No More Viagra For Mario Monti And His Ilk
March 31, 2012 by
Wolf Richter www.testosteronepit.com
Economic, regulatory, and entitlement reforms are tough. While they’re supposed to open opportunities, put budgets on sounder footing, or make the economy more competitive, they invariably cut into the flesh of some groups, who then react with demonstrations and strikes to draw attention to their plight and put pressure on the reformers to preserve the status quo.
This has been happening across the Eurozone wherever major reforms have been attempted. People in those demonstrations may speak of revolution—meaning a radical change. But they want the opposite: preserve the existing system, protections, and entitlements. So it’s complicated. Greece is a salient example with impressive TV footage of street battles, Molotov cocktails, and burning buildings. In other countries, France for instance, reforms have been greeted with peaceful demonstrations and more disruptively, with massive transportation strikes that throw innocent bystanders, such as businesses, commuters, and travelers, into utter chaos, sometimes for days.
But now the perhaps most tongue-in-cheek effort will take place in Italy where unelected technocrat Prime Minister Mario Monti and his government are trying to liberalize the economy and create conditions for growth by reforming a whole slew of professions whose insiders are protected by regulatory barriers to entry. Growth is essential. Italy is staggering under its debt. Already, the ECB bought piles of Italian government bonds and printed a mountain of euros that it handed to the banks, including Italian banks, so that they would buy crappy bonds for which the financial markets had lost their appetite. Without those actions, controversial and inflationary as they may be, Italy would have to face the music. It’s tough out there.
"The financial aspect of the crisis is over," declared a relieved Monti last week while visiting Japan, a country mired in a much deeper fiscal hole than Italy but endowed with a central bank that has no compunction about monetizing government deficits. Alas, as he gloated about the progress his government has made in reforming the economy, the targets of his reforms weren't quite so happy.
Among them are state-employed hospital pharmacists, an integral part of Italy's public health care system. They’re upset because the reforms envision issuing 5,000 licenses mostly for new private pharmacies—creating jobs for young unemployed pharmacists who are stewing at their parents’ house while waiting for a miracle. These private pharmacies would then compete with hospital pharmacies. Scared out of their wits by these evil machinations, hospital pharmacists have come up with an ingenious plan: hit back where it hurts the most, and not willy-nilly in every direction, but go after the very top of the power structure, the old men that run the show.
Standard labor actions commence in April and will rise into a crescendo. The old men that run the show should heed the warning; if they don’t water down the reforms, the hospital pharmacists will roll out their ultimate weapon. It will be brutal and life-altering. No more ... Viagra. Hospital pharmacists will cease selling it. Men who habitually use it will be cut off cold turkey and will be cast into abstinence hell. The "Viagra strike” is aimed straight at those responsible for the reforms—the old men in parliament and at Monti himself. The logic is impeccable. And, as Union official Loredana Vasselli points out, it "does not put patients’ health at risk."
Only flaw in the logic: given the early warning, these men could acquire a stash in advance to get them through the strike. Thus, hording could actually cause a spike in pharmacy sales. However, like any Italian man worth his salt, Monti, if pressed by reporters, would deny with casual eloquence that he is hording Viagra....
It’s a heck of a lot better than the astonishing ploy used with impunity across the border. For a debacle that is viewed as amusing by everyone except the bosses, read.... Taking Bosses Hostage: A Labor Negotiating Tactic In France.
Germany the Vampire Squid of Europe
March 31, 2012 by
Herr VAMPIRE SQUID revisited and affirmed-
Germany is in it for Germany, not for united Europe. When you look at Europe and see that Germay is a success and no one else is, there is a reason for that.
Germany, after 'trapping' many countries in the e-Zone ignored their situation while Germany continues to post increasingly lower-than-required rates of inflation as many in EMU ahve run higher rates. As a result of this, there is a huge competitiveness conundrum in the Zone. It seems to have been engineered by Germany-and they are great engineers.
see http://robertbrusca.blogspot.com/ for a previous discussion of this toipic.
How are we to view Germany's actions?
Now I do not 'blame' Germany alone but as you know in our financial system the low inflation Balance-of-payments-surplus countries rule. The others are forced to adjust. Germany has persisted in growing slowly, running a high rate of unemployment while others wanted to grow faster. Germany helped them to do that by lending to them. Germany was not mindful of the consequences of their excesses but there were consequences as they all were/are in the Zone together. the Zone was not a Bento box divided into various walled-off compartments; it was like bowl of soup and poison one place circulates to another place.
As the 'adult,' or fiscal conservative, Germany did nothing constructive. It held back and watched until the others were in trouble then it dropped the hammer. Am I supposed to view Germany kindly for this sort of behavior? Did Germany really 'behave' any better or did it simply spring its trap?
Why did it neglect the growing imbalances in the Zone? Not just the fiscal ones that might have been hidden, but the inflation differences that were reported month after month after month. I have been haranguing about EMU inflation differences in the zone for years.
Did Germany smirk and know that it was gaining competitiveness? Did it not realize this disparity would benefit its exporters but come back to haunt it politically and financially?
Now that it has... does Germany disavow itself of any responsibility?
What allows the US to to maintain a union that has areas of vastly different real income, property values, etc, is its fiscal transfer system. Germany instead of dealing with today's issues, and assisting with development (instead of just bail-out bucks) wants to roll the clock back and set up what I have called a Bento-box view of Europe in which GERMANS will be made safe as each member of EMU will have its own mandated balanced budget and will be put in a Germanic-like straight jacket of fiscal responsibility. Hey that sounds like fun!
The Euro zone is NOT the German Zone. It was not formed and does not exist for the benefits of Germans. But as Germany is in a position of power it is now trying to bend every EMU nation to its way of doing things. This widespread use of austerity is foolishness. You may denigrate 'Keynesianism' a term that is such a cartoon and straw-man that it has no meaning, but austerity in the midst of recession is tomfoolery!
Germany waited until other EMU members got in trouble then, as I said, sprung THE TRAP. While the Germans think they have been virtuous they are among the TWO COUNTRIES that are the farthest out of equilibrium with respect to the Euro-average.
Look at the EU Commission indices and everyone else is weak and only Germany still has strong readings. I can understand wanting to glorify Germany for this success. But if we view Europe as a team, then Germany is not a team player. It is a high scorer on a team that is losing all its games! Germany has created a game of 'economy' and set the rules of EMU to benefit itself and to impoverish everyone else.
I know this is not a popular way to look at it. We should glorify the best performing economy but why is it best performing? Because it has the fiscal policy and national work ethic and social policy that works with the monetary policy that is being run.
Suppose the US were to play Germany in 'Football.' Suppose the US sent NFL guys in their pads and the Germans sent their 'soccer' team. Now if they played soccer instead of NFL football and the Germans wiped us out would that really make them 'the best?" Suppose we played NFL football instead?
What I am trying to do is to suggest that Germany wins at this game because it is a German game. Germany did not have to change anything to join EMU. Everyone else SHOULD HAVE been made to change a lot but they did not. Yet the game continued under 'German rules' NO WONDER THEY DO BEST... and there has been no one out there 'blowing the whistle' on those counties that have been building excesses; they have been left alone until WHAM! Crisis time.
The Germans have not swerved one iota to help their neighbors nor has this idea of what macro policy should be been broached. The 'Mass-Trick' was supposed to be a constraint on that policy that was never agreed to but the Germans and French broke the rule first and ruined it. Macro policy cannot be every man for himself with a fixed currency.
So here is a restatement of the Zone and a new accounting of who is most out of whack:
Currently Germany is the low inflation country in the Zone since it was formed. It has done this by averaging inflation of 1.7% per year while the GDP-weighted EMU average was 2.12% per year. Only FOUR EMU nations among the first 12-members average inflation at the EMU average or less (Germany, France, Finland, & Austria). They are the strong countries and they are the outliers -too. Of course Germany and friends are closer to the EMU average because Germany is such a large country and it carries a large weight in making up the EMU average. If we look at the simple unweighted average for inflation for the EMU first-12 members, average inflation among these countries goes up to 2.35%. Viewed that way the most normal country since EMU was formed is Italy in terms of inflation followed by Ireland. Next most normal is Belgium. Germany ranks 11th out of 12, and guess what? Greece ranks 12th! Germany and Greece rank right next to each other as outliers- on different ends of the spectrum, of course. .
Isn't that amazing?
If policy were geared for the average EMU country the Zone would be quite different. But it is not; it is geared for Germany making everyone else much worse off relative to Germany. Instead of having a zone with most members tightly clustered around the average with Germany and Greece as outliers we have a policy that is being run for one extreme of the Zone - Germany!
Typically the Germans think everyone else is wrong.
...and before you side with Germans let me note here that the US has had a good inflation performance over this period averaging a CPI of 2.5% (PCE even lower) . So before you go, "Ugh! Italy's the the average - are you crazy!!!" remember that US inflation has been relatively well contained during this period and Italy has done BETTER than us. But Italy is stuck in Zone with Germany and policy is being run for German inflation at 1.7% not for Italian inflation.
Yes, the Germans are extremely successful in EMU especially compared to everyone else. They know how to work, how to engineer - there is no doubt about that. But they do not know how to share; they know how to dominate militarily, economically etc. Now they want to dominate EMU by by setting macro policy and social policy as well as having a German monetary policy.
If Germany is going to be in a single economic zone with everyone else, it must fit as well as they must fit. Germany and France were the first to break the Mass-Trick rules and once that was gone they could not expect discipline from others.
Germany wants every other nation to sacrifice a generation's worth of growth to get their competitiveness back in line to and to defend Herr Euro. Why should any of those countries do that to perpetuate a game where the Germans win?
The two important questions to ask are (1) how did this happen so we (Europe) can stop it from continuing and (2) what do we (Europe) do about the huge competitiveness gaps that each EMU member -EACH MEMBER- took part in letting develop? NOT What does GERMANY want to do...
Can EMU be saved? Should everyone devalue and re-form a new currency unit? Should the new unit be renamed? What are the new rules? Who makes compromise in the next system? Say it UP FRONT.
Certainly you can't expect whole countries to sacrifice a generation of growth to protect a currency!
That puts economics backwards. Currencies are there to serve economic efficiency, to replace barter and to augment growth not to enslave a nation..
...unless you are German of course.
In that case it works for you and you can enslave everyone else.
ergo,
Germany, the VAMPIRE SQUID of Europe
Europe: "€1 Trillion May Not Be Enough"
March 31, 2012 by
A core piece of last week's European newsflow was that following much pushback, Angela Merkel, who understands the underlying math all too well, finally dropped her opposition to expanding the European "firewall" in the form of a combined EFSF and ESM rescue mechanisms, to bring the total "firepower" to €800 billion (ignoring for a moment that when the true dry powder of the combined vehicle is just about €500 billion net as explained here, hardly enough to rescue Spain, let alone Italy). Yet as has been explained here repeatedly, and as Merkel has figured out, this is easily the most symbolic expansion of a rescue facility ever. Because while the ECB's agreement to allow Eurobanks to abuse its €1 trillion discount window for three years (which is what the LTRO is), following the replacement of JC Trichet with a Goldman apparatchik, at least infused the system with $1.3 trillion in new fungible liquidity (and resulted in a stock market performance boost for the ages, one which is now unwinding), the 'firewall" does not represent new money, nor is a "firewall" to begin with - it is merely one massive contingent liability which will remain unfunded in perpetuity. Slowly the German media is waking up, and in an article in Der Spiegel, the authors observe that "Even a 1-Trillion Euro Firewall wouldn't be enough." And they are correct, because the size of the firewall is completely irrelevant, as explained later. All the "firewall" does is shift even more backstop responsibility on the only true AAA-country left in the Eurozone, Germany. However, the main cause of problems in Europe - a massive debt overhang which can at best be rolled over but never paid down due to the increasingly lower cash flow generation of Europe's (and America's) assets, still remains, and will do so until the debt is finally written down. However, it can't because one bank's liability is another bank's asset. And so we go back to square one, which is that the system is caught in the biggest Catch 22, as we explained back in 2009. We are glad to see that slowly but surely this damning conclusion is finally being understood by most.
From Spiegel:
European finance ministers meeting in Copenhagen on Friday agreed to boost the euro-zone firewall to over 800 billion euros. The move marks another U-turn on the part of the Merkel administration, which recently dropped its opposition to increasing the fund. German commentators warn that even the new firewall may still be too small.
Austrian Finance Minister Maria Fekter announced on Friday that the permanent euro rescue fund, the European Stability Mechanism (ESM), would be expanded, by considering the around €200 billion in current bailouts as being separate from the €500 billion earmarked for the ESM -- originally, the €500 billion figure was to have included the €200 billion in existing aid. The ESM, which is due to come into operation in mid-2012, will also be boosted by including around €100 billion in bilateral aid that was given to Greece in 2010, as well as aid from other EU funds, bringing the firewall's total capacity to over €800 billion.
Fekter expressed her confidence that Friday's move would be enough to calm the financial markets. "The markets are already signaling relative calm," she said. "That shows that the markets can work with what we have set up here."
The Nuclear Option
On Thursday evening, in the run-up to Friday's summit, German Finance Minister Wolfgang Schäuble had said he was prepared to combine the existing bailouts with the new permanent mechanism. He said that the €800 billion capacity was "convincing" and "sufficient."
But not everyone shares his view that the sum is enough. On Thursday, French Finance Minister François Baroin called for the permanent euro bailout fund to be increased to €1 trillion, to shore up market confidence and prevent contagion in the euro crisis. "The firewall, it's a little like the nuclear option in military planning, it's there for dissuasion, not to be used," Baroin said in a radio interview. He was echoing calls made by the Organization for Economic Cooperation and Development (OECD) earlier in the week to boost the firewall to €1 trillion.
The German press is also finally starting to wake up:
The center-right Frankfurter Allgemeine Zeitung writes:
"It is to be doubted whether all members of the Bundestag actually understand the financial dimension and the technical details of the ESM. It doesn't help matters that the federal government has repeatedly shifted its position on this issue -- as the SPD's floor leader Frank-Walter Steinmeier rightly pointed out."
"But the entire euro rescue is a balancing act. On the one hand, fiscal discipline needs to be promoted. The pressure on the crisis-stricken euro-zone members to carry out reforms must not be undermined by the knowledge that, if they fail, they will be caught by a financial safety net. On the other hand, there is the need for solidarity. Those countries that are in a better position can 'help the others to help themselves,' as Schäuble put it."
"As always in the EU, these things lead to compromises in practice, which also explains why the government has readjusted its position on the ESM. The high ratings that Merkel enjoys in the polls may be related to the fact that the Germans seem to intuitively understand this delicate maneuver."
The left-leaning Die Tageszeitung focuses on the calls to boost the ESM to €1 trillion:
"A trillion! That's how much money France is now demanding for the euro rescue fund. Until now, Chancellor Angela Merkel only wanted to come up with €700 billion. On the surface, it looks as if a Franco-German showdown is on the horizon. In fact, it is nothing more than a PR battle, where nothing is really new. It was already clear last summer that the existing EU rescue fund, the EFSF, was much too small to save Italy or Spain in an emergency. Even then, people were talking about €1 trillion as a target."
"One trillion euros is a lot of money, and yet even this huge sum will not be enough. But again, that's nothing new. For months, calculations have been doing the rounds that show that at least €1.5 trillion will be needed. The only interesting question left is how long it will take France and Germany to acknowledge this reality."
The last observation is off on the right track but is nowhere near close enough to the true conclusion, which was stated here yesterday by Mark Grant:
The Firewall Lie
Whether some proposed firewall is $760 billion or $1.3 Trillion or $13 Trillion makes no difference as in zero, nada, nothing and null. It is an IOU, a promise to pay and it is not counted in any European sovereign debt numbers nor is it counted in the figures for the European Union’s debt. It will not stop Spain or Portugal or Italy from asking for or needing money. It will not stop contagion nor will it protect any nation from the calamities of another nation. If approved by the Finance Ministers it is not approved by the European Parliaments and even if approved; it accomplishes nothing besides one more unaccounted for contingent liability that is nowhere to be found on anyone’s books. This whole discussion is a head fake, a deception and a ruse carefully plotted out for investors in one more attempt to mislead the entire world. If you wish to be a statistic in the Greater Fool Theory be my guest but I refuse to be apart of this unadulterated scam.
In other words, the next time a crisis flares up, the only thing that will delay the unwind, as the LTRO 1 and 2 did in late 2011, is another fresh injection of liquidity, whether in exchange or not for worthless collateral which was unused to begin with, as only new money can delay the unwind.
Of course, with every new trillion in incremental cash, now that central bank balance sheets are growing exponentially, more and more is now spilling over into hard assets, despite a clogged monetary transmission mechanism. The longer Europe's farcical crisis continues, the more the status quo will have to fight tooth and nail to prevent an explosion in hard asset prices expressed in fiat. This is a fight they will lose.
The Muppets Are Confused How Goldman Is Both Bullish And Bearish On Stocks At The Same Time
March 31, 2012 by
Ten days ago, Goldman's Peter Oppenheimer published the "Long Good Buy, The Case For Equities", a big research piece, full of pretty charts and witty bullets, which actively urged the rotation out of bonds and into stocks, yet not only marked the peak of the market so far, but drew ridicule even from the likes of CNBC. More importantly, it has generated a plethora of questions from the muppets (aka Goldman clients) themselves, who are wondering how Goldman can be both uber bullish, and yet still have a 1250 S&P 2012 YE price target, as per the other strategist, David Kostin ("We expect the S&P 500 will trade at 1325 by mid-year (-5.6%) and 1250 in 12 months (-10.9%)."), or said otherwise, just how is it that Goldman is having its cake and eating it too? Below is David Kostin's attempt to justify how the firm can pull a Dennis Gartman (and virtually any other newsletter and book seller - after all what better way to say one was right than to have all bases covered) be both bearish and bullish at the same time.
From Goldman's US Weekly Kickstart
Last week, Peter Oppenheimer and our European Portfolio Strategy team published "The Long Good Buy; the Case for Equities" in which they conclude equities are attractive for three reasons: (1) Periods of poor real returns in equities tend to be followed by periods of significantly higher returns; (2) equity valuation appears low versus bonds; and (3) an elevated equity risk premium (ERP) supports a long-term positive view for stocks.
We agree with the long-term thesis. Investors willing to position for a normalized growth and risk environment over the next decade should interpret high ERP and low implied growth as an investment opportunity.
However, path matters and our price targets reflect short-term tactical risks. We believe equity valuation will remain below average over the next year due to stagnant economic growth and high uncertainty. Both views can comfortably co-exist in the context of different investment horizons.
S&P 500 currently trades above fair value on a variety of metrics although the index is attractively valued relative to bond yields given the low interest rate environment. Equity investors fall into many categories and we believe views are currently most differentiated between equity-focused vs. cross-asset investors and short- vs. long-term investment horizons. Investors that actively invest in multiple asset classes and/or can look past near-term risks are generally more positive on US equities.
Last week we published three US Equity Views reports on valuation of equities vs. bonds, dividends, and S&P 500 today vs. 2007 peak. We address below questions clients raised most frequently:
Q: How do global markets currently trade relative to their previous peaks?
A: S&P 500 trades 10% below its 2007 peak, Asia-Pacific ex-Japan is 26% below, Europe is 35% below and Japan is 53% below. TOPIX is 70% below its 1989 level. The level of earnings has recovered and stands at new highs in both US and Asia-Pacific ex-Japan. However, earnings are well below 2007 peaks in Europe (15%) and Japan (50%).
In contrast, the expected earnings growth rates increased in Japan (13% to 50%) and are unchanged in Europe at 8%. Forward EPS growth rates have declined in US (13% to 9%) and Asia-Pacific ex-Japan (17% to 13%). Every region has de-rated and remains below 2007 peak levels. Asia Pacific ex-Japan has experienced the largest P/E de-rating despite having the largest forward EPS growth. Earnings grew by 18% but the forward multiple fell by 34% to 11.4x from 17.3x. MXAPJ is 26% below its 2007 peak.
In Europe, the Stoxx 600 is 35% below its 2007 peak. Performance can be attributed to both multiple contraction and lower earnings given the expected forward earnings growth has remained unchanged.
In Japan, TOPIX sits 53% below the 2007 high. The collapse in earnings, which are 50% below the 2007 “peak,” and multiple contraction of 28% are negative impacts to the Japan market level. Relative to the 1989 peak, earnings are flat, but the multiple has compressed by 73%.
Q: Do buybacks and issuance affect 2007 and 2012 EPS comparisons?
A: S&P 500 EPS is the sum of all constituent earnings divided by the index divisor. Company-level earnings are calculated as the EPS of the firm multiplied by the company’s float-adjusted share count. The earnings contribution of a firm earning $2 per share with 50 shares is the same as a company earning $1 per share with 100 shares. The divisor is also adjusted on share changes, and this can affect index-level EPS. We can remove this by calculating earnings growth rather than EPS growth. S&P 500 LTM earnings are 9% above the 2007 level while EPS grew 6%.
Q: Earnings and margins recovered. Where are sales relative to peak?
A: S&P 500 trailing four quarter EPS and margins peaked in 2Q 2007 but sales, both including and excluding Financials and Utilities, peaked 15 months later in 3Q 2008. Full-year 2011 sales excluding Financials and Utilities are 16% above 2Q 2007 levels but 1% below 2008 peak levels.
Q: Isn’t EPS growth just the result of higher margins from cost cutting?
A: Comparison of full-year 2011 earnings, sales, and margins versus 2007 peak suggests higher sales, not margin expansion, drove the majority of EPS growth. This is because sales and earnings (excluding Financials and Utilities) peaked together in 3Q 2008. Full-year 2011 sales remain just below 2008 levels, but earnings reached new highs, driven by margin expansion.
Q: Despite the valuation-driven rally, the S&P 500 trades below the 10-year average P/E. How is the market valued using other metrics?
A: With a forward P/E of 13.2x, S&P 500 trades one standard deviation below its 10-year average. S&P 500 trades between 0.5 and 1 standard deviations attractive using most valuation metrics we track (see Exhibit 4). Historical average valuation would imply a rise in S&P 500 of about 14% to 1600.
However, we don’t view mean reversion as appropriate given margins have started to fall from record levels and US GDP is growing below trend.
And now you know why one can be both bullish and bearish, while soaking up million in soft-dollars.
The Muppets Are Confused How Goldman Is Both Bullish And Bearish On Stocks At The Same Time
March 31, 2012 by
Ten days ago, Goldman's Peter Oppenheimer published the "Long Good Buy, The Case For Equities", a big research piece, full of pretty charts and witty bullets, which actively urged the rotation out of bonds and into stocks, yet not only marked the peak of the market so far, but drew ridicule even from the likes of CNBC. More importantly, it has generated a plethora of questions from the muppets (aka Goldman clients) themselves, who are wondering how Goldman can be both uber bullish, and yet still have a 1250 S&P 2012 YE price target, as per the other strategist, David Kostin ("We expect the S&P 500 will trade at 1325 by mid-year (-5.6%) and 1250 in 12 months (-10.9%)."), or said otherwise, just how is it that Goldman is having its cake and eating it too? Below is David Kostin's attempt to justify how the firm can pull a Dennis Gartman (and virtually any other newsletter and book seller - after all what better way to say one was right than to have all bases covered) be both bearish and bullish at the same time.
From Goldman's US Weekly Kickstart
Last week, Peter Oppenheimer and our European Portfolio Strategy team published "The Long Good Buy; the Case for Equities" in which they conclude equities are attractive for three reasons: (1) Periods of poor real returns in equities tend to be followed by periods of significantly higher returns; (2) equity valuation appears low versus bonds; and (3) an elevated equity risk premium (ERP) supports a long-term positive view for stocks.
We agree with the long-term thesis. Investors willing to position for a normalized growth and risk environment over the next decade should interpret high ERP and low implied growth as an investment opportunity.
However, path matters and our price targets reflect short-term tactical risks. We believe equity valuation will remain below average over the next year due to stagnant economic growth and high uncertainty. Both views can comfortably co-exist in the context of different investment horizons.
S&P 500 currently trades above fair value on a variety of metrics although the index is attractively valued relative to bond yields given the low interest rate environment. Equity investors fall into many categories and we believe views are currently most differentiated between equity-focused vs. cross-asset investors and short- vs. long-term investment horizons. Investors that actively invest in multiple asset classes and/or can look past near-term risks are generally more positive on US equities.
Last week we published three US Equity Views reports on valuation of equities vs. bonds, dividends, and S&P 500 today vs. 2007 peak. We address below questions clients raised most frequently:
Q: How do global markets currently trade relative to their previous peaks?
A: S&P 500 trades 10% below its 2007 peak, Asia-Pacific ex-Japan is 26% below, Europe is 35% below and Japan is 53% below. TOPIX is 70% below its 1989 level. The level of earnings has recovered and stands at new highs in both US and Asia-Pacific ex-Japan. However, earnings are well below 2007 peaks in Europe (15%) and Japan (50%).
In contrast, the expected earnings growth rates increased in Japan (13% to 50%) and are unchanged in Europe at 8%. Forward EPS growth rates have declined in US (13% to 9%) and Asia-Pacific ex-Japan (17% to 13%). Every region has de-rated and remains below 2007 peak levels. Asia Pacific ex-Japan has experienced the largest P/E de-rating despite having the largest forward EPS growth. Earnings grew by 18% but the forward multiple fell by 34% to 11.4x from 17.3x. MXAPJ is 26% below its 2007 peak.
In Europe, the Stoxx 600 is 35% below its 2007 peak. Performance can be attributed to both multiple contraction and lower earnings given the expected forward earnings growth has remained unchanged.
In Japan, TOPIX sits 53% below the 2007 high. The collapse in earnings, which are 50% below the 2007 “peak,” and multiple contraction of 28% are negative impacts to the Japan market level. Relative to the 1989 peak, earnings are flat, but the multiple has compressed by 73%.
Q: Do buybacks and issuance affect 2007 and 2012 EPS comparisons?
A: S&P 500 EPS is the sum of all constituent earnings divided by the index divisor. Company-level earnings are calculated as the EPS of the firm multiplied by the company’s float-adjusted share count. The earnings contribution of a firm earning $2 per share with 50 shares is the same as a company earning $1 per share with 100 shares. The divisor is also adjusted on share changes, and this can affect index-level EPS. We can remove this by calculating earnings growth rather than EPS growth. S&P 500 LTM earnings are 9% above the 2007 level while EPS grew 6%.
Q: Earnings and margins recovered. Where are sales relative to peak?
A: S&P 500 trailing four quarter EPS and margins peaked in 2Q 2007 but sales, both including and excluding Financials and Utilities, peaked 15 months later in 3Q 2008. Full-year 2011 sales excluding Financials and Utilities are 16% above 2Q 2007 levels but 1% below 2008 peak levels.
Q: Isn’t EPS growth just the result of higher margins from cost cutting?
A: Comparison of full-year 2011 earnings, sales, and margins versus 2007 peak suggests higher sales, not margin expansion, drove the majority of EPS growth. This is because sales and earnings (excluding Financials and Utilities) peaked together in 3Q 2008. Full-year 2011 sales remain just below 2008 levels, but earnings reached new highs, driven by margin expansion.
Q: Despite the valuation-driven rally, the S&P 500 trades below the 10-year average P/E. How is the market valued using other metrics?
A: With a forward P/E of 13.2x, S&P 500 trades one standard deviation below its 10-year average. S&P 500 trades between 0.5 and 1 standard deviations attractive using most valuation metrics we track (see Exhibit 4). Historical average valuation would imply a rise in S&P 500 of about 14% to 1600.
However, we don’t view mean reversion as appropriate given margins have started to fall from record levels and US GDP is growing below trend.
And now you know why one can be both bullish and bearish, while soaking up million in soft-dollars.
The Spanish Riotcam Has Arrived
March 31, 2012 by
Spain's honeymoon with its new government is over.
Following months of hope that Spain will somehow tiptoe around the sensitive topic of austerity, despite promises of such and slow leaking of bond yields wider, yesterday the government promised to generate savings of €27 billion of about $36 billion (Spanish GDP is less than one tenth of America's, so an equivalent US cut would be about $400 billion), as demanded by Europe, but which will leave a harsh aftertaste with the general population. As Reuters notes: "The central government could meet its target but there's still a risk from the regions and the social security budget," economist at Madrid-based think tank Funcas Angel Laborda said. "I get the impression the central government has created a budget it can meet but has left everyone else in a rather difficult situation." Well, technically no. After all what Spain is doing is following the Greek playbook page by page, as expected back in October 2011 - first Spain sabotages its economy, then it demands more money, then it promises austerity, then it never keeps its promises but in the meantime, Germans are on the hook for hundreds of billions in more bailout cash. At the end of the day (for the euro), it will be they who are in the worst position, but since they get to retain their export partners (whose current account deficits the Bundesbank funds), all is well. That is, at least, until this latest unsustainable bubble pops.
Furthermore, as noted yesterday, it will be Spain's regions that are about to become front and center for the bond vigilantes:
The regional authorities, which account for around half of the total spending budget and were responsible for a large part of the fiscal deviation last year, must slash their own deficits in half this year.
But, with few details on Friday of how the central government cuts will affect the regions - a full breakdown will be published on Tuesday - it is still unclear if Madrid's austerity comes at the cost of the 17 autonomous communities.
What is clear is the regions, which hold the purse strings of the much treasured state health and education systems, will be forced to make unpopular cuts which could fuel growing public anger like that seen during the general strike on Thursday.
Marches across the country saw violent flashes for the first time since the crisis began last week as frustration erupted at the government's failure to address the 23-percent unemployment rate which rises to almost 50 percent for under-25s.
...
The economy is expected to shrink by as much as 2.7 percent this year and could find little to spark growth if the government is forced to raise taxes to meet this years 5.3 percent deficit goal and the target of 3 percent in 2013.
Rajoy was wrong to push Brussels for a loosening of the original deficit goal of 4.4 percent of GDP for this year and should have asked instead for a two year extension of 2013 target, an editorial in the left-leaning El Pais wrote.
Recall:
Is Spanish Regional Debt Out Of Control?
Spanish regional debt currently stands at 13% of GDP and has surged from EUR60bn in 2006 to over EUR140bn currently. As Credit Suisse points out, the top four regions account for the majority of GDP, two-thirds of regional debt, and, with the exception of Madrid, substantially missed their deficit targets. What is more worrisome is the heavily front-loaded nature of the maturing debt with substantial refinancing needs in the next 2 years and this regional debt is split between bonds and loans - with many of the latter from Spanish banks - yet another illustration of the interconnected contagion that is building more rapidly. The growing crisis in refinancing (liquidity and costs) for regional debt developed the idea of Ponzibonos 'Hispabonos' - debt issued by regions but guaranteed by the central government. The conditionality of these guarantees with regard to deficit targets wil be critical but once they are issued, the risk is that the regions are unable to get their finances under control, the Spanish debtload increases, and there is no longer the flexibility for a regional debt restructuring, should one be necessary.
Spanish regional debt has grown dramatically in recent years...
But the refinancing needs are massively front-loaded (and rely not just on markets but the banks to roll loans also)...
As a reference, front-loaded means the can can not be kicked down the road. It has to be resolved soon.
So as Greece is supposedly fixed, at least until its 3rd bailout, which was hinted at yesterday by the PM, Spain has once again officially joined the fray.
In the meantime, the people are less than delighted with this latest episode of mean reversion, sometimes incorrectly called austerity, as can be seen on the following pictures from last week's General Strike across Spain, which morphed into a less than general riot. Since more tax hike are imminent, we will very likely soon have to find a local version of the Syntagma square riot cam, preferably one situated in the middle of Plaça Catalunya.
Housing Crisis: Do You Know the Difference Between a Lien State and a Title State?
March 31, 2012 by
"On February 9, 2012, Attorney General Kamala D. Harris announced an historic $18 billion settlement with banks to bring relief to hundreds of thousands of home owners... "
Below is a link to an excerpt from the AEI event last week, "Bubble Trouble: Beginning of the End?" My presentation starts about 0:52 into program.
One of the reasons that the US housing crisis is not nearly at an end is that in the Northeast, where states require judicial action for a lender to foreclose, there is a backlog of years in processing foreclsores.
CA AG Kamala Harris wants to change CA into a LIEN state (I reversed the two in the AEI discussion) and make it like NY, NJ, PA. The safer way to refer to the difference is JUDICIAL vs NON-JUDICIAL states because there are subtle nuances in each jurisdiction. See nice map of the US c/o the Grabois law firm: http://title.grabois.com/
If Harris is successful in making CA a judicial state, the CA real estate market will be irreparably damaged and the CA and US economies will tank. Watch this closely.
I will be writing more about this in The IRA this week.
Chris
Until This is Fixed… There Will Be No Recovery
March 31, 2012 by
A few weeks ago I penned a series of articles relating to the “cancerous” policies of the Federal Reserve and how said policies are killing the basic principles of Democratic Capitalism.
Of those basic principles, one stands out as being absolutely vital in order for business to thrive. That principle is the principle of trust.
Without trust, Democratic Capitalism cannot function. One’s clients remain one’s clients because of trust. Business partnerships are based on trust. Indeed, trust is the underlying principle of every capitalist action whether it be:
- Trust that a product is what it claims to be
- Trust that the business is legit
- Trust that the other party involved is not trying to take advantage of you
- Trust in quality control.
Etc.
This trust is established by reputation and by the legal system. The former is earned by businesspeople through consistent work and repeated examples of being trustworthy and producing items of quality. The latter is in place to punish those individuals/ businesses who are fraudulent or breaking the law.
When the Financial Crisis hit in 2008, trust was damaged in a tremendous way. We found out in clear terms that many companies, mainly financials, were lying about their balance sheets. We also found out that many companies were actively engaged in fraud (as they themselves admitted in their Congressional testimony after the fact).
None of these companies or these individuals were punished or prosecuted. Instead, they were given taxpayer money. The argument for this was economic in nature: “if we do not save these businesses, the entire system will collapse.”
This argument completely underestimates both the strength of capitalism and the entrepreneurial spirit in the US. The entire system would collapse and we’d never recover? Really? Dust off your history books, even a brief review of US history shows that this country has been in a perpetual state of collapse and renewal ever since commerce began in this country.
There has never been a collapse from which the US did not recover nor has there ever been a boom that has not been followed by some sort of collapse. That is the nature of Democratic Capitalism: boom and bust.
Businesses collapse and new businesses take their place. This would have happened in 2008 had we let the fraudulent banks go under. Yes, we would have experienced severe short-term pain, but there were hundreds of smaller regional banks that didn’t commit fraud and which could have grown to replace those larger entities that should have failed.
We’ve just witnessed a process quite similar to this in Iceland, which did the following between when a Crisis hit it in 2008 and 2011:
- Had its banks default on $85 billion in debt (the country’s GDP is just $13 billion).
- Jailed the bankers responsible for committing fraud during the bubble.
- Gave Icelandic citizens debt forgiveness equal to 13% of GD.
Today, just a few years later, Iceland is posting GDP growth of 2.9%: above that of both the EU and the developed world in general. In plain terms, the short-term pain combined with moves that reestablished trust in the financial system (holding those who broke the law accountable) created a solid foundation for Iceland’s recovery.
In the US, we instead chose to undermine capitalism and the economic cycle. In the process we’ve undermined trust in the system. Until this is remedied there will be not REAL recovery.
Best Regards,
Graham Summers
PS. For more market commentary and economic analysis, swing by www.gainspainscapital.com. We offer several FREE Special Reports on how to navigate the market and preserve your wealth.
Chris Martenson Interviews Charles Biderman: The Problem With Rigged Markets
March 31, 2012 by
Submitted by Chris Martenson
Charles Biderman: The Problem With Rigged Markets
"Even Wile E. Coyote had to come back down to earth sooner or later", says Charles Biderman, founder of TrimTabs Investment Research. In his opinion, the prices of stocks and bonds - enabled by excessive financialization of our economy and central bank money printing - have been defying gravity for a dangerously long time.
If we continue to do all we can to preserve the status quo -- to maintain "phony" asset price levels as Charles calls them -- at best we will restrict overall growth and handicap the economy.
The problem isn't so much the unfairness and malinvestment evident in a rigged market. As Charles shrewdly asks: what happens when the market becomes un-rigged?
We've never experienced the unwinding of an entirely manipulated financial system, so we can't predict for sure. But at this point, a painful collapse of our markets and loss of the US dollar as the world's reserve currency seem entirely plausible.
On Market Manipulation
The market is rigged. In January of ’10, I went on CNBC and on Bloomberg and said that there is no money coming into stocks, and yet the stock market keeps going up. The law of supply and demand still exists and for stock prices to go up, there has to be more money buying those shares. There is no other way in aggregate that that could happen.
So I said it has to be coming from the government. And everybody thought I was a lunatic, conspiracy theorist, whatever. And then lo and behold, on October of 2011, Mr. Bernanke then says officially, that the purpose of QE1 and QE2 is to raise asset prices. And if I remember correctly, equities are an asset, and bonds are an asset.
So asset prices have gone up as the Fed has been manipulating the market. At the same time as the economy is not growing (or not growing very fast).
On the Future of the Dollar
At some point, the world is going to recognize the Emperor is naked. The only question is when.
ill it be this year? I do not think it will be before the election, I think there is too much vested interest in keeping things rosy and positive. And I just do not see it happening soon.
However at some point, hard money wins out over phoney money. And of the investor class or those with capital, which right now seems to be the emerging markets, they are buying gold and bullion and they are not buying dollars. Or China appears to have slowed their buying of dollars, even though China might be having their own growth problems, or their own bad debt problems. But Singapore and all those other countries with huge cash flows, the emerging world, I would not be surprised -- maybe by 2013 of 2014 -- seeing a non-US dollar alternative currency by those countries.
On the Challenge Facing Investors
We are in strange, uncharted territory.
I think is very important for people to realize, in 1981, before the market crossed 1,000, the Dow crossed 1,000 in early ’82, and stayed above that, the value of all U.S. Stocks was about $800 billion. And in October of ’07, it peaked at $22 point something trillion. And it is back up to $19.4 trillion.
So in 1981, there was maybe 100 hedge funds or less, I am sure less. And maybe 100 or so equity mutual funds. And 3,000 stocks, you know, institutional size and sorts back then. Now there is still 3,000 stocks, but there is 4,500 equity mutual funds, 10,000 hedge funds. The real wealth created in the last 30 years has been in the equity market, not in earnings. I mean earnings are up several times, four or five times take home pay is up -- but the market is up 19-20 times.
Over that time, we have the boomers entering their peak earning years, as well as technical advances like the Internet. You know, more people in the last 30 years have gone from calorie insufficiency to calorie sufficiency as a percentage of the population than going back to the first time we industrialized in the 19th century. So it is like this huge increase in wealth and calories and our goal across the globe, and a lot of that money went into the real estate markets and went into the equity markets -- and boosted home prices, and stock prices dramatically, and now it is unwinding.
All booms create excesses and excesses are painful as the excesses from the boom are worked off and worked out. And that is the process we are in, and in the past it has taken 13 to 17 years to work off those excesses. And we are still not even through year five.
Click the play button below to listen to Chris' interview with Charles Biderman (runtime 36m:10s).
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