Wednesday, 21 December 2011

Santa is finally coming to town?

ECB and the stock markets
The story I told on Monday appears to be gaining momentum. ECB announced new measures on 7 December and now the stock markets have finally picked it up. The combination of unlimited loans from the ECB and a “guarantee” from EU on government bonds has caused a stampede into short European short-term bonds, including those issued by Spain and Italy.

This is indeed very helpful in covering the short term financing needs of the European countries. And it gives the banks a healthy yield pickup, giving them a stealth, tax-payer financed contribution towards rebuilding their capital base. Wednesday’s opening of the ECB facility will give an important pointer. If the banks take upwards of EUR 250bn, it will be deemed a success and the current Santa rally can continue. Downwards of EUR 100bn will be interpreted as a failure.

I have for some time held the conviction that everything we know about pricing of risk is off the table for the moment. Except of course that bonds with a guarantee should trade at a lower yield than those without a “guarantee”. Go figure.

It is interesting that nobody really noticed ECB’s new initiatives when they were introduced. Instead markets took a great interest in guessing about the imminent Euro-zone breakup.

But heed this warning: If – and it is still a big IF – this re-evaluation of the risk situation continues to gain momentum, we are likely to see a major setback in the two kinds of assets that are the most overvalued or overbought or whatever: US T-bonds and German Bunds.

While gains in the stock market may be fun to look at, the sheer volume of the bond holdings of this world means that you should not take the eye off that ball.

Stocks are for show, but bonds are for dough – as we say on the golf course.

Positive data
Stock markets were helped by positive economic data. German business sentiment data came in strong and a report confirmed that the US construction sector is improving. Last week a rather dubious labour market report also told that the US economy is beginning to add jobs.

That the US economy continues to surprise to the upside is fully in line with Origo’s view that a rebound was due in Q4. The German data are not entirely in line with our rather gloomy view on the European situation. However, in all fairness, we are beginning to see indications that the downturn in Europe may be losing momentum.

US Banks
Somebody stole the punch bowl right under the nose of the US banks, just as a rally in bank stocks was about to take off yesterday. Rumours had it that even the US regulators are serious about demanding higher capital ratios.

Did this really come as a surprise to the markets?? Did market participants really believe that the influence of the banking sector on the politicians is so strong that the US banking sector could avoid completely sensible regulation when the rest of the world is moving that direction.

After 25 years in this business I can still get surprised at the sheer ignorance and credulity of many market participants.

Oil glut. WTF?
Yesterday’s Financial Times carried a story that began with the words “The boom in North American oil production has triggered a race to expand the US’s main oil storage centre, raising concerns among some industry executives of potential glut in capacity”.

Please read it again. It tells that there is a boom in oil production in North America. A couple of years ago an estimated 8bn barrels were found deep under the Mexican Gulf. Shale oil reserves in Colorado and other US states may match the reserves in OPEC. Is this the end of the story of the earth running out of oil.

Maybe oil does not come from dead algae, ferns, and dinosaurs. Maybe oil is formed deep in the mantle of the earth and slowly seeping towards the surface. At least that is a story worth following.

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