I want to start this paper by reiterating a few of my strongly held convictions about the role of central bankers:
Economics is a branch of logic, itself a branch of philosophy, and not a branch of astrology (the good case) or mathematics (the bad case).
So when I see the guardians of the Temple of Mammon—otherwise known as central bankers—following an illogical policy, I am mesmerized. I start to have doubts, either about my ability to follow a path of logical reasoning, or about the sanity of the current breed of central bankers. As far as the first option goes, our readers can decide, and the market will be the ultimate judge. As for the second, allow me to make a few remarks…
Four basic postulates for central bankers
To think ‘logically’ one generally starts with a few postulates learnt from experience. What should these postulates be for central bankers?
I expect central bankers to know that the future is unknowable. This has been generally accepted wisdom at least since the time of the New Testament: “But of that day and hour knoweth no man.”
Since Karl Popper, central bankers should know that the amount of risk in a system is roughly constant over time and that any effort to minimize risk or volatility at any point in time (usually just before an election) will lead to its more forceful re-emergence later on (hopefully after the election). In this sense an economic system is much like one of Alexander Calder’s mobiles: if you restrict the motion of one of its branches, any disturbance of the system will lead to much bigger movements elsewhere.
Since Knut Wicksell, central bankers should know that the greater the difference between the ‘natural’ interest rate and the ‘market’ rate, the bigger the subsequent booms and busts. If sustained, a false price for the cost of money increases the risk in a system exponentially. A false price for interest rates leads to a false price for the exchange rate. From there all prices become false and the economy moves ex-growth,
In today’s Outside the Box, good friend Ben Hunt informs us that we have entered the cult phase of the Golden Age of the Central Banker:
We pray for extraordinary monetary policy accommodation as a sign of our Central Bankers’ love, not because we think the policy will do much of anything to solve our real-world economic problems, but because their favor gives us confidence to stay in the market. I mean, does anyone really think that the problem with the Italian economy is that interest rates aren’t low enough? Gosh, if only ECB intervention could get the Italian 10-yr bond down to 1.75% from the current 1.85%, why then we’d be off to the races! Really? But God forbid that Mario Draghi doesn’t (finally) put his money where his mouth is and announce a trillion euro sovereign debt purchase plan. That would be a disaster, says Mr. Market. Why? Not because the absence of a debt purchase plan would be terrible for the real economy. That’s not a big deal one way or another. It would be a disaster because it would mean that the Central Bank gods are no longer responding to our prayers.
But, he points out, the cult phase of any human society is a stable phase in the sense that, while change may happen, it will not happen from within:
There is such an unwavering faith in Central Bank control over market outcomes, such a universal assumption of god-like omnipotence within this realm, that any internal market shock is going to be willed away.
However, there is a minor catch: external market risk factors are all screaming red.
I’ve been doing this for a long time, and I can’t remember a time when there was such a gulf between the environmental or exogenous risks to the market and the internal or behavioral dynamics of the market. The market today is Wile E. Coyote wearing his latest purchase from the Acme Company – a miraculous bat-wing costume that prevents the usual plunge into the canyon below by sheer dint of will.
“Below the thunders of the upper deep,
Far far beneath in the abysmal sea,
His ancient, dreamless, uninvaded sleep
The Kraken sleepeth: faintest sunlights flee….
“There hath he lain for ages, and will lie
Battening upon huge sea-worms in his sleep,
Until the latter fire shall heat the deep;
Then once by man and angels to be seen,
In roaring he shall rise and on the surface die.”
"The exact contrary of what is generally believed is often the truth."
– Jean De La Bruyère
“Cry ‘Havoc!’ And let slip the dogs of war!”
– William Shakespeare, Julius Caesar, Act III, Scene I
– Roberto Duran to the referee at the end of his fight with Sugar Ray Leonard, 1980
If you want evidence that central bankers play by their own rules, regardless of what they say or what conventional wisdom tells us, last week’s action by the Swiss National Bank should pretty much fill the bill. My friend Anatole Kaletsky, in a CNBC interview not long after the announcement, quipped (with a completely straight face) that just as James Bond has a license to kill, central bankers have a license to lie.
Swiss National Bank Chairman Thomas Jordan had assured us just the week before that the Swiss would continue to “hold the peg” whereby the SNB kept the value of the Swiss franc from rising higher than €1.22. “The cap is absolutely central,” he said. And SNB Vice Chairman Jean-Pierre Danthine said publicly only last Monday that the peg would remain a cornerstone of Swiss banking policy.
Early Thursday morning the Swiss abandoned that policy. Much of the press coverage in the (largish) wake of their surprise move has focused on the costs to banks and hedge funds around the world, but you have to realize that serious pain is being felt in Switzerland itself. Every bank and business that held non-Swiss-franc debt or investments took an immediate 15–20%+ haircut on its…
The headlines this morning talk about the US dollar hitting an 11-year high. I have been saying for years that the dollar is going to go higher than anyone can imagine. This trade is just in the early innings. And the repercussions will be dramatic, not only for emerging markets that have financed projects in dollars, but also for commodities and energy, gold, and a variety of other investments. The world is at the doorstep of a new era of volatility and currency wars.
In this week’s letter, my associate Worth Wray explores what a rising dollar means for emerging markets and what central banks are likely to do in response. Can they smooth the ride, or will it be the world’s scariest roller coaster? This letter will print long because of the number of fabulous charts Worth provides. I might make a brief comment or two at the end. Here’s Worth.
On the Verge of a Disaster… or a Miracle
By Worth Wray
Twenty years after the first divergence-induced currency crisis of the 1990s, commodity prices are tumbling, the US dollar is rallying, and externally fragile emerging markets are reliving the horrors of their not-so-distant past. Except, this time, major economies like the United States, the United Kingdom, the Eurozone, Japan, and the People’s Republic of China may not be able to side-step the ensuing contagion.
With 2014 now behind us, I want to focus this week's letter on what may prove to be the most important global macro pressure points in the coming year(s):
The growing divergence among the world’s most important central banks
The ongoing collapse in oil and other commodity prices as a function of excess supply and/or weakening global demand
The rise of the US dollar, driven by divergence and risk aversion… and the squeeze it’s putting on the multi-trillion-dollar carry trade into emerging markets
The vicious slide in emerging-market currencies
The rising risk of 1990s-style contagion and financial shocks
And what, if anything, can avert the next global financial crisis
I can’t prove it scientifically, but I’m pretty sure the years are flying by faster now than ever before. [Actually I think it is scientifically proven that time goes faster as we get older... Sorry.] Is everyone just so busy that the passage of time is occurring while we stare at our phones? Or are the events that shape each year simply playing out faster, from start to finish, because of the increased pace of modern life?
More importantly, will 2015 move even faster? [Yes.]
I don’t know the answers, but you’ve already heard enough from me this year anyway (I’ve heard enough from me too!). So for today’s look back on the lessons of 2014, I got a little help from my friends!
Happy New Year and thanks for reading! See you on the other side. – Josh
In 2014 I Learned That…
Aron Pinson (Microfundy): rates don’t necessarily rise in a rising rate environment.
Justin Paterno (StockTwits): if the US economy were a football team it would have the personnel of the Patriots with the fans of the Jets.
Justin Frankel (RiverPark Funds): beating your benchmark isn’t the key to happiness or success, but it’s a fine place to start!
Morgan Housel (Motley Fool): Unsustainable things can last years, even decades, longer than people think.
Tom Brakke (Research Puzzle): A heavily-analyzed, globally-traded commodity can go down fifty percent in response to relatively modest changes in fundamentals. Therefore, you might want to take the predictions you hear and the models you rely upon with a grain truckload of salt.
Stephen Weiss (Short Hills Capital): terrorists don’t respect copyright or trademark laws as Isis Pharmaceuticals found out. [Ha ha - is ISIS going to change its name?]
Must See: Phil visits with Money Talk's Kim Parlee on Business News Network. In this great interview, Phil talks about his target price range for oil and presents an options trade idea that he is calling the "Trade of 2015."
Last week we started a series of letters on the topics I think we need to research in depth as we try to peer into the future and think about how 2015 will unfold. In forecasting US growth, I wrote that we really need to understand the relationships between the boom in energy production on the one hand and employment and overall growth in the US on the other. The old saw that falling oil prices are like a tax cut and are thus a net benefit to the US economy and consumers is not altogether clear to me. I certainly hope the net effect will be positive, but hope is not a realistic basis for a forecast. Let’s go back to two paragraphs I wrote last week:
Texas has been home to 40% of all new jobs created since June 2009. In 2013, the city of Houston had more housing starts than all of California. Much, though not all, of that growth is due directly to oil. Estimates are that 35–40% of total capital expenditure growth is related to energy. But it’s no secret that not only will energy-related capital expenditures not grow next year, they are likely to drop significantly. The news is full of stories about companies slashing their production budgets. This means lower employment, with all of the knock-on effects.
Lacy Hunt and I were talking yesterday about Texas and the oil industry. We have both lived through five periods of boom and bust, although I can only really remember three. This is a movie we’ve seen before, and we know how it ends. Texas Gov. Rick Perry has remarkable timing, slipping out the door to let new governor Greg Abbott to take over just in time to oversee rising unemployment in Texas. The good news for the rest of the country is that in prior Texas recessions the rest of the country has not been dragged down. But energy is not just a Texas and Louisiana story anymore. I will be looking for research as to how much energy development has contributed to growth and employment in the US.
Bitcoin is a topic of discussion almost everywhere I go. My introduction to Bitcoin came when I was speaking at a gold conference in Palm Springs and three bright-eyed, bushy-tailed college students approached me with a video camera and asked for my thoughts on Bitcoin. Noting my confusion, they began to evangelistically espouse the virtues of Bitcoin and tell me how it would save us from the evils of the Federal Reserve. I kept from rolling my eyes (you do want to encourage passion in the young) and mentioned a meeting that I had to go to – at that very moment as it turned out.
Since that time Worth Wray and I and our entire team at Mauldin Economics have done a great deal of research on Bitcoin. We will soon release a video documentary that is one of the best productions I’ve ever been involved with and that does a good job of explaining both the controversy around Bitcoin and its considerable promise. We talked with skeptics, enthusiasts, and people willing to put up tens of millions of dollars betting on the future of Bitcoin.
Worth Wray has written this week’s letter as a summary of what we know about Bitcoin. Delving into its history and bringing us up to date, he also offers a glimpse of the future. At the end of the letter I offer a few of my own thoughts on the relationships among gold, fiat money, Bitcoin, and financial transactions.
If nothing else, Bitcoin offers a provocative way to think of the future of money. Now let me turn it over to Worth.
Is Bitcoin the Future?
By Worth Wray
“Growth demands a temporary surrender of security.”
– Gail Sheehy
“When people write the history of this thing, of bitcoin, they are not going to write the story of 6 million to a billion. What is truly remarkable is the story of zero to 6 million. It has already happened! And we’re…
On the one hand, I’ve written so much about Greece lately I fear I’m reaching overkill. On the other hand, there’s so much going on with Greece, and so fast, that I wouldn’t know here to begin. Moreover, I’m thinking and trying to figure what is what and what is actually happening so much it’s hard to stay focused for more than a short while before something else happens again and it all starts all over. And I’m thinking it must feel that way for the Syriza guys as well.
One thing I do increasingly ponder is that it gets ever harder t...
Please review a collection of WWW browsing results.Date Found: Friday, 16 January 2015, 09:55:47 PM
Click for popup. Clear your browser cache if image is not showing. Comment: Volatility Is back across all asset classes. Price discovery reverting to the mean.
Date Found: Saturday, 17 January 2015, 04:18:13 PM
Click for popup. Clear your browser cache if image is not showing. Comment: US Velocity of money, historic lows. $4.8 trillion on Fed balance. None of it getting to the masses. Deflation is at the door.
Date Found: Sunday, 18 January 2015, 10:44:09 PM
Click for popup. Clear your browser cache if image is not showing. Comment: Gold teasing...
(ETFTrends.com by Todd Shriber): "Betting on insider buying is again proving to be an efficacious strategy as the Direxion All Cap Insider Sentiment Shares (NYSEArca: KNOW) has been noticeably less bad than the S&P 500 to start 2015. Add to that, investors are warming to the merits of KNOW's insider sentiment strategy." [Editor's note: KNOW tracks the Sabrient Multi-cap Insider/Analyst Quant-Weighted Index (SBRQAM)]. Read article
Suppose you had the technical ability and raw materials to print up counterfeit dollars, euros or yen that were identical to the real things. Assume you could spend them as fast as you could create them with no fear of any repercussions.
Would you prudently print up only as much fresh currency as you needed for your current lifestyle? Would you create just a bit more than that to help relatives or those in need?
It is most likely you’d have your printing press running 24 hours a day, seven days a week. Becoming the richest person in the world would confer great power upon you.
You could rationalize this action because you plan to use the money for good purposes. Imagine the warm feeling you’d get by giving every person in America one million do...
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So as I was saying yesterday (Bitcoin: The Biggest Clown Show In History?), Bitcoin has several obstacles on the path to potential success as an alternative currency. But I forgot to mention hacking and theft at Bitcoin exchanges and other technical problems. This is related to the lack of government backing and the fact that the value of Bitcoins is based entirely on confidence.
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PSW Members - well, what a year for biotechs! The Biotech Index (IBB) is up a whopping 40%, beating the S&P hands down! The healthcare sector has had a number of high flying IPOs, and beat the Tech Sector in total nubmer of IPOs in the past 12 months. What could go wrong?
Phil has given his Secret Santa Inflation Hedges for 2015, and since I have been trying to keep my head above water between work, PSW, and baseball with my boys...it is time that something is put together for PSW on biotechs in 2015.
Cancer and fibrosis remain two of the hottest areas for VC backed biotechs to invest their monies. A number of companies have gone IPO which have drugs/technologies that fight cancer, includin...
Stocks got off to a rocky start on the first trading day in December, with the S&P 500 Index slipping just below 2050 on Monday. Based on one large bullish SPX options trade executed on Wednesday, however, such price action is not likely to break the trend of strong gains observed in the benchmark index since mid-October. It looks like one options market participant purchased 25,000 of the 31Dec’14 2105/2115 call spreads at a net premium of $2.70 each. The trade cost $6.75mm to put on, and represents the maximum potential loss on the position should the 2105 calls expire worthless at the end of December. The call spread could reap profits of as much as $7.30 per spread, or $18.25mm, in the event that the SPX ends the year above 2115. The index would need to rally 2.0% over the current level...
This is a non-trading topic, but I wanted to post it during trading hours so as many eyes can see it as possible. Feel free to contact me directly at email@example.com with any questions.
Last fall there was some discussion on the PSW board regarding setting up a YouCaring donation page for a PSW member, Shadowfax. Since then, we have been looking into ways to help get him additional medical services and to pay down his medical debts. After following those leads, we are ready to move ahead with the YouCaring site. (Link is posted below.) Any help you can give will be greatly appreciated; not only to help aid in his medical bill debt, but to also show what a great community this group is.
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