Home > Uncategorized > 2011/09/20: Operation ‘Twisted’ …Does Fed Matter When Risk Model Now Greece-On/Greece-Off? Does Greece?

2011/09/20: Operation ‘Twisted’ …Does Fed Matter When Risk Model Now Greece-On/Greece-Off? Does Greece?

It seems an awful lot of attention has been focused on whether the Fed is going to either announce or actually initiate Operation Twist in its post-interest rate (non-)decision statement on Wednesday. Certainly there are some forms of ‘twist’ that matter. Chubby Checker helped destroy American social mores in the 1960’s with the dance. And who doesn’t like one near the end of a good suspense story?

By comparison the Fed’s plan to move some of its balance sheet from short-dated Treasury securities out into the 30-year Treasury bonds is likely to have about as much impact on the US economy as the QE2 liquidity infusion… which is to say, not much. And in this case it does not even provide that additional liquidity, which at least repaired portfolios through risk asset inflation.

It’s the macro-financial equivalent of distracting the masses with shiny objects. Not a single person who does not meet credit standards will get a loan, and no more than a very few businesses will create an additional job. And it holds certain deferred risks in the form of extra upward pressure on government borrowing yields once the economy actually turns up.

Much more impact will be felt from any Greek default, or the ability to once again avoid default (at least temporarily.) Everyone knows that is the driver for the current extreme volatility of equities, and government bonds’ resilient ‘haven’ bid for the past couple of months; recently joined by the US dollar. And even those uplifting “Greece-on” phases bring less and less weakness to government bonds (i.e. higher yields) for one good reason:

It’s the global economy!! Don’t take our word for it… ask the OECD.

Greece-On/Greece-Off? Does that even really matter? Well, actually, yes, at least in the short term. Yet, does it change the overall economic and equity market outlook. As noted for some time now, we’re skeptical that any of this short term crisis mitigation restores global economic growth. Especially as the fiscal retrenchment will further diminish ‘final demand’, it is hard to see where the expansion of sales will come from.

And savvy business people seeing this (and the massive additional regulatory burden headed their way in the US) are not likely to invest in their businesses and hire. It’s a wonderfully diabolical devolution into recession, or at best the sort of flat growth that feels like recession. As long-time readers know, we are hardly perma-bears, and do not relish the grass roots tragedy of this extended economic weakness.

But these long term credit deleveraging cycles don’t just blow through and go away. They classically last 5-7 years. This one began in 2007, and only intensified into 2008. And the idea that makes something like 2012-2014 the likely bottom unfortunately relies to some degree upon effective government policies to counter it. We’ll let you draw your own conclusions on that.

Prior to the summary view on why it won’t make that much difference, the answer to the Greek question is: “Greece-on” … at least until the Europeans buy a bit more time to put firewall funds in place to protect their domestic banks; aided and abetted by the sort of global central bank liquidity assistance we saw last week. They will find a way to extend the next tranche of funds for Greece, even if they will need to quasi-nationalize their banks later (ala US forced TARP infusions for all) to prevent a ‘Lehman-event’.

Watch for another Grand Bargain on Greece, as an unthinkably radical reform is enacted: Greece actually lays off a goodly number of public sector workers. No, not shrinkage by attrition (i.e. not replacing retirees), but actual firings right now. Incredibly enough, that has not happened since the crisis began a year-and-a-half ago. Get out those fire extinguishers and gas masks.

Yet again, will it really restore confidence in economies and equities? This all feels very much akin to the anticipation of the infamously impotent US Debt Ceiling deal. Remember that? “If only they could address the debt situation, then it’d all be OK.” That was right into the August 1st deadline, and the S&P 500 finished back at lower on the day after it could not even get back above its violated 1,310 interim technical support.

And what was the revelation the previously uninitiated understood when that occurred? “Gee, while we were so concerned about US debt, we forgot to pay attention to the serious deterioration of the economic data and outlook.” By three days later the S&P 500 had shattered its far more major 1,250 area support… on the way to 1,100; admittedly assisted by the return of the Euro-zone Debt Crisis.

So let’s move on to the reality of the global situation. It’s needless (and tedious) to explore the individual country specifics. Since early July the OECD Composite Leading Indicators had reversed from upbeat indications as recently as May. It began to point to the weakening of almost all OECD area countries (i.e. pretty much everyone that counts.) That reinforced our suspicions from the unseemly weakening of the technical trend indications right after the bin Laden assassination euphoric exhaustion at the beginning of May. And OECD expanded its downbeat view in its September Composite Leading Indicators. As a six-month forward view, it is often a reliable foreshadowing of economic and equities trends.

And the US might not be preeminent anymore, but it still counts as the epicenter of conspicuous consumption. Everyone else doesn’t get pneumonia when we catch cold, yet are likely to catch cold when the US comes down with pneumonia. Today’s IMF downgrades of global growth predict the US and Europe will grow at well below trend next year; even quite a bit more slowly than Japan. We saw a study recently that indicated the Philly Fed Index has been a reliable leading indicator for the ISM Manufacturing Index. Based upon the former collapsing the heavily negative territory on the most recent reading, we suspect ISM Manufacturing will be unable to dodge the bullet to remain above 50 in the next report.

And then there’s US housing, where today’s well-below estimate Housing Starts indicates that even the perennially optimistic US homebuilders are throwing in the towel. Of note, the far more credible US Existing Home Sales will be released tomorrow prior to the FOMC decision and statement. What we know is that all US home sales are competing against an increasing number of foreclosures now that a recent hiatus is ending. CNBC’s Diana Olick had an excellent video report on that entire area last Thursday.

And as far as debt troubles, look for an encore performance in that area as well by the Good Ole US of A. Last weekend the well-regarded and process-essential (at least as far as Standard & Poors is concerned) Congressional Budget Office (CBO ) told the US Debt Ceiling resolution “Super Committee” that they could forget about negotiating until Thanksgiving.

The CBO did not say it in so many words, but the accelerated deadline speaks for itself: in order to properly assess and score anything likely to be as creative and convoluted as whatever monstrosity of a compromise is likely (at least we all hope) to come out of the committee, the CBO will need it by November 1st. Jolly. And in spite of the incessant wailing of the Bond Cassandra’s, much as we suspected the last time around, any further US debt downgrade will be much worse for equities than bonds… and may even rally the bonds on a ‘haven’ bid once again.

General Market Observations

And that is why we remain bearish equities and allow that government bonds might rally (and yields fall) from these already ridiculous levels. And the Fed is going to try and push long term yields even lower when the problems are alternatively a lack of loan demand or credit qualification?

Sounds more like Operation Twisted.


As equities and other asset classes are conforming to the same technical trend views as Sunday’s “… Secretary Geithner Spilled the Beans” post, we refer you back to that (as well as this morning’s updated Technical Projections.)

 Thanks for your interest.

  1. September 21, 2011 at 7:24 AM

    …and I did not want to pile on yesterday with the statement of the obvious, but the significant downside miss on the most recent US Retail Sales data had best be an outlier in overall growth, or that indication on weakening global economic tendencies will only worsen. If the conspicuous consumers in the US catch pneumonia, and all that…
    Respected economist Ed Yardeni recently noted that corporate profit growth has also imploded into the middle of this year. It was only up 11.7% (year-on-year) in August, down from plus 60.9% in January.
    Those two would seem to work hand-in-glove with each other, don’t they?

  2. christopher maytum
    September 22, 2011 at 3:06 PM

    Oliver Twisted – Please sir, I want some more but I don’t what!

    • September 22, 2011 at 4:01 PM

      Ha- We know the traders are enjoying this (at least the smart ones); but I doubt the ‘investors’ want ‘more’.

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