro a year from now. So you convert them to Swiss francs. and the Swiss franc was going crazy against the Euro so the Swiss national bank has come into the market and said “hey enough is enough” and it’s time to suppress the Swiss franc. So you are right in that regard that large money you know will move to the US dollar.

We are also getting reports that there is quite a bit European buying of high priced property in London. I mean basically money is moving to where it can go, where the markets can absorb it and its driving the prices of those things up and that includes the US dollar. You  know I’m gold friendly but frankly if you want absolute safety,  you buy US treasury bill. That’s the only thing that I can guarantee you are going to get exactly your full amount of money back. You put a $100 in US treasury bills you are going to get a $100 back.   

Michael: If money is going to be flooding in to the US and Canada does this mean that interest rates will stay low in our neck of the woods for quite a while?  

Martin: Oh absolutely yes there is no doubt in my mind and for several reasons. First off the fed is more or less promised that they are not going to raise interest rates before the middle of 2013. I don’t see the bank of Canada raising interest rates in fact there is a reasonable probability the bank will be lowering interest rates a little bit. Interest rates here are going to stay low. If I were to think outside the box a little bit on this one you could conceivably come up with a scenario where by the Chinese are encouraged to support European paper.

So let’s say the Chinese start to buy Italian debt because they have, 3.2 trillion in reserves right so they could do that, but then the question is where does that money come from because it isn’t sitting around, its invested. So then the Chinese would have to sell off US treasuries to go and buy Italian paper,  but those are very low probability sort of scenarios.  

Michael: Low probability but it’s a reminder for investors that one of the reasons we have such huge volatility today is because of these major pools of capital and what if they move. It’s a level of uncertainty because I agree with you it’s a low probability that the Chinese decide to bail out the Italians but it is possible and they sure aren’t going to be phoning me or any other analysts before they make the move.

Martin It will be an announcement and that will change the whole ball game.

Michael: Lets go to back to volatility, as an investor we are sitting trying to determine if its a buy day, a sell day,  you know there such major moves.

Martin: You know for an economist it’s a great time.  On Monday my left hand is right and on Tuesday my right hand is right,  I mean it can get better. I can have whatever scenario and I’m likely to be right one or the other day,  it’s that kind of a crazy world at the moment.

Michael: But tough for an investor.

Martin:  Its very, very difficult for an investor so you play this very safely. I encourage investors to have some gold exposure because at the end of the day no matter how this all unfolds there will be loose money printing, in other words central banks buying government debt. That’s what we call money printing. There will be some of that going on and gold is very sensitive to that. So I’d want investors to have some gold in the portfolio, Obviously we have some products at Dynamic that we think we are interesting but you know don’t want to make a plug for that.  that, I think Other stuff that I like are very good companies that are good dividends payers.

Michael: That’s great advice and I think again people want it to be simple but its not, its complex.  I’s uncertain out there. So I think your money has got to reflect that, that’s something I’m always saying Martin,  is when uncertainty raises I’m worried about preserving my capital. Also I couldn’t agree more with you if you got some high quality companies that pay off some dividends.

Martin Murenbeeld chief economist of Dundee Wealth Management always terrific to talk to you.

 

With the worsening Eurozone crisis and the failure of government to manage the U.S. debt responsibly, markets are fearful of a meltdown. Traders are driving prices down in the knowledge that many positions are geared [leveraged] and exposed to margin calls. Other positions are protected by ‘stop loss’ instructions, so can be triggered by prices moving down through support levels. Potential buyers are in no hurry to enter the market, either because they feel there is further to fall or because the volumes dictating price moves are too thin to get the sort of positions they want. Overall, the investment climate is very wintery from the bottom of the financial structures right up to the markets themselves.

In this investment climate, the market forces that should prevail are not doing so. The rational approach has been sidelined as markets are blown this way and that by emotions, fears, and knee-jerk reactions. This has always proved to be short-lived with investors kicking themselves afterwards because they did not act rationally. Falls become too extensive just as price ‘spikes’ do so too. Hindsight is an exact science but useless when looking forward. Now, we have to look forward. The way we do that is to look at the forces in play beneath the surface and see their direction. Take a point in the future and see what should happen if these forces keep going in that direction. What place are they taking us to?

The ‘Big’ Picture

The long, slow process of the globe’s wealth moving from the west to the east has been going on for years now. There is no sign that this will change in the next decade. China and India have low-paid, highly intelligent people who will continue to do the job cheaper than, and as well as, in the west. Capitalism, by its nature, takes work to the lowest cost place it can. So the west is directly helping this process along. The first to suffer from this process is the developed world workers who are seeing their jobs go east. The U.S. and European (with the exception of Germany, so far) unemployment figures testify to that.

With growth fading fast in the developed world, the days of live now, pay later have come to an end. Now it’s pay now and live later as the developed world looks at the debts it has incurred and the falling cash flow with which to repay them. As with individuals, when you have to repay debt, you don’t spend, so the economy must lower its performance levels until the process is over. It is naïve to think that you can have growth and repayments when economies rely so heavily on consumer spending. It’s with horror that the developed world sees just how much their borrowings have overshot acceptable levels.

Hence the traumatic situation the U.S. and the E.U. find themselves in. We may well be looking at a battle to save the euro itself as France as well as Greece, Spain, Portugal, Italy and Ireland see the yields on their government bonds shooting up to unacceptable and unsustainable levels. It’s a little better across the Atlantic where the U.S. has the advantage of fiscal union (which we do not believe the E.U. will be capable of achieving) and one overall government supposedly capable of correcting debt levels. The single government and federal financial structure was supposed to have relieved much of the trauma in the U.S., but the failure of the super-committee to lower debt voluntarily bespeaks a deeper malaise that goes to the heart of the mix of democracy and financial management. It’s becoming apparent that the U.S. government will not be able to function properly until the next election in a year’s time and then only if the elections produce a government with a dominant majority.

As a consequence, the currencies of the developed world have a time limit on their global dominance. It is unavoidable that if China continues on its path to power and wealth, that its currency will become a global reserve currency with the dollar and the euro moving into second place, or alongside it. When it suits China, the Yuan will be thrust into the global scene and bring tremendous uncertainty to the monetary system. It is unlikely that China will cow-tow to the developed world then. Whatever the pressure placed on the monetary system in the future, the level of uncertainty in values will grow. The current climate of volatility will worsen as the current accord between the E.U. and the U.S. on currency matters will diminish as another global power brings far less cooperation and much more self-interest to the system.

By extrapolating these currents, we see a picture of greater uncertainty and instability than we see now. Along the way we will see dramatic casualties, which may undermine the ability of the E.U. and possibly the U.S., to influence matters. We may well see either minor or major financial accidents before China shares monetary power with the west.

The Present Situation

The current market falls are not just the result of a single event, such as Spain’s debt costs moving above 7% or the super-committee’s failure to cut spending agreeably. These are symptomatic of the big picture. Fears of the collapse of the euro and the eventual E.U. are very real now. If Greece gets its bailouts, then other nations cause fear to remain high. France has now joined the ranks of nations having to pay to borrow. It’s the underlying undermining of the value of the monetary system that’s causing one symptom after another to burst on the scene on an ongoing basis.

Tragically, the governments of the developed world are looking to protect their power. Junker of the E.U. put it this way, “We know what to do, the problem is being re-elected after doing it.” The fear not growing is that democracy is not capable of putting financial matters right because of the unpopularity it will bring. This is equivalent to taking the rudder out of the water. The drift towards financial accidents appears inevitable.

The interconnectedness of the global banking system – It appears that the debt events of the last 18 months in the developed world are moving almost osmoticaly to a banking crisis as banks fear to lend to one another, uncertain of the sovereign debt values and the holding of those debts by the banks they would normally lend to. This is threatening to freeze up the banking system and not simply that of the E.U.

The fall in the gold and silver prices may well appear inconsistent with its preserving qualities, but when one takes into account the need for immediate liquidity to protect the investor, it is consistent. Once the immediacy of finding liquidity is satisfied, then we see investors returning to the precious metals as they did after the first strike of the credit crunch in 2007. This time round, liquidity needs are not so pressing as then.

The threat of a fall in the gold price to $1,500 appears real at the present moment. Because the fall is being driven by short-term traders and the triggering of stop loss positions with buyers waiting for new support, the situation is a short-term one not affected by the fundamentals of the precious metals markets, which remain excellent. Just as we can have a ‘spike’ to the upside, so we can have a ‘spike’ to the downside. Right now we have see falls from the $1,900 area back to around $1,677 a fall of around 12%. A fall to $1,500 is a fall of 21%, which would be justified if the market fundamentals had deteriorated. But they haven’t. If investor meltdown becomes severe in the precious metal markets to the extent of a fall to $1,500, then it implies the same to the entire global financial markets. Investor meltdown will affect all markets as it has done recently and in 2007. This would paint a disastrous picture for global equity markets for sure. This is possible!

But in the last few days, we’ve seen good buying of gold into the U.S.-based SPDR gold ETF as well as a flight to U.S. Treasuries as last resort paper –if the U.S. bonds sink then everybody’s bonds will sink. Russia has just reported an 18.6 tonne purchase of gold in October as part of its ongoing gold buying. Several other central banks are following their path. This confirms the excellent fundamentals of gold. Even in the current deteriorating global financial scene, expect investors to soften their flight to Treasuries with expedient buying of gold as we are currently seeing. Will this hold off the fall from reaching $1,500? We feel it would be foolish to specify a specific price having seen so many such forecasters prove wrong when they do this. While it is possible, if it does go there it will be only briefly, but more likely by then the tide of investment into gold that we have seen in the last decade will return to gold before it does. But we will have to wait and see.

 

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Dear Clients, Industry Colleagues and Friends of Barnhardt Capital Management,

It is with regret and unflinching moral certainty that I announce that Barnhardt Capital Management has ceased operations. The reason for my decision to pull the plug was excruciatingly simple: I could no longer tell my clients that their monies and positions were safe in the futures and options markets – because they are not. And this goes not just for my clients, but for every futures and options account in the United States. The entire system has been utterly destroyed by the MF Global collapse. Given this sad reality, I could not in good conscience take one more step as a commodity broker, soliciting trades that I knew were unsafe or holding funds that I knew to be in jeopardy.

 

I have learned over the last week that MF Global is almost certainly the mere tip of the iceberg. There is massive industry-wide exposure to European sovereign junk debt. While other firms may not be as heavily leveraged as Corzine had MFG leveraged, and it is now thought that MFG’s leverage may have been in excess of 100:1, they are still suicidally leveraged and will likely stand massive, unmeetable collateral calls in the coming days and weeks as Europe inevitably collapses. I now suspect that the reason the Chicago Mercantile Exchange did not immediately step in to backstop the MFG implosion was because they knew and know that if they backstopped MFG, they would then be expected to backstop all of the other firms in the system when the failures began to cascade – and there simply isn’t that much money in the entire system. In short, the problem is a SYSTEMIC problem, not merely isolated to one firm.

comment via Karl Denniger:

Oh boy.

Look folks, the risks involved here are real.

Rick Santelli was just on CNBC pointing out that there have been no answers forthcoming on the MF Global mess. There are reports that several people who you would never expect to have gotten caught in something like this did, including Gerald Celente.

The reason they got caught is the same reason I would have gotten caught if I had been clearing through MF Global: Despite being around the markets since well before the 2000 crash and having successfully negotiated that and the 2008 mess everyone has believed, right up until MF blew up, that customer funds were in fact segregated and thus this risk would never occur.

Simply put everyone has now discovered that this assumption is wrong.

Nothing that has come out of the CME, the SEC or Washington DC that has restored my confidence that MF Global is, in fact, a one-off situation. In point of fact The Fed is now requiring margin on certain repo transactions where they never did before, implying that there may well be additional snakes in the grass and additional unrecognized and intentionally hidden risks of this sort.

Read Ann’s entire missive. Yes, it’s highly partisan, but given what has just happened and Obama’s continued insistence that “no crimes were committed” (yet no grand juries have been convened to investigate, so how would he know?) it is entirely justified.

Folks, we must insist that the rule of law be brought back into the forefront. We mustdo this particularly with credit instruments and other OTC derivatives and that has to happen right now. In addition all off-balance sheet BS must be ended immediately.

I have, since 2007, advocated that all credit instruments be forced onto an exchange and that cash margin be required on all underwater positions, marked nightly, without exception or offset. This has been “pooh-poohed” as impractical due to bespoke contracts and other considerations.

Now it turns that I was in fact right – there were additional “snakes” in the grass that were cheating. First we had ENRON, then Bear and Lehman and now this.

Here’s reality folks: We either fix this problem and do it now or you had better pray that Europe doesn’t detonate, because if it does you’re going to see the very thing that everyone was talking about back in 2008 happen on a global scale, it’s a hundred times the size that Lehman was, and we will not be immune to it here in the United States — in fact we’ll damn near be the “center of the sun!”

There is the potential for an imminent cascade failure on these contracts just as there was in 2008; it has not gone away, it has not been attenuated, it has in fact grown in size since 08 and if we do not act to put a stop to it and the risk becomes realized it will be too late.


S&P Likely Headed Toward 1280-1300 As Excitement Grows Over A European Bailout – But It May Still Be A ‘Dead-Cat’ Bounce.

STOCKS – BEAR

German Chancellor Angela Merkel said that a European Union summit in five days will mark an “important step,” though not the final one in solving the euro-area sovereign debt crisis. “These sovereign debts have built up over decades, so they won’t be ended with one summit,” Merkel told reporters in Berlin late today. While European officials recognize their responsibility to stop the crisis, “this will require tough, long-term work.” The comments marked the second time in two days that Merkel sought to lower expectations that the European crisis-fighting effort would climax at the Oct. 23 meeting in Brussels, as international officials are advocating.

These comments have tempered the post-market climate a bit yesterday, but the fact the market reversed on increasing volume says to me that the ‘powers that be’ (the PPT and others) are hell bent to get this market higher, if only temporarily. A reasonable short-term target for the S&P 500 now appears to 1280, the Dow Industrials to 11,950, the Total Stock Market Index ETF (VTI) to 69.00 and the TSX to 12,400. Beyond those levels, a more serious upside advance could unfold, but I suspect once we get to those levels a decent short-term top could be formed. Basically, I do not wish to fight ‘seasonality’ in the market at this time, despite some evidence that we have possibly entered a bear market. We also have strong political forces at work ahead of next year’s U.S. Presidential election. For that reason (plus the fact yesterday was a potential ‘Turnaround Tuesday’) and despite my ‘SELL’ signal from yesterday, I took profits in the SH, DOG and short IYT yesterday morning into weakness. My thinking is that we can hit those upside targets if not from current levels, perhaps after another pullback. I will likely once again switch to a NEUTRAL signal and trade accordingly long and short. Coming into today, we’re in cash.

GOLD – BULL

I remain a nervous bull (short-term) because of the manipulation in the markets and some short-term negative technical patterns. That said, we could still see a rally into the 1700s (or high 1700s) in the gold whether or not we later test or break the lows. Any significant weakness, however, should be used to buy the physical metal.

BONDS – NEUTRAL

I remain NEUTRAL on the bond market, but I suspect we’re going to see another rally as the after the current rally runs its course.

 

 

 

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