MF Global Files For Bankruptcy On European Sovereign Debt Exposure via Repo Trades

These swaps and shadow banking markets continue to put financial firms at risk even after the 2008 financial crisis. MF Global went bankrupt (DealBook) today because they took on European sovereign debt exposure, via "repo-to-maturity" trades with so called "limited risk", until things turned for the worse by the end of October. MF Global explained the events leading up to its Chapter 11 filing in a bankruptcy declaration today: 1) On October 24, 2011 MF Global was downgraded by Moody's to one notch above junk; 2) On October 25, 2011 MF reported a $191 million loss for the second quarter and was forced by FINRA to "announce that MFGI held a long position of $6.3 billion in a short-duration European sovereign portfolio financed to maturity"; and 3) on October 27 it was downgraded by Moody's and Fitch to junk, which forced collateral calls from counterparties and concerned clients to pull their money from the institution. Also read the bankruptcy petition (via DealBook). The blog Distressed Debt Investing has more detail on the bankruptcy filing and the bonds.

MF explained their low-risk revenue strategy in an October 2011 fact sheet embedded below. It's another example of how these so called low-risk trades can end up destroying financial institution equity in a matter of days. Here's an excerpt from the fact sheet.

"Revenue diversification strategy

In keeping with MF Global’s ongoing strategy to diversify revenue streams, the firm expanded client facilitation and principal activities across a variety of asset classes. As previously disclosed, we have seen revenue opportunities in the short-duration European sovereign markets. 

The following provides more detailed information on MF Global’s short-term European sovereign portfolio and solid financial position. 

Background on transactions: European sovereign portfolio as of September 30, 2011

• MF Global maintains a net long position of $6.3 billion in a short-duration European sovereign portfolio financed to maturity (repo-to-maturity) 

• We entered into reverse repurchase and repurchase transactions to maturity, as the firm does in U.S. government securities 

• The firm’s European sovereign portfolio financed to maturity (repo-to-maturity) includes:

Source: http://phx.corporate-ir.net/

And towards the end of the document they talk about risk being limited.

Solar Energy Companies Worldwide Threatened by Cuts in Government Subsidies - Guest Post

Photovoltaic power plant near Po river
Photovoltaic Power Plant (Italy) - NightFlier on Flickr
Guest post by OilPrice.com

In any country, at the end of the proverbial day, both energy utilities and consumers are finally interested in the technologies that generate a kilowatt of electricity most inexpensively, all other considerations aside.

Accordingly, all countries involved in solar energy are optimists, but nascent industrial efforts to generate power on a commercial scale from the sun are without exception dependent upon current government subsidies to enter the market, which is littered with optimism, the failure of U.S. federally subsidized company Solyndra being Exhibit A.

But countries worldwide are seeking government support to shield their embryonic solar industries from market realities until conditions improve, and few countries are more caught between the realities of the "free market" and national priorities in developing energy alternatives than Israel, whose energy imports remain a major topic of concern to the government. Subsidies are viewed as critical worldwide by solar producers, especially in a recession market, but fiscal realities are asserting themselves, which alternative energy companies warn could kill their efforts.

America Going Green: U.S. to Provide 71% of World's Biofuels by 2021? - Guest Post

2008-09-28 - Liberty Corn Maze - 0020
Source: Flickr (Smitme)
Guest post by OilPrice.com

A recent study, released on 11 October, "Biofuel Markets and Technologies" released by Pike Research states that the global biofuel market will double within the next decade to $183.3 billion from its current level of $82.7 billion, with ethanol production accounting for $78 billion of future worldwide biofuel production, while predicting that biodiesel production will reach $25.5 billion. Perhaps not surprisingly, Pike Research predicts that the US will become the world's leading biofuel producer, accounting for 71 percent of alternative fuel by 2021.

Colorado-based Pike Research on its website defines itself as "a market research and consulting firm that provides in-depth analysis of global clean technology markets."

How realistic a prediction is this? Many in the media are utilizing the company's press release on the gist of the report, as one has to be a user to login even to find out the price of the report, which the website helpfully notes, contains 144 "Tables, Charts, Figures."

So, is America about to go ever more green to raise ethanol?

Distressed MF Global Is Trying To Sell Its Futures Brokerage, Goldman Buying MF Assets?

MF Global Holdings (MF) Stockcharts.com
MF Global (MF), a world leading broker-dealer for "futures and options, commodities, fixed income, equities and foreign exchange" run by John Corzine, closed at $1.20 today, down from $4 at the beginning of October. MF Global's bonds maturing on 8/8/2016 (MF.AD, 6.25% 6.25% fixed coupon, FINRA has variable not sure why) last traded at 49 cents on the dollar with a 25.20% yield (source: TRACE at finra.org). Are there credit default swaps? MF Global is also "one of the 22 primary dealers authorized to trade U.S. government securities with the New York Fed". It looks like MF is on the wrong side of a few trades in european sovereign debt, or actually repurchase agreements collateralized by euro government bonds.

Bloomberg on their exposure:
"The firm, which has a market value of $198 million, holds $6.3 billion of sovereign debt from Italy, Spain, Belgium, Portugal and Ireland that it’s using in repurchase agreement trades with customers." (Bloomberg)

MF was just downgraded to junk by Moody's and Fitch, and, according to Reuters, some MF Global clients are pulling their money from the brokerage. As a result, MF Global tapped two credit lines and is now trying to sell-off its futures brokerage unit to raise capital ($765 million?).

Dick Bove, analyst at Rochdale Securities, thinks Goldman Sachs is scooping up MF Global assets at distressed prices, and believes they will make a "huge windfall profit" (watch after jump). This reminds me of Dick Bove talking about Lehman on Bloomberg in August 2008 during the financial crisis! The Wall Street Journal, via Fox Business, mentioned there were other firms interested as well. Watch Charlie Gasparino, of Fox Business, explain what's going on after the jump.
"According to The Wall Street Journal, Goldman, State Street and Australia’s Macquarie are all either eyeing New York-based MF Global or its parts. Other firms may also be looking at the company, but any deal would be expected to happen quickly as its stock plunged below $1 on Friday." (Fox Business)

Update: J.C. Flowers, MF Global in Talks (DealJournal). J.C. Flowers already owns 6% of MF Global's preferred stock and is on the board. J.C. Flowers injected $300 million into MF in 2008 after the firm suffered $141 million in trading losses from rogue trades in wheat futures. According to DealJournal, "they cautioned a deal may not happen". Seems like principal trading activities have worked out quite well for financial institutions recently (wtf?).

Links: Euro Deal, Greek Banks, Dalio, Chanos, Birinyi, S&P's Biggest Monthly Gain Since 1974

Greek Bank Investors Facing Wipeout (Bloomberg)

China on ‘Bigger, Faster Treadmill’: Jim Chanos of Kynikos Associates (Bloomberg, Video)

Italy 10-Year Auction Yields Hit New Euro Lifetime High (Reuters)

Goldman Economist Says Chinese Inflation ‘Basically Controlled’ (Bloomberg)

S&P 500 Extends Best Month Since ’74, Euro Rises (Bloomberg, Carpe Diem) *see monthly candlestick chart below

There's A 30% Chance Of Another Global Downturn - Bridgewater Founder Ray Dalio (WSJ, sub)

Video of Ray Dalio on Charlie Rose (CharlieRose.com)

Risk on the rise as political leaders give in to mob rule (Financial Times)

The Great American False Dilemma: Austerity vs. Stimulus (Gregor.us)

Birinyi Associates: Market at Extreme Overbought Levels (CNBC)

Albert Edwards: "The Eurozone Crisis Will Get Much, Much Worse" And "The ECB Will Print" (Zero Hedge)


All about the euro plan, Greek bond haircut and Greek CDS

EURO SUMMIT STATEMENT - 10/16/2011 (consilium.europa.edu PDF)

The euro deal: No big bazooka (Economist)

Chart: EUR/USD Sitting On Uptrend Waiting On EFSF Decision

EUR/USD at uptrend + ceiling intersection (freestockcharts.com)
EUR/USD, up 0.03% at 1.39280, is sitting on a steep uptrend line from the October low (as is the S&P), and waiting on the EFSF catalyst to make its next move. As noted on my charts, if EUR/USD reverses sharply and breaks through that steep trend line and the recent highs, it could see a decent retracement to the downside (imo). Overhead resistance is around 1.40, which took five long months to break if you remember, so EUR/USD is at a critical intersection.

Today, the EU summit meetings in Brussels and the German parliament vote will decide the fate of the proposed leveraged EFSF plan (European Financial Stability Facility), and will probably be the catalysts that directionalize the euro and equities. It's a pretty complex plan, and I'm still trying to figure it all out, so I'll refer you to a bunch of articles below for more information. The plan essentially involves the EU, IMF, other countries, sovereign wealth funds and private financial institutions (via Special Purpose Investment Vehicles) throwing money at distressed (toxic) sovereign debt and banks in the eurozone to prevent a major financial crisis. The EFSF, which is funded by EU member states (the majority by Aaa rated France and Germany), would backstop a portion of the losses. That's why the 10-year French-German yield spread hit a 20 year high last week and Moody's put France's "stable outlook" on review. But to make it all worse, should Greece or another country default, there are credit default swaps written on Greek debt with counterparty risk, similar to 2008.




Greenspan: Why European Union Is Doomed to Fail (CNBC Video)
Euro Investment Vehicle 'Giant Sub-Prime CDO' (CNBC)
Satyajit Das: Euro-Zone’s Leveraged Solution to Leverage (Naked Capitalism)
Merkel Puts Rescue Fund to Vote Before EU Crisis Summit (SF Gate)
Europe Struggles for Crisis Cure Ahead of Summit (Bloomberg)
Ferguson Says ECB to `Print Its Way Out of the Crisis' (Bloomberg Video)
Rescue plan could take weeks to fund, draft warns (Irish Times)
Brussels summit: the main issues to be resolved (Telegraph)
German Lawmakers Set To Back EFSF (WSJ)
Hard line adopted on Greek debt loss (FT)
Merkel Gambles on Parliamentary Support for Euro Backstop (Spiegel)
Europe Readies Its Rescue Bazooka (Naked Capitalism)
Annotated European Union Document On EFSF Status (Zero Hedge)
Italy steps closer to meeting EU demands with pension compromise (Deutsche-Welle)
Euro Backstop to Be Leveraged to One Trillion Euros (Spiegel)

S&P ETF Pulling Back At 61.8% Retracement, Has Crazy Monthly Candle - Chart

The S&P 500 Index ETF (SPY) is up 16% from the October 4 low and pulling back after hitting the 61.8% retracement level (May 2 high and October 4 low) and ceiling resistance. The 200 day moving average is at 127.61 and sloping downward (SPY hit a high of 125.78 yesterday and is now at 123.20, -1.82%, testing the uptrend). See charts below.

The market is pricing in all of these bailouts/stimulus plans in Europe and the U.S., as well as the potential for QE3 and a soft landing in China. Or, the market is pricing in the rally in credit spreads (Tom Lee of JPM), its own move creating economic growth via reflexivity, or perhaps the move is related to the huge spike in sunspots in October. But, many technical analysts (Katie Stockton, Tom DeMark) and portfolio managers (Jeffrey Gundlach) believe this is just a short squeeze in a bear market. Also, ECRI (Economic Research Institute) provided this reminder: "Flashback to an April 2008 interview discussing how ECRI's recession call remained intact despite a rise in stock prices and other data." See ECRI's recession call here. If the S&P manages to break through the steep uptrend line, it could pullback and retest some support levels (simple as that), then we'll see what happens.

There is a big EU meeting tomorrow and a German vote on the new EFSF (European Financial Stability Facility), which will be used to backstop losses from the Eurozone sovereign debt and banking crisis ("The EU paper, obtained by Reuters, shows two options for increasing the fund's firepower -- an insurance model and a special purpose investment vehicle (SPIV)"). See the linkfest below. This Seeking Alpha article said October could post the largest monthly gain in 54 years. That explains the massive green candle on chart 2. MACD on the monthly saw a downward crossover, just like it did in 2007. Also, if the 50 month moving average crosses the 200 month, that would not be good, imo. The market was able to stay above the 200MMA in August and barely in October.

What Next for Libya? - Guest Post

Colorful Old Oil Barrels
Source: L.C.Nøttaasen on Flickr
Guest post by John C.K. Daly of OilPrice.com

What Next for Libya?

Libyan Colonel Gaddafi's 42 year brutal reign is over, but the future looks murky ahead for a country primarily known for exporting oil and terrorism.

One thing is for certain - international oil companies will be packing out flights to Tripoli to cut deals for a piece of the action.

Libya remains the wild card, with only 25 percent of the country's oil potential territory explored. Whatever the demerits of the Gaddafi regime, it kept tight rein over its oil industry, and that, combined with international sanctions for its terrorist proclivities, largely stymied development of the country's resources, much in the way that the development of Iran's petrochemical sector has been largely devoid of foreign capital. After all, they did not call the 1996 U.S. legislation "the Iran-Libya Sanctions Act" (ILSA) for nothing. In September 2006 ILSA was renamed the Iran Sanctions Act (ISA), as Gaddafi was behaving himself more, but the damage to the country's energy infrastructure was by then deep and systemic.

The Libyan economy depends primarily upon revenues from the oil sector, which contribute about 95 percent of export earnings, 25 percent of GDP, and 80 percent of government revenue. All of this is up for grabs now.

Prior to the outbreak of conflict in February, Libya was exporting about 1.3-1.4 million barrels per day from production estimated at roughly 1.79 million barrels per day of high-quality, light crude, of which approximately a mere 280,000 barrels per day were indigenously consumed. But current production is the proverbial mere drop in the bucket. Libya has the largest proven oil reserves in Africa with 42 billion barrels of oil and over 1.3 trillion cubic meters of natural gas, according to conservative estimates.

Now that the fighting is apparently over, the issue of Libya's oil production will swiftly move front and center in international interests.

Tom DeMark: S&P Is Operating Against The Trend; Weekly, Monthly 13s Still In Down Mode (10/20/2011)

Source: Bloomberg
Tom DeMark, founder of Market Studies and creator of the DeMark Indicators, was on Bloomberg Television on 10/20/2011 sharing his views on the market. In bold letters below is his overall view that the market is still in a downtrend. His immediate-term outlook was more confusing though, at least in words. He said he sees downside risk in the near-term after this monster rally off of the October low, which generated a daily 13 signal. However, he said there's a possibility that the market could thrust to 1,250 on a positive catalyst out of Europe, but that would be "indicative of a market top" on good news. That is for the immediate term only. He thinks if the S&P hits 1246-1254 and sells off, the market would see an "extended period of sideways movement and then be resolved to the downside." Watch the video for more info.
"On May 2, we had a coincidence of what we call the combo and sequential indicators. They all spoke on a monthly, weekly and daily basis; they all produced 13s exactly the day and the week of May 2 (also in February). And at the August 9 low, combo and sequential only spoke of one voice, and that was a daily 13. The weekly and monthly are still in a down mode. So we're really operating against the trend."

Steve Jobs' Biographer William Isaacson On 60 Minutes (Video)

Last night, Steve Jobs' biographer, William Isaacson, was interviewed on 60 Minutes about his new book on Jobs' life story. Watch part 1 and 2 below. I also added the extra clip where Jobs talks about Bill Gates, Larry Page and Mark Zuckerberg. Interesting story.

JP Morgan's Tom Lee Still Expects S&P to Hit 1,475 By Year-End (Videos - 10/17/2011)

Source: Breakout on Yahoo Finance
Tom Lee, JP Morgan's Chief Equity Strategist (who's been bullish on the stock market since June 2009), was interviewed by Matt Nesto on Breakout (Yahoo Finance) on October 14 and 17, and told viewers that he expects a 20% rally in the S&P into year-end (1,475 target), which is a new bull market high.

"I think that this rally that we've seen since October is much more credible than the ones we've seen since July. The reason being, I think a very important market to watch when you're looking at equities is the high yield market. And the high yield market had been selling off on almost every rally, so you really had a big divergence. Since October 4, we've seen the biggest rally in high yield in 2 years. So I think you're basically getting a confirmation that investors are embracing risk again, which means the stock rally I think has a lot more legs to it." (video #1).

"And then as I look at Q4. We have to think about the fact that Brent Crude is down $25 from its high, that's almost a $3 tailwind to S&P earnings. And then these economic momentum indicators, like the Citigroup Surprise Index, have actually moved up. Historically that's been associated with an upward revision in S&P earnings." (video #1)

"I think it's going to be very possible to see something like a 20%+ rally from current levels in the S&P." (video #2)

S&P at 1,475 is in the 2007-2008 channel, around the peak (stockcharts.com)

Reasons why:

1) "Europe is moving towards the endgame" (finding a solution).

2) Macro risk of a hard landing in China is off the table.

3) Hedge funds have been net short the market, and historically get positive (bullish) when credit spreads rally and economic surprise turns up.

4) "High yield bond prices, which are 91% correlated with S&P price/book, are telling us the S&P should be fairly valued close to 1,400" (interesting).

He provides individual stock picks in the video clips below. Let's see if he can time the top of the bull market, or at least get close (in the media).

Watch 'Margin Call'' Trailer (2008 Financial Crisis on Wall Street)

A new Wall Street horror film is in theaters today. 'Margin Call' takes place in an investment firm "during one perilous 24-hour period in the early stages of the 2008 financial crisis". Hopefully it's better than Wall Street 2. You can watch it on Youtube for $6.99 at LionsGateVOD.

"When entry-level analyst Peter Sullivan unlocks information that could prove to be the downfall of the firm, a roller-coaster ride ensues as decisions both financial and moral catapult the lives of all involved to the brink of disaster." (via Google movies)

Fed Governor Daniel Tarullo's Plan For Large-Scale MBS Purchases (Text From Speech)

Saving is for wimps!  I have a plan for affordable housing.
Source: woodleywonderworks on Flickr
Below is an excerpt from Fed Governor Daniel Tarullo's speech yesterday at the World Leaders Forum at Columbia University (10/20/2011). He's calling for a "large-scale MBS purchase program" to bring down MBS rates and tighten the MBS-Treasury yield spread. But more importantly, he believes this will induce investors "to shift to other assets, including bonds and equities. But it could also have more direct effects on the housing market. By increasing demand for MBS, such a program should reduce the effective yield on those MBS, which in turn should put downward pressure on mortgage rates. The aggregate demand effect should be felt not just in new home purchases, but also in the added purchasing power of existing homeowners who are able to refinance. Indeed, homeowners who refinance get the equivalent of a permanent tax cut."

That sounds like QE3 to me. Will another recession be averted via Fed-backed reflexivity?. Below is more on his MBS plan.

Greek 1-Year Bond Yield Hits 189%; See The Highest Leveraged European Banks (Dexia Was Second On List)

1-year Greek Yield Hit 189% high!
Look how the market is pricing-in the risk of Greece defaulting on its debt. After hitting a high of 189% this morning, 1-year Greek government bonds are currently yielding 182%. And as of yesterday's close, Greece's 5Y credit default swap (CDS) spread is at 5897.45 basis points (58.97% a year to insure 5-year Greek government debt). See for yourself at Bloomberg.com (Greek 1-year bond yield, Greek 5Y CDS).

In John Hussman's recent note (Europe: Just Getting Warmed Up), see a list of european banks with the highest gross leverage ratios. Dexia SA was second on the list, after Landesbank Berlin, with a leverage ratio of 52.83. On October 9, Dexia was rescued by France, Belgium and Luxembourg and provided a "90 billion-euro, 10-year guarantee to cover funding needs" (Bloomberg). Now it's all up to the EFSF (European Financial Stability Facility) to prevent a Lehman-esque euro-zone financial crisis.
"The corresponding calculations for several major European Banks are below. These calculations essentially mirror Weil's list. Landesbank Berlin, Deutsche Bank and Credit Agricole are of greatest concern. While Danske Bank technically has a higher leverage ratio than Commerzbank, it has a larger buffer in the form of common equity - Commerzbank has only 1% of tangible common equity against its assets, the other 2% being more bond-like preferred equity.

When you consider the fact that most U.S. banks, just before the U.S. credit crisis in 2008, sported gross leverage ratios of about 12 (where Citigroup, Morgan Stanley, Goldman Sachs and JP Morgan remain today), the gross leverage ratios of European banks today are truly astounding." [continue reading at HussmanFunds.com]

1-Year Greek Bond Yield (source: Bloomberg)


Greece 5Y Credit Default Swap (Source: Bloomberg)

SEC: Citigroup to Pay $285 Million to Settle CDO Fraud Charges, Total Monetary Recoveries Equal $1.8B

Source: SEC pdf
On October 19, the SEC said they will receive $285 million from Citigroup. Below is some LOL text from the SEC release. According to this SEC chart, the SEC has been paid $1.881 billion so far from banks settling CDO fraud charges (or related).

"According to the SEC’s complaints, the Class V III transaction closed on Feb. 28, 2007. One experienced CDO trader characterized the Class V III portfolio in an e-mail as “dogsh!t” and “possibly the best short EVER!” An experienced collateral manager commented that “the portfolio is horrible.” On Nov. 7, 2007, a credit rating agency downgraded every tranche of Class V III, and on Nov. 19, 2007, Class V III was declared to be in an Event of Default. The approximately 15 investors in the Class V III transaction lost virtually their entire investments while Citigroup received fees of approximately $34 million for structuring and marketing the transaction and additionally realized net profits of at least $126 million from its short position."

Citigroup to Pay $285 Million to Settle SEC Charges for Misleading Investors About CDO Tied to Housing Market (SEC.gov, 10/19/2011)

Watch Humanoid Robots Play Ping-Pong, People Juggle Hologram Balls (HoloDesk 3D by Microsoft)

Start off your Friday watching humanoid robots, built by Zhejiang University, play ping-pong with each other (and a human), and then watch people juggle hologram balls and stack virtual blocks using Microsoft's HoloDesk. DV has been tracking the progress of humanoid robot and hologram technology. Hat tip Zero Hedge and Huffington Post for these videos.

Florida Builder St. Joe Back At 2009 Low (14.51), Fairholme's Co-Manager Resigns (JOE)

It's been a long year for St. Joe Corp (JOE:NYSE), which is majority owned by Bruce Berkowitz's Fairholme Capital Management (Fairholme Fund). I just read that Berkowitz's co-manager, Charles Fernandez, resigned on October 17, 2011. So far, the gang of JOE short sellers, led by Greenlight's David Einhorn and T2's Whitney Tilson, have won the battle against Bruce Berkowitz (publicly). When looking at JOE's chart, the stock is now back at the March 2009 low ($14.51).

As of June 30, 2011, Fairholme Capital Management owned 28% of the company, and as of 9/14, the fund is now permitted to acquire 50%. Berkowitz has said repeatedly that he'd buy more shares if the price moved lower. We'll see if JOE hits $7-10 per share. I haven't seen an update from Einhorn or Tilson in a while. Here's a 5-year chart of JOE showing the retest (via StockCharts).



More articles:

Shakeup at the Fairholme Fund - WSJ
Fairholme big looking for new home after surprise exit - Investment News
Fairholme Fund loses half its value and its co-manager - Fortune Magazine

Germany Sets Aside $130 Billion for Renewable Energy - Guest Post

100_0621
Source: UGA College of Ag (Flickr)
Guest post by John C.K. Daly of OilPrice.com

Germany Sets Aside $130 Billion for Renewable Energy

German Chancellor Angela Merkel announced on 30 May that Germany, the world's fourth-largest economy and Europe's biggest, would shutter all of its 17 nuclear power plants between 2015 and 2022, an extraordinary commitment, given that they currently produce about 28 percent of the country's electricity.

Underlining the government's seriousness in changing the country's energy matrix, Germany's Kreditanstalt fur Wiederaufbau (German Development Bank) is to underwrite renewable energy and energy efficiency investments in Germany with $137.3 billion over the next five years, Germany Trade and Invest reported. Overall, the German government's 6th Energy Research Program has made an extraordinary $274.6 billion available for joint funding initiatives in energy storage research over the next three years.

Moody's Downgraded Spain to A1 (Negative Outlook), Spanish 10Y Note Yield At 5.38%

Source: Bloomberg
and S&P downgraded Spain to AA- on 10/13/2011. Spain's 10-year note yield is currently at 5.38% +0.45%, down from a high of 6.32% on 8/4/2011 (so no new highs on the downgrades). The ECB (European Central Bank) was actively buying Spanish debt in August.
"Moody's downgrades Spain's government bond ratings to A1, negative outlook 
Global Credit Research - 18 Oct 2011

London, 18 October 2011 -- Moody's Investors Service has today downgraded Spain's government bond ratings to A1 from Aa2. This rating action concludes the review for possible downgrade that Moody's had initiated for Spain's rating on 29 July. The ratings carry a negative outlook.

The main drivers that prompted the rating downgrade are as follow:

(1) Spain continues to be vulnerable to market stress and event risk. Since placing the ratings under review in late July 2011, no credible resolution of the current sovereign debt crisis has emerged and it will in any event take time for confidence in the area's political cohesion and growth prospects to be fully restored. In the meantime, Spain's large sovereign borrowing needs as well as the high external indebtedness of the Spanish banking and corporate sectors render it vulnerable to further funding stress.

(2) The already moderate growth prospects for Spain have been scaled back further in view of (i) the worsening global and European growth outlook and (ii) the difficult funding situation for the banking sector and its impact on the wider economy. Specifically, Moody's now expects Spain's real GDP growth in 2012 to be 1% at best, compared with earlier expectations of 1.8%, with risks mainly to the downside. Over the following years, the rating agency continues to expect a very moderate pace of growth of around 1.5% on average per annum.

(3) Lower economic growth in turn will make the achievement of the ambitious fiscal targets even more challenging for Spain. Moody's expects the budget deficits for the general government sector to be above target both this year and next. In particular, Moody's continues to have serious concerns regarding the funding situation of the regional governments and their ability to reduce their budget deficits according to targets."
Continue reading the release at Moodys.com

10Y French-German Yield Spread Hits 20-Year High On Moody's Review, EFSF Guarantee (Chart)

Source: Bloomberg.com (h/t business insider)
On 10/17/2011, Moody's Investors Service announced they were monitoring France's "stable outlook" as a result of the sovereign debt and banking crisis in Europe and its involvement in the EFSF (European Financial Stability Facility). French bank credit default swap spreads (SocGen, Credit Agricole, BNP Paribas) have been widening for months now, sensing default risk. Fitch Ratings just put French banks on "rating watch negative" on 10/13.

Moody's currently has France rated at Aaa, but there's speculation that guaranteeing toxic sovereign debt in the EFSF would result in a downgrade (and lower the amount of guarantees). All of this news caused the 10-year French OAT - German Bund spread to break out and hit a 20 year high. FT Alphaville has the 20-year chart. There's an EU summit on Sunday where decisions will be made ("Merkel Says EU Summit Will Be Important, Not Final, Crisis Step"). We'll see what happens. What about China, Brazil and India providing support. Here is some information to arbitrage.

Moody's on France:
"However, Moody's notes that the government's financial strength has weakened, as it has for other euro area sovereigns, because the global financial and economic crisis has led to a deterioration in French government debt metrics -- which are now among the weakest of France's Aaa peers. Moody's nevertheless continues to deem France's financial strength to be very high, particularly when compared with debt affordability (interest burden in relation to government revenues) which remains comfortable. But very high debt finance-ability in an uncertain financial and economic environment, which is a crucial feature of Aaa governments, rests on investors' confidence in the government's ability and in its willingness to tackle unforeseen challenges. France may face a number of challenges in the coming months -- for example, the possible need to provide additional support to other European sovereigns or to its own banking system, which could give rise to significant new (contingent) liabilities for the government's balance sheet.

The deterioration in debt metrics and the potential for further contingent liabilities to emerge are exerting pressure on the stable outlook of the government's Aaa debt rating. Moody's notes that the French government now has less room for manoeuvre in terms if stretching its balance sheet than it had in 2008. France's continued commitment to implementing the necessary economic and fiscal reform measures as well as visible progress in achieving the targeted sustainability improvements will be important for the stable outlook to be maintained. Over the next three months, Moody's will monitor and assess the stable outlook in terms of the government's progress in implementing these measures, while taking into account any potential adverse economic or financial market developments."

Articles on France, the EFSF and related:

To monitor more spreads to German bunds, visit this post with links to quotes and charts.

John Taylor, Gabriel de Kock Predict Euro Falls to 1.20 and 1.25 (FX Concepts, Morgan Stanley)

John Taylor, founder and CEO of hedge fund FX Concepts, and Gabriel De Kock, Executive Director of FX Research at Morgan Stanley, both said a few weeks ago during interviews that they thought the euro (EUR/USD) would fall to 1.20 and 1.25. I transcribed a portion of the videos below. Below is also a chart of EUR/USD going back to 3/2010 with longer-term trend lines and resistance levels. 1.40 looks like ceiling resistance EUR/USD needs to break, and then you can see the new downtrend line when using the May and August 2011 lower highs. EUR/USD just went from a low of 1.314 on 10/4 to a high of 1.391 on 10/17. Nice move. John Taylor's "conservative" 1.20 target for EUR/USD is around June 2010 support.

EUR/USD since March 2010 (courtesy FreeStockCharts.com)

John Taylor on Bloomberg TV, 10/11/2011 [not from an official transcript, click for video]
"In the near-term I believe that Greece has to default. Whether it's called a haircut or whatever, Greece needs to be completely restructured. And the banks need to be recapitalized (he thinks Greece will stay in the Euro-zone)."
"I think the dollar is going to move higher because of this de-leveraging in the world and the fact that both the Euro and the U.S. will be going into a recession. Surprisingly enough, that's good for the dollar because the U.S. banks aren't lending out more dollars, they're being reluctant and pulling their money back. And so many people are already short the dollars that they're forced to repay their loans."
"I think now I'm feeling more conservative in saying that the Euro is going to go to 1.20 by the end of the year. But I would be surprised to see the euro hold above 1 (parity) through this crisis. And it's not over...."

SocGen Asia Equity Strategist Lashes Out At Financial Blogs!

Societe Generale's Asia Equity Strategist, Todd Martin, thinks the blogosphere has gotten out of control and should be regulated like Wall Street. Read Zero Hedge's response (via Reformed Broker) and watch the Bloomberg video below. Are blogging departments coming soon to Wall Street? Start one up free and easy at blogger.com.

Gundlach's Views on Mortgage Credit, PrimeX and the Bear Market Rally in Stocks (CNBC)

Source: CNBC.com
On 10/13/2011, Jeffrey Gundlach, co-founder, CEO and CIO of DoubleLine Capital with $17 billion under management (Total Return Bond Fund DBLTX is up 8.75% YTD), shared his views on the "quiet crash" in mortgage credit, the technical move in PrimeX, and the bear market rally in stocks.
"What hasn't shared in the rally at all is mortgage credit, which has been in kind of a quiet crash for the past 6-months to a year. In the sub-prime world, the ABX Index has dropped by over 35% in the past year. And now in the past week even, the PrimeX market, which nobody really knows much about, it was rally designed to be the prime sibling of the ABX sub-prime index, it's been persistently weak." 
"The prices have been a little bit weak since the later part of September on the mortgage assets because of some large selling. There were some large blocks that were selling out of some hedge funds. The PrimeX index has been persistently overvalued. It really trades about 10-12 points higher in price than where real cash bonds trade in the market. Basically, there are two reasons for that. The first is the PrimeX has a higher interest coupon that it pays and that's worth about a handful of few points right there, and then people can leverage it. Leverage is very hard to get in the cash bond market because people still have a hangover effect from the 2008 disaster in financing. So, you can leverage up these synthetic indices, and for that reason... It's kind of weird isn't it? People pay more because they can leverage it, so they're overpaying for something and leveraging it. I always feel like leveraging an overvalued asset seems like a uniquely bad idea.
PrimeX Index courtesy of Markit (see prices and charts)
ABX Index courtesy of Markit (see prices and charts)

Now, PrimeX is tiny, the float is only $11 billion. Back in late 2008, the subprime index was more than 10x that size. So it's very susceptible to technicals. So when the selling came in late September out of the hedge funds, it started to hit the PrimeX market..."

"So it's probably something of a weak spell here as there is this technical problem, and let's face it, the fundamentals in housing just aren't that good. You have..."

Btw, the interview was interrupted with footage of Raj Rajaratnam walking out of a courthouse after his sentencing.

Links: Kyle Bass, Jim Rogers, Volatility Exchange, TRX-II, Kinder Morgan Buys El Paso for $38B

I've tweeted most of these links already, but here's a quasi-post/linkfest.
  • Kinder Morgan (KMI) to Buy El Paso (EP) for $38 Billion (includes assumption of debt outstanding at El Paso Corporation and debt outstanding at El Paso Pipeline Partners, L.P. (NYSE: EPB) - BusinessWire
gold cast bar
source: flickr
  • Hedge fund manager Kyle Bass, of Hayman Capital, who timed the subprime mortgage crash right (via credit default swaps) and banked coin, was featured in Michael Lewis's new book "Boomerang: Travels in the New Third World", and it appears Bass is bullish on gold and guns and has a fort ready for battle. Ultimate risk management. "Kyle Bass had purchased what amounted to a fort: a forty-thousand-square-foot ranch house on thousands of acres in the middle of nowhere, with its own water supply, and an arsenal of automatic weapons and sniper rifles and small explosives to equip a battalion" (h/t ZH). What about a high voltage fence?

    Michael Lewis provided a lengthy excerpt from his book at TODAY Books, where he mentions Bass's sovereign CDS bets (Greece and France). Bass thinks there will be a "cluster of sovereign defaults" and is hedging against currency debasement. He also said to buy put options on Japanese government bonds at the Delivering Alpha conference.
  • "Bored With The Blowout In PrimeX? Looking For The Next "Big One"" - Zero Hedge [Markit's TRX-II is a synthetic total return swap index referencing CMBS]  - read post on PrimeX
  • US to Experience Stagflation Worse Than 1970s: Jim Rogers - CNBC
  • Here is more information on the VolX Indices and VolContract Futures (VolX pdfVolContract Futures charts). You can trade the realized volatility of an underlying asset, index, or instrument intra-day via 1-Month 3-Month, and 12-Month VolContract futures. When comparing VolContract futures to implied volatility instruments, this was an interesting explanation from their FAQ"VolContract futures give the market participant exposure to both implied-like pricing and realized pricing all in one instrument. In other words, the contracts have perception of the future risk and the reality of actual risk embedded within their structure. Instruments on implied volatility can only address the perception of risk – and they can capture that only through options pricing."

PrimeX Index Shows Weakness In Prime RMBS Market, Three Indexes Below Par (Charts)

PrimeX.FRM.2 via Markit
It's starting to get interesting again in MBS CDS land (the most interesting indexes in the world). Markit's synthetic CDS (credit default swap) indexes "referencing" buckets of residential mortgage-backed securities have been falling in value since February (ABX, PrimeX). Credit fund managers (or speculative hedge funds) can trade RMBS without actually buying or selling the securities (synthetically) via credit default swaps (RMBS insurance contracts). It's really trading "exposure" on RMBS. Listen to Goldman Sachs' CFO David Viniar explain to Senator Carl Levin that GS's mortgage desk had synthetic positions on to offset cash long positions. There needs to be a synthetic credit trading show on CNBC (boo-yah!²).

I remember Jeff Gundlach, founder of DoubleLine Capital, alerted CNBC viewers in May that the ABX index, which references subprime RMBS, dropped 20% in 3 months (link has chart). Remember when ABX.HE.AA.07-2 went from a high of 97 to a low of 3.75? It currently trades at 6.23. Crazy times, and we still haven't recovered from the housing and mortgage crash.

Now the action is in Markit's PrimeX CDS index, which references a basket of non-agency prime RMBS issued between 2005 and 2007, and backed by jumbo mortgages that couldn't be financed by GSE's (Fannie Mae and Freddie Mac). There are four PrimeX indexes; two that reference fixed-rate loan securitizations and two that reference hybrid-ARM securitizations (PRIMEX.FRM.1, PRIMEX.FRM.2, PRIMEX.ARM.1, PRIMEX.ARM.2). Here are closing prices on 10/14/2011 via Markit's website.

For more info, I found a guide: Pricing ABX index for Newbies

Buying the PrimeX index allows someone to "synthetically" gain short exposure to non-agency prime MBS and selling PrimeX allows someone to "synthetically" gain long exposure to non-agency prime MBS. If you're reading this and have no idea what I'm talking about, read the description at Markit or read their presentation from early 2010 on the PrimeX indices. You can see 7-month charts of CDS indexes on their website for free. I found an article from 2006 at risk.net that explains why the ABX Index (ABCDS) was introduced ("Synthetic ABS is hot property"). Interesting stuff.

Paulson & Co., run by billionaire John Paulson, started buying the ABX Index in 2006 and ended up making his firm billions of dollars when the subprime mortgage market crashed (and CDS spiked). When ABX indexes first dipped below par in 2007, some say that was the initial catalyst that fueled the financial crisis. When the PrimeX index was first announced, Bloomberg noted:
"Wells Fargo & Co. analyst Glenn Schultz suggested investors consider selling jumbo-mortgage securities because PrimeX trading could drive down their prices, as happened with subprime bonds and the ABX indexes he had called “Frankenstein’s monster.”

"Analysts such as Schultz said that in 2007 and 2008, more investors wanted to use the indexes to short subprime notes than take the opposite bets because the banks and asset managers already owned enough housing debt, allowing them to tumble."

As of Friday's close, three of the four PrimeX indexes have dipped below par. Look at the charts below. FT's Tracy Alloway talked about this risk in a video on 10/10/2011 and Zero Hedge had a post on 10/7/2011 with multiple follow-ups thereafter. FT Alphaville has been all over it as well, see the PrimeX linkfest below.

I was searching for an ETF with non-agency Prime MBS, and all I found was an Invesco PowerShares index that didn't exist yet: "The PowerShares Prime Non-Agency RMBS Opportunity Fund will seek to provide total return by investing, under normal market conditions, at least 80% of its assets in non-agency mortgage-backed securities collateralized by pools of Prime residential mortgage loan" (pdf, 1/28/2009).

On October 5, Fitch Ratings, in a press release promoting their report, said that 1 in 3 U.S. prime mortgage loan borrowers were underwater.
"Recent analysis by Fitch shows that more than a third of all prime borrowers in private-label securitizations are currently in a negative equity position, or as it is commonly referred to, 'underwater', on their mortgages.

Live Video: Occupy Wall Street Protesters Invade Times Square

Watch live video of the protests below via livestream.com/occupynyc. The protesters are in Times Square (New York City) and it looks like thousands of people are there. How does this movement evolve? Wow.



China’s Petrochemical Corp. Invests in Canada, Buys Daylight Energy for $2.1B - Guest Post

Daylight Energy (DAY.TO) - StockCharts
China’s Petrochemical Corp., also known as the Sinopec Group, has agreed to buy Canadian oil and gas explorer Daylight Energy Ltd. for $2.1 billion.

The Sinopec purchase is only the latest of recent Chinese investments in Canada’s booming energy industry. Two months ago China National Offshore Oil Corporation (CNOOC), China's dominant offshore oil producer, agreed to acquire bankrupt oil producer Calgary, Alberta-based company OPTI Canada Inc. for $2.1 billion. Last year Sinopec Group paid ConocoPhillips $4.65 billion for a 9.03 percent share stake in Canada’s Syncrude oil fields.

Daylight Energy Ltd. chief executive Anthony Lambert commented that the Sinopec Group offer "recognizes the highly attractive asset portfolio and exceptional terms we have assembled at Daylight," The Shanghai Daily reported.

In 2010 Daylight Energy Ltd.'s proven and probable reserves rose 46 percent to 174 million barrels of oil, 70 percent of which is natural gas.

The Sinopec Group-Daylight Energy Ltd. deal, which has been approved by Daylight's board, must still be approved by Daylight shareholders and the Chinese and Canadian governments.

Daylight Energy Ltd. went public on the Toronto Stock exchange in 2004. The Sinopec Group purchase will give the company the right to explore and develop 30,000 acres of Canadian oil and natural gas concessions.

By. Joao Peixe, Deputy Editor OilPrice.com

S&P Downgrades Spain; Fitch Downgrades UBS and Places Banks on Negative Watch

Coke bank
Coke Bank via Flickr
Fitch placed a bunch of U.S. and European banks on "rating watch negative" today (10/13/2011) and also downgraded UBS to A from A+. Keep an eye on bank and sovereign credit ratings to see if downgrade contagion affects the markets. There are worries about bank trading revenues, european sovereign debt exposure (S&P just downgraded Spain to AA- on economic growth and bank risks) and... will banks be affected by prime mortgage portfolios? Here are links to the press releases (they require free log-in, I forgot).

S&P: Long-Term Rating On Spain Lowered To 'AA-' On Economic Growth And Banking Sector Risks; Outlook Negative

Fitch Downgrades UBS AG to 'A' on Diminishing Government Support; Outlook Stable

Fitch Places Goldman Sachs' Ratings on Rating Watch Negative

Fitch Places Major French Banks on Rating Watch Negative (BNP Paribas, Credit Agricole, Societe Generale, Banque Federative du Credit Mutuel)

Fitch Places Deutsche Bank on Rating Watch Negative

Fitch Places Bank of America's 'a-' Viability Rating on Rating Watch Negative

Fitch Places Morgan Stanley's Ratings on Rating Watch Negative

Fitch Places Credit Suisse AG on Rating Watch Negative

Fitch Places Two Nordic Banks on Rating Watch Negative (OP-Pohjola Group and Danske Bank)

Fitch Places Rabobank's IDR and VR on Rating Watch Negative

China CDS Breakout Predicted FXI Breakdown, Sovereign CDS Info (Charts)

According to Bloomberg, China's 5Y CDS rate (credit default swap) closed at 167 basis points yesterday, which is $167,000 to insure $10 million of Chinese government bonds per year. It peaked out at 201 basis points on October 3, 2011. On August 10, I posted that China 5Y CDS broke out to early 2009 levels at 113 basis points and said it looked exactly like the inverse of FXI (iShares FTSE China 25 Equity Index), which was testing 2010 support at $35.

China 5Y CDS vs. FXI (source: Bloomberg.com)

I don't trade credit default swaps, but charting out CDS is a great way to measure market risk because speculative trading, or hedging, default risk in the CDS market is essentially controlled by large financial institutions, banks and their clients (hedge funds) in over-the-counter trades (off-exchange bilateral contracts). CDSs are also used to correlate with other assets (there are Saudi Arabia CDSs but no underlying debt!). So technically, liquid or not, China 5Y CDS looked like a decent setup for a potential breakout when it was testing ceiling resistance in that two year sideways channel. And it eventually took off, see below. Did someone ride China 5Y CDS from 100 to 200 and sell the contract for a quick double? "The net value of outstanding credit default swaps on Chinese sovereign debt" is $8.3 billion, according to FT.


China 5Y CDS (source: Bloomberg)

ECRI's Achuthan Explains New US Recession, Contagion Among Leading Indicators

If you missed it, on September 30, 2011, ECRI (Economic Cycle Research Institute) publicly announced that the U.S. economy was tipping into recession. Lakshman Achuthan, co-founder of ECRI, hit the media HARD after that. He was interviewed on WSJ NewsHub, The Daily Ticker, CNN, Bloomberg TV, CNBC Squawk Box and Bloomberg Surveillance. I embedded the Bloomberg and Daily Ticker interviews below. He thinks it will get a lot worse from here as "contagion among the forward looking indicators" spreads like a wildfire. And most importantly, he said he wouldn't be surprised if the unemployment rate hit double digits.

ECRI Weekly Leading Index going back to 2005 (Source: ECRI)


Interesting points Achuthan made during his interviews.
  • During recessions you get in a vicious cycle of "lower sales, lower production, lower employment, lower income, and back to lower sales."
  • Sees deadly combination of contagion in non-financial services, manufacturing and exports.
  • Government spending will go up as tax receipts go down.
  • Recessions kill inflation.
  • We're in an era of more frequent recessions and bear markets, which elevates the equity risk premium and lowers government bond yields (like in Japan).
  • 1799-1929 90% of expansions were 3 years or less, 1970-1981 2/3 expansions were 3 years or less.
  • If there's an exogenous shock like the Lehman bankruptcy, but in Europe, recession could overshoot.

Links: Euro, UK Bank, Sovereign Downgrades, Dexia, Proton, Paulson Advantage, ECRI

wall of banks
Wall of Banks (Dystopos on Flickr, click)
Weekend links on bank bailouts, credit downgrades and other economic concerns

Belgium to Buy Dexia’s Consumer Lending Unit for $5.4B - Bloomberg
"The Belgian federal government will pay 4 billion euros ($5.4 billion) for the division and guarantee 60 percent of a so-called bad bank to be set up for Dexia’s troubled assets, Finance Minister Didier Reynders said at a press conference today in Brussels." (continue reading)

Merkel, Sarkozy Pledge Bank Recapitalization - Bloomberg

Moody's places Belgium's Aa1 ratings on review for possible downgrade - Moody's

ECRI Recession Watch: Growth Index Declines Further (Weekly Leading Index) - Dshort.com

BNP, Socgen deny reported plan to raise $9.4 billion - Reuters

U.S. Bank Exposure to European Debt Crisis Could Be $640 Billion, Per Congressional Paper - WSJ

Greece activates rescue fund to save Proton Bank - Reuters

Paulson’s Main Fund (Paulson Advantage Plus) Said to Lose 47% in 2011 Through September - BusinessWeek

FYI: I found Paulson & Co. mutual fund quotes, via BNP Paribas Japan and Lyxor, denominated in yen focusing on european equities and debt. Links go to bloomberg.com.

Moody's downgrades 12 UK financial institutions, concluding review of systemic support - Moody's
"The rating actions include a one-notch downgrade of Lloyds TSB Bank plc (to A1 from Aa3), Santander UK plc (to A1 from Aa3), Co-Operative Bank plc (to A3 from A2), a two-notch downgrade of RBS plc (to A2 from Aa3) and Nationwide Building Society (to A2 from Aa3); and downgrades of one to five notches of 7 smaller building societies."

Weale Says Bank of England Can Increase Asset Purchases Plan - Bloomberg

Moody's takes rating actions on Portuguese banks; outlook negative - Moody's

Armenia's Aging Metsamor Nuclear Power Plant Alarms Caucasian Neighbors - Guest Post

Metsamor Nuclear Plant, Armenia
Source: SusanAstray on Flickr
Guest post by OilPrice.com

Armenia's Aging Metsamor Nuclear Power Plant Alarms Caucasian Neighbors

The USSR might have imploded two decades ago, but debris from its headlong industrialization drive litter the post-Soviet landscape, and nothing more unsettles the population of the fifteen new nations carved out of the Soviet Union than its nuclear legacy.

The poster child for Caucasian nuclear concerns is Armenia's aging Metsamor nuclear power plant, which provides nearly 40 percent of the country's electricity.

The facility has not only alarmed neighboring Georgia, Turkey and Azerbaijan but begun to receive international notice as well - on 11 April National Geographic ran a story entitled "Is Armenia's Nuclear Plant the World's Most Dangerous?"

Metsamor, 20 miles west of the capital Erevan and 10 miles from the Turkish border, encapsulates the dilemma facing many energy-poor nations heavily dependent on nuclear power - unlike Germany, they do not have the cash or alternatives needed to shutter such facilities and consequently, keep them running while crossing their fingers.

Metsamor, which began operations in 1976, contains two VVER-400 V230 376 megawatt nuclear reactors generating about 2 million kilowatt hours of energy annually. Many environmentalists regard it as an accident waiting to happen. The Armenian government closed Metsamor's Unit 1 in February 1989 and Unit 2 the next month following a massive December 1988 earthquake which killed more than 25,000, left much of northern Armenia in ruins and caused more than $4 billion in damage.