stephenlweiss

“I could not have been more clear, I specifically asked for a bazooka and all I got was this little long range pea shooter,” said Mr. Market, clearly dejected.

Europe has done it again, taken the markets to the brink of despair, then sweet talked investors off the edge.  Frau Merkel has proven herself to be as alluring as the mythological Greek Sirens, her sweet songs of a stronger European Union with tighter budgetary controls enticing enough to convince unsuspecting traders to increase their risk.  But like a pimply faced teenager stuck at first base, they too will feel unsatisfied and longing for more.

At least they got smart about one thing, or so they believe, extending the deadline for the seminal announcement until March.  After the last two short window lead ins, they realized it takes months, or more, to craft a plan rather than a fortnight.  They will still come up short as each country realizes what Britain did which is they have no interest in being governed by the same country they had major problems with, well actually not exactly problems, more like out and out war.  However, even if reasonable  minds say that was then and this is now, the cultural divide between each country will prey upon this agreement.  But even if it does pass – it has not been officially ratified – and the countries needing approval from their broader government secures their assent, the very core of the agreement is flawed.  Let me see if I get this right: a country fails to either establish or enforce a budget in line with the requirements of the EU so the EU will then assess heavy sanctions upon the profligate nation.  Yup, that will work.

Candidly, as to my kids, I was not much of a disciplinarian. “If you do that again…,” I would say, both they and I knowing they would do it again and I would say that again.  Thankfully they turned out great.  Not so with Greece.  Without moral hazard, countries will continue to do what is in their politicians’ best interests.  Greece lied their way into the EU and the EU is responding with bailout after bailout.  I still believe allowing them to fail would be the best result.

This is the fifth bite of the apple for Europe and they continue to come up short, lagging a step behind.  Still no ring-fence, still no plan to save the banks, still nothing of substance; just words.  They are behind in everything, even video games.  The Mario Brothers went out of style a long time ago and the Italian version – Monti and Draghi – are not showing themselves to be Super Marios at all.  Draghi can get there if he opens the purse strings with a massive liquidity push, buying even more bonds than the ECB has in the past,  but despite two easings, he is still prone to alligator arms like the clients I used to wine and dine from my perch at Lehman;  his hands don’t reach the bottom of his pockets.   And with the most recent cut in rates being the result of a divided vote, it may get tougher for him to cut further given the European single mandate.  However, as the global economy slows and the USD strengthens, inflationary pressures will ease providing cover more rate cuts.

The banks still need $153 billion in new capital which I don’t see how they can raise without nationalizing some of the banks. But Santander does have a solution: they will just lower the risk level on their assets. Yup, that worked for Lehman.  So much for paying heed to the EU.  And should there ever be  a default and the CDS insurance kicks in, the global financial system will see a bigger meltdown than a forty-year old Japanese reactor.

The AAA ratings in Europe will be a relic of the past, no question as they are in virtually everyone’s mind, the only unknown is whether this will mark a near term bottom.  These ratings agencies continue to be an embarrassment, always multiple steps  behind.  Rumor has it that S&P management is urging their employees to contribute to the Herman Cain campaign for President.

Meanwhile, China continues to be slowing and I believe there is little they can do, or want to do, about the real estate bubble popping.  This bodes poorly for commodities.  With construction slowing, China has enough stockpiles of needed commodities to wait for a further decline in prices.  This is what they have always done when able and this is what makes them great traders.  They are like a private company, not worried about quarter to quarter earnings, taking a long-term view.  They were Warren Buffett before Warren Buffett became Warren Buffett, buying when others are fearful.  But with their primary end market, Europe,  going into a recession, possibly depression, the Chinese are limited in terms of what they can do to drive growth.  They would rather look for defaults and then step in and buy Greece or maybe even Hungary – its time to move on now that Taiwan seems under control.  India, though, not so much. The slowing in their economy, while not a complete surprise, is not welcome nonetheless.

This slowing will also hurt crude.  If Iran were not in the mix, we would already be trading in the 80’s to low 90’s.  Inventory figures have not been very good.

Euro short/ dollar long continues to be my favorite position.  As to stocks: I remain very light in exposure and tilted toward defensive.  Commodities look cheap but they always look cheap on the way to the bottom. I can be patient.  There has been too much beta chasing recently, in stocks such as X, that has to unwind.

The strengthening of the dollar will be as much a result of the strengthening US economy as well as the crumbling European economy.

So where can I go wrong?  The only way out of this is for massive stimulus by the ECB.   IMF rescues haven’t necessarily helped in the past. I am again inserting these charts I borrowed from JP Morgan:

IMF