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Blog by Matthias Paul Kuhlmey


Matthias Paul Kuhlmey is a Managing Director & Partner at HighTower Advisors, where he serves as wealth manager to High Net Worth and Ultra-High Net Worth Individuals, Family Offices, and Institutions.

Tag Archives: QE



How to Fix Stuff

Thursday, March 29, 2012

Posted By: Matthias Paul Kuhlmey

 

How do you fix a computer? Turn it off … and then back on. J How do you fix an economy? You cannot turn it off, that’s for sure – it only may have worked once, during the Great Depression, and the system did reset itself. Since Mr. Bernanke was recently declared a “hero,” we thought the “fixing-up” was complete. To be clear, we have no axe to grind and are most certain that our FED Chairman is attempting to do a very fine and thoughtful job; nevertheless, FED communication has been entirely confusing and, to a degree, misleading (at least for market participants that need stimulus money to make investment decisions).

 

This past Monday, Mr. Bernanke, during a clever publicity stunt, expressed his worries that the economic recovery could stall if the FED would end monetary stimulus too soon. So, things are not fixed? Here’s a shocker:  According to “Hero B.,” the recent improvement of the unemployment situation may (only) have been reflective of “a reversal of the unusually large layoffs that occurred in 2008 and 2009,” with this process now in conclusion. Further, Bernanke told ABC news that “It’s far too early to declare victory” (on the economy, that is). Huh?

 

On the other side of the argument stands Charles Plosser, President of the Philadelphia FED, suggesting in an interview that he does not “think there will be any need for further accommodation, or further QEs.” Federal Reserve Bank of Dallas President, Richard Fisher, seems to agree, having stated in a recent speech that the “Federal Reserve has done its job” (in providing liquidity). But, wait, here comes San Francisco FED President, John Williams, carefully remarking  that, “If the economy does need more stimulus, restarting our (the FED’s) program of purchasing mortgage-backed securities would probably be the best course of action.” His buddy, Federal Reserve Bank of Chicago President, Charles Evans, sums it up:  “The central bank should step up record monetary stimulus even as the economy shows signs of gaining traction” (for a selection of other differing FED opinions, click here).

 

So, how do you really fix things? One idea is to agree on what has to be fixed – the economy and related unemployment, or the stock market (easy money has certainly taken care of that). Go on guys!

 

Follow-up

Wednesday, January 18, 2012

Posted By: Matthias Paul Kuhlmey

 

Three very interesting developments that have occurred over the past 24 hours require our follow-up: Some time ago, we reported on the matter of Currency Wars “brewing” - not an entirely new concept. In 1931, leaders in the U.K. were the first to realize that economic competitiveness could be improved by devaluing the Pound Sterling against Gold (competitive devaluation). It is commonly understood that, beyond several peripheral conflicts, the most prominent Sovereign Currency War is taking place between the U.S. and China. At center-stage of this dispute is China’s strategy to continue pegging its currency, the Renminbi (RMB), to a basket of major currencies (before 2005, the RMB was pegged to the USD exclusively). Much of the trans-Pacific controversy has been about the resulting misaligned RMB exchange rate, as well as the need to correct related trade and financial imbalances between China and its major export markets, particularly the U.S.

 

Apparently, the frontier is changing. According to a fascinating article recently published in a German newsmagazine, many Germans, including high-ranking politicians, perceive the latest downgrade of 9 European nations (by rating agency Standard&Poors) as an “attack” on their “beloved” Euro. From a German perspective, this is technically incorrect, as Germany is an export-driven nation, but facts do not change prevailing opinions. Sure enough, the U.S.-based agency “amid a wave of criticism is defending its decision … and insisted Saturday that the region’s leaders aren’t doing enough to solve their debt crises” (I’m glad that enough is done, here, in the U.S., right?). This development alludes to another topic we have recently shared our concerns about: All three major rating agencies that “rule” today’s global landscape are, without exception, in “American Hands;” this is most certainly problematic, especially considering that practically all nations of the developed world are dealing with the consequences of a multi-decade “debt super-cycle,” including the U.S.

 

With the above topic in mind, we previously pointed to the fact that, relative to Sovereign-related debt issues, the Europeans have far more options left, when compared to U.S. policy makers – granted there is the political will to take action; i.e., dealing with the issues “Anglo-Saxon” style, or, more specifically, inflating the system. A news flash, yesterday, gives further basis to this concept: According to the FT Deutschland, the European Central Bank (ECB) is prepared to consider Quantitative Easing as a measure to bring aid to many ailing European nations; if this is truly the case, the Europeans will “fire their bullets” and enter deeper into Currency Wars. Not that it will help the Euro, after all, but determination is key as part of the ongoing circular game of competitive devaluations.

 

Thank You, America!

Monday, November 28, 2011

Posted By:  Matthias Paul Kuhlmey

 

There is so much going on in the world, but here and there a headline will capture our attention. According to a recent document (a stunning 29,000 pages) obtained under the Freedom of Information Act, the FED, on December 5, 2008, provided $1.2 trillion in liquidity to ailing banks – to be clear, the number is $1.2 trillion, or the equivalent of 10% of annual U.S. GDP at that time, provided in a single day. What may be even more interesting is the fact that Mr. Bernanke and team, along with the banking community, were fighting the release of this very paper for more than 2 years.

 

In case your jaw has not dropped, let us move this topic further; using the FED’s generous, low-cost contribution, commercial banks globally (remember also non US-banks were entitled to U.S. bailout funds) earned an estimated $13 billion (this most likely the “embarrassing” part that led to the non-release objective). We urge you to read more on the topic here. Also, according to this “secret paper,” the FED had committed $7.7 trillion by March 2009 (when accounting for all guarantees and lending limits), or more than 1/2 of U.S. GDP, mainly with the objective to stabilize the financial system; this truly is commitment!

 

Conversely, European commitment, or lack thereof, is what currently holds the global investment community hostage. In all fairness, however, one must consider that, by definition, the European Central Bank (ECB) has the disadvantage of following only one mandate – price stability, that is. The FED, on the other hand, maintains two key objectives for monetary policy: 1) maximum employment, and 2) stable prices – on this note, “anything goes.”

 

A combination of headlines is floating markets today, with one of particular interest: The IMF is in the midst of preparing an emergency loan facility to Italy in the amount of EUR 600 billion (or $800 billion, which is small money when compared to the generosity of the U.S.-puppeteers in 2008/2009). But wait – here’s the catch: The “U.S.-quota” of the IMF is 17.7% (ownership by SDR’s), meaning about $140 billion of the $800 billion are somewhat linked-back to the U.S. Way to go. Consequently, the U.S. is leading the way, thus indicating, once again, to “Sleepy Europe” that only an aggressive debt monetization can move things forward. Interestingly enough, the ECB action of late has most certainly blurred the lines between what is right, wrong, and to be expected. All of this furthers the notion that Quantitative Easing will facilitate the next wave of global risk-taking.

 

Welcome to Europe’s resurrection – American style!

 

Oops – Lost The Can!

Thursday, November 17, 2011

Posted By:  Matthias Paul Kuhlmey

 

Markets up, markets down, world saved, world lost…it is exhausting. On Tuesday, we suggested taking a longer view when investing – more specifically, a fundamentally-driven approach in acceptance of volatility (always according to suitable risk, which can be different for every investor). With this in mind, one still needs some guidance relative to the general direction of markets. Over the past weeks, we made a few business friends uneasy when suggesting that things could quickly become very dicey. “Why now?” was the common response, “…isn’t it time for the year-end rally?” At least in our view, this question is easy to answer. Over the years, we have followed the concept of “mature” bond markets versus “juvenile” stock markets.

 

In 2007, careful observers of financial markets could have already anticipated that “something was up.” The Credit Crisis of 2008/2009 was first reflected in the bond market, as investors started to avoid risky assets in favor of highly-rated, liquid, and safe U.S.-Treasury securities (certainly debatable today). After years of “calm” between 2003 and mid-2007, the spread of Corporate Debt over comparable U.S.-Treasuries increased to record highs at the beginning of 2008; it then soared dramatically, as the crisis intensified during the latter part of the year. Remember, this was way before equity markets took the big hit.

 

Of course, one can argue that yields today are entirely manipulated – think of Quantitative Easing and Operation Twist in the U.S. directly affecting the price of underlying bonds and, consequently, yields. But if we are to accept this view, why are stocks being trumpeted as “cheap” by the media and financial industry? For example, when utilizing the “FED Model,” which allows for a comparison of the stock market’s earnings yield to the yield of long-term government bonds, an interest rate input is essential to the equation; thus, flawed input leads to flawed output, or GIGO (garbage in, garbage out). If we still do not want to accept the “bond market reality,” there are other ways of approaching the topic of market guidance – for example, understanding currency markets.

 

The Japanese Yen (JPY) has historically been extremely sensitive to financial crises. During the Russian financial crisis in 1998, the JPY gained 20% over a two-month period, whereas during the U.S. subprime crisis, the JPY rose from USDJPY 124 in June 2007 (we are talking 2007!), to USDJPY 94 in October 2008 – again, more than 20%. Read more here. Interesting to note, in this respect, is that our friends at GaveKal are suggesting that the very difference in current yields (10-year Sovereign) among European nations is exactly the difference that should be present in the value of each nation’s currency – which, of course, is not possible, given the monetary union (EMU). Instead, we have one Euro and one price, not considering the differences in economic output and monetary requirements.

 

Let us tie all of this together:  With Sovereign yields in Europe spiking dramatically (Italy and Spain, specifically), and the “carry currencies,” the U.S. Dollar and JPY, strengthening, the stock market is simply out of sync – unless, for some reason, the paradigm has changed. Otherwise, we have unfortunately lost the proverbial “can” that policy makers have collectively been kicking down the road…uh-oh!

 

Big Apple Circus

Monday, October 31, 2011

Posted By:  Matthias Paul Kuhlmey

 

Wow – as we had suggested in our last update, global asset markets really did “fly.” Pause, enjoy the moment, wish for big returns/carefree environment “pre-2008 style” – and now quickly pop the bubble!

 

The Europeans may have, in unprecedented fashion, created an acceptable plan to save the Euro; but, unfortunately, it is a plan they cannot afford. We will spare you the details, as there was practically nothing announced that market participants didn’t already know before the EU Summit took place. With this in mind, we continue to believe that the current rally is based on a good deal of short-covering (especially in the Euro) and, of course, positioning by the “ever-brave” optimists (denial-ists). Either way, one thing is for certain – Europe has gone Anglo-Saxon! It now is all about the monetization of debt, or quantitative easing (to stick with this entirely confusing definition).

 

Regrettably, the economic stimulus programs launched in response to the Credit Crisis of 2008/2009 have produced significantly expanded sovereign debt levels, rather than the intended substantive economic benefit. QE2 in the U.S., for example, failed to stimulate corporate capital allocation and consumer spending. In fact, and as stated before, “Benny B’s” attempts to shore up the U.S. economy produced the exact opposite outcome: i.e., a significant increase in prices of energy and agricultural commodities (food). Would it, in this respect, be crazy to think that the FED was partially responsible for triggering the Arab Spring?

 

Let us refresh our memories. Tunisian unrest broke out as a direct result of families not being able to feed themselves, after QE2 had sparked a significant wave of speculation in commodity markets and resulting rise in food prices. The Tunisian dictatorship came to an end, but riots had already spread to other Middle Eastern and North African countries. There were certainly other factors involved, but an artificially-low U.S. Dollar (in direct consequence of FED policy) contributed significantly to the uprising experienced.

 

As the global recovery is failing (do not be fooled by lagging economic indicators), Central Bank policies will continue to focus on devaluation concepts of their national currencies, mainly to gain a competitive advantage by “exporting” unemployment. In this respect, there remains an increased risk of global trade wars and protectionism at a later stage.

 

With all of the above in mind, coupled with the fact that Emerging Markets growth has been slowing, why don’t we become unhooked from the logical fallacy that investing should be pain-free? If stocks do continue to rise, it will be a function of a massive inflation trade in the making. The real value of money continues to be eroded by substantial creation of FIAT currency. Stocks, at least on a relative-value basis, may actually be attractive when compared to bond markets of Sovereign (developed) nations, as those continue to be entirely mispriced.

 

So, here is an idea: Instead of wasting time with the circus taking place in the investment world, perhaps we’ll check out the new program by the Big Apple Circus (currently back in New York City). Of the two choices, it is the only one that stands a chance to achieve its intended purpose and even provide something of real value – entertainment.  If you find our conclusion too far-fetched, we could rename this blog, “Qualitative Easing: Let’s Think About Real Solutions.”

 

Our conviction in a continued recovery is low, unless the FED will surprise with QE3 on Tuesday.

 

Something Is Up

Friday, September 16, 2011

Posted By:  Matthias Paul Kuhlmey

 

It’s too good to be true. The entire speculative community (and the ones that look for honest investing) experienced a dream-come-true-moment yesterday. Five major Central Banks – the FED (U.S.), ECB (Europe), BoE (U.K.), BoJ (Japan), and SNB (Switzerland) – undertook a concerted effort to provide liquidity to the financial system. Not any liquidity, but U.S. Dollar liquidity. As a result, the U.S. Dollar weakened versus all major currencies, and equity markets “took off,” with significant gains experienced across the globe.

 

Yesterday, we almost were tempted to resend our latest blog entry, On Hope and ADD Alone (as we had forgotten if this was done previously or not :-) ), to remind our trusted clients and friends of the points raised within it:  

1.  Europe continues to be “a mess.”

2.  U.S. Growth (and global growth) is in significant decline

3.  From a technical perspective, the market in the U.S. will face a significant hurdle already at current levels, but may advance to 1250 (from strongly oversold conditions).

 

Concerted action by Central Banks cannot be a good sign. It reminds us of extraordinary conditions, such as Y2K and, more importantly, the Credit Crisis of 2008/2009. At a minimum, the joint effort was undertaken prior to some known problem in the market place. Last time, liquidity was provided after the failure of Lehman Brothers, on September 15, 2008, when the problem had already occurred. May it be the impending capitulation of Greece, or distress of another Sovereign country (Portugal comes to mind), or funding issues of major banks? …we shall see.

 

We appear to be right with another development:  As we previously indicated, the world is experiencing an increasingly more challenging U.S. Dollar shortage; it is estimated that the value of the current USD-carry-trade amounts to USD 1,500 billion. If we were to experience a more monumental USD-rally due to supply and demand issues, a major “risk-off” event could occur, as more or less speculative investments are linked to the value of the Dollar (think of the commodity markets, and maybe even Gold). A decline in Gold Bullion prices of nearly USD 150 USD/ounce over the past days should make us think carefully.

 

Be very cautious over the next days. If the markets, however, do not present us with real concern, you know “what is up” – Quantitative Easing has arrived, and the bonanza will continue (for now).

 

QE3 Is Here!

Friday, June 24, 2011

Posted By:  Matthias Paul Kuhlmey

 

While we wondered how Quantitative Easing (QE) would be continued in a more camouflaged fashion after the official end of QE2, in an act of brilliance, our answer has arrived! Yesterday’s announcement to release 30 million barrels of Oil from the Nation’s Strategic Petroleum Reserves acted as a powerful market mover. During market hours, the price of Oil was down more than 5%, trading below USD 90/barrel for the first time since February. Interesting to note that it is only the third time the International Energy Agency (IEA) has tapped reserves; the first time was in 1991 during the Gulf War, and the second was when Hurricane Katrina had severely limited Oil production in the Gulf of Mexico in 2005.

 

What an act of desperation. Mr. Bernanke and team knew that something had to be done. Just on Wednesday, the Federal Reserve Chairman reinforced his concerns about a weaker U.S. economy; this on the backdrop of an equity market that had had fallen quite considerably over the past weeks, and a real estate market that is, for lack of a better description, shattered. The only “card to play” was to help lift equity markets at any cost, as these are closely linked to the perceived well-being of the U.S. consumer (Wealth Effect).

 

Interestingly, yesterday’s intervention into the Oil market may actually work – for now. The event can be compared to a global coordinated rate cut. Lower, and continued lower, Oil prices will benefit consumption and consequentially support the domestic economy (consider that every time pump prices spiked over USD 3 per gallon, the U.S. economy experienced an offsetting drop in consumer confidence). Emerging Markets, on the other hand, will experience less of an inflationary threat to their respective economies, which has been a drag on growth and equity performance in the region in recent months.

 

All in mind, global equity markets remain at a very critical juncture; if the support of March 2011 will give way, market participants could easily  experience another -10% drop in prices. Should, however, the current support line hold (around 1257 in the S&P 500), a significant rebound may be forming. We have quietly removed our hedges yesterday morning, when the world looked all too miserable, but we are prepared to add this downside protection back to accounts, if the situation deems it necessary. 

 

Good bye QE2, hello QE3.

 

The Only Way Is…

Tuesday, October 26, 2010

Posted By:  Matthias Paul Kuhlmey

 

It is interesting to note (as so correctly pointed out by our friends from Fidelity Capital Markets) that, lately, the equity market in the U.S. has been advancing in only one direction. The sharp uptrend in equities, or the onset of the corrective bull market from oversold conditions, which started on March 10th of 2009, has now lasted 412 sessions. In contrast, only 356 sessions passed during the deleveraging cycle, due to the Credit Crisis, since October 10th, 2007. In other words, we have had more time enjoying the “bull” than the “bear.” It sure didn’t feel that way, though. Above in mind, and technical resistance building, we will most likely experience a consolidation, potentially leading the S&P 500 back to the 1130 support level, and possibly lower from there. We must, however, prepare for more positive momentum in global equity markets, as the prospect of Quantitative Easing by the FED and other Central Banks should stimulate the “inflation trade.”

 

As stated in previous writings, one prominent example of how cyclical bear markets can evolve is the Japanese equity market, represented by the Nikkei 225 Index. The market peaked on December 29th of 1989, and has since trended lower over a series of six cyclical bear episodes. Currently, the Nikkei is in its sixth cyclical uptrend. The average loss over the deleveraging cycle since 1989 has been -49%; the average gain has been +67%. Over the entire period, however, the Japanese market has been in a downtrend from close to 40,000 (in 1989) to 9,377 today, thus losing more than 75% of its peak value; this is what characterizes a secular bear market environment.

 

On a related note, after more than 30 years of declining rates in the U.S., the benchmark of the 10-year U.S. Treasury bond is now yielding around 2.5% (down from about 16% in 1981). It appears a foregone conclusion that interest rates must go up - soon. However, we are unsure about this view and respect the idea of a sustained low-yield environment. For support of this notion, we can look to the 1940s, a time when the average yield on 10-year U.S. Treasuries was 1.99%, throughout the entire decade. It is also worth considering that from 1960 to 2009, the average nominal yield on the 10-year government bond was 6.8%; conversely, the average of these bonds over the 40-year period before 1960 was just 3.0%, well below the 210-year average of 4.9% (see also U.S. FED, Guggenheim Partners “The Urban Legend of the Bond Bubble”).

 

Food for thought…

 

 
 
 
 

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