Sunday, July 1, 2012

Epic Euro Short Squeeze Sparks Precious Metals Rally, But Will It Last?

Friday's "surprise" announcement of a "breakthru" at the EU Summit caught all the market shorts with their pants down.  An epic short squeeze ensued.  The US Dollar swooned, and Equity and Commodity markets soared as the shorts ran for cover.

Funny thing about the EU Summit's "surprise" announcement...

Replacing old impaired debt with new impaired debt does not generate growth. Borrowing more money will not reverse financial death spirals.

Be wary of Friday's violent market move to the upside.  A market rising on hot air and short covering can quickly fall back to Earth when the markets run out of panicked buyers.

The "devil is in the details", and a lot of questions need to be answered.  Specifically, where is all this money that is to "be borrowed" going to come from?  The Fed?

Gold Surges on European Measures Similar to TARP and QE
by Peter A. Grant
June 29, AM (from --

Gold rebounded smartly on Friday, retracing all of the losses from earlier in the week and then some. In early New York trading the yellow metal was threatening to push back above $1600, bolstered by an EU summit inspired rebound in the euro and general risk appetite, and a corresponding retreat in the dollar.

There was a late-night breakthrough at the EU Summit that caught many by surprise, because German Chancellor Angela Merkel had claimed to be steadfastly opposed to much of what was agreed to. So, public bailout funds will be pumped directly into the Spanish banking system and the senior status of any such loans from the EFSF/ESM has been eschewed. Ireland is likely to get a banking system bailout as well. Additionally, the bailout facility will be able to directly buy sovereign debt, so it is widely believed that Italy will be the next EU member to request a bailout to drive down its borrowing costs. It's sort of TARP and QE combined...

In exchange for all that largess, there will be a single banking regulator appointed for the eurozone, a step toward a banking union, and countries accessing these facilities will be expected to honor their debt and deficit commitments. While EU officials may also be able to demand "tighter deadlines and timetables" according to an FT article, there will not be any "Greek-style monitoring programmes."

Maybe the periphery countries have learned their lessons; that missing targets — or worse yet, reporting false data — results in nothing but trouble. But more likely, it may be an acknowledgement on the part of the EU that the these countries aren't going to make their numbers, so let's not monitor them because ultimately it will be easier for them to ask forgiveness than permission. I recall the old Reagan adage 'trust, but verify': apparently that's no longer necessary, the periphery can apparently now simply be trusted to honor their commitments in exchange for bailouts.

Nonetheless, this is exactly the kind of thing that markets love: Pumping public money into private institutions, while simultaneously suppressing interest rates with artificial demand so they no longer accurately reflect risk. You may recall that the combination of TARP (Sep-2008) and QE1 (Nov-2008) ended the financial crisis inspired deleveraging correction in gold and launched the yellow metal from 681.65 to 1920.50. Might Europe's TARP/QE combo package have a similar result? Only time will tell, but the initial reaction sure looks favorable.

Peter Grant is USAGOLD's resident economist and a well-known analyst globally in the forex and precious metals markets.


Europe's Unanswered Questions

Tyler Durden's picture

The EU summit to save the Euro (the nineteenth, or thereabouts) has, quite remarkably, agreed to do something to try and save the Euro. The whole build-up and conclusion to this summit have brought a sense of nostalgia to some observers; the disillusionment in advance, the insistence by national leaders that absolutely nothing would be sacrificed, the dervish-like spinning of “informed sources” and unnamed officials, the late-night brinkmanship, and then the highly personal process of striking a deal amongst heads of government.
Paul Donavan, UBS: [excepted from] One money, one banking system, one fiscal policy?
Going into this summit we had a monetary union in Europe that clearly did not work. Coming out of this summit we have a monetary union that still does not work.

As ever with a Euro summit there are unanswered questions. Grandiose statements are what heads of government specialise in – the details are left to later (it is one of the reasons why Maastricht produced a monetary union that was flawed from the outset. Once “create a single currency” had been agreed, politicians lost interest). The statement from the summit itself was woefully inadequate, and most of the details have been fleshed out with press conference statements. Doubtless more details will be forthcoming as heads of government return to their own countries and brief their local media on how they “won” in Brussels. So what additional questions need to be answered?
  • Will the bank supervisor have real powers? In particular will the bank regulator be able to close down banks, even if those banks are national champions? They should have this power, otherwise the threats that they can make are going to be largely impotent. Ultimately, we would need to see the regulator able to force changes to banks even if they have not asked for capital injections (as happens in every other functioning monetary union). Are Euro area nations prepared to surrender their sovereignty to the extent that “foreigners close our banks / foreclose our mortgages”?
  • Chancellor Merkel of Germany has declared that there must be conditions for direct bank recapitalisation. This does not, perhaps, occasion much surprise in financial markets as Chancellor Merkel of Germany is very keen on conditions. But how are these to be imposed? There needs to be a set of “standing conditions”, rather than case-by-case conditions, if the mechanism is to work properly – per the need for an apolitical capital injection process, outlined above.
  • What about those countries that have already bailed out banks with Euro area assistance? Assuming that direct recapitalisation does not take place before the end of this year, that list is Greece, Ireland, Portugal, Spain and Cyprus (countries that have or will have used EFSF money to bail out their banking systems). Other countries have bailed out their banks with national funds. Where does the process stop? This is absolutely critical to resolve, and of course has a huge potential impact on sovereign bond markets (because it impacts individual sovereign debt to GDP considerations).
  • Who guarantees deposits? This has not been clarified. If deposits are guaranteed nationally, but the banking regulator is supranational, why should a domestic sovereign have to bear the cost (deposit insurance) of a decision (close a bank) that is taken at a supranational level. However there is obviously a cost burden to guaranteeing banks’ deposits at a pan Euro level – and the question “why is our tax money being used to guarantee lax foreign banks’ depositors?” is bound to arise.
For liquidity injections the announcements are full of good intentions, but they do not in fact change anything regarding the solvency of banks today. What is changing is who foots the bill for the solvency of banks (eventually) and thus the link between the banks and the sovereign. Although there has been some positive reaction in bank CDS so far, it is not clear whether this will suddenly make money markets more functional.
A healthy dose of economists’ cynicism is probably best taken at this point. Money market normalisation is likely to take more than a high-flying statement from the Euro area to resolve. As such, the economic effectiveness of liquidity injections is likely to remain low (to nil).

The EU Summit: Europe Needs Capital, NOT Political Posturing

Phoenix Capital Research's picture
Everyone in the media is viewing the latest announcements out of the EU Summit as game-changers.
They are not.
One facet of the deal is that ESM/ EFSF loans to troubled countries will not subordinate private bondholders holdings. While this does serve the purpose of allowing private bondholders to feel that should a country default, they might get their money back sooner (as opposed to what happened in Greece)… it doesn’t change the more critical issue of stopping defaults from happening.
Indeed, if Spain were to default, the fact that I as a potential private bondholder would be further up the line to collect my funds doesn’t do me a whole lot of good, does it? My money’s gone, at least most of it. So the benefits of this move are of borderline significance.
Moreover, none of the measures address the most critical issue pertaining to Europe: where is the money going to come from?
As I have noted before, the European Stability Mechanism, which everyone sees as the ultimate savior for the EU, does NOT exist yet. Only four out of the required 17 countries have ratified its legislation.
And the due date for ratification? July 9th.
So we have less than two weeks for 14 EU members to ratify the ESM. 
Another interesting fact about the ESM… Spain and Italy will contribute 30% of its funding. So… the mega-bailout fund which is going to save Spain and Italy is receiving nearly one third of its funds from the very same countries it’s going to bail out!?!
You couldn’t make this stuff up if you tried.
Another topic worth discussing is the fact that EU leaders didn’t agree to increase the EFSF or the ESM. The simple and obvious reason for this is no one has the funds to do this.
I’ve seen saying this for months. No one seems to be listening: Europe is out of buyers. End of story. There simply isn’t €500 billion lying around to be put to use. That’s why the ESM and EFSF aren’t being increased in size. They couldn’t be.
Another point, and perhaps the most key one is that the ECB will now be using bailout funds to help recapitalize EU banks. This move will ultimately end up hurting the banks that seek funding from the ECB much as those firms which drew on the ECB’s LTRO1 and LTRO 2 schemes found themselves severely punished in the credit and bond markets. 
After all, requesting aid is essentially a public admission that one’s bank is in major trouble. In this end this hurts the bank seeking aid as everyone now knows that it’s on the ropes.
Indeed, as we saw with LTRO 2 (which provided over €500 billion to EU banks), those banks that drew on the ECB saw, at most, one month’s worth of gains before they were right back to where they started in terms of share price and funding needs.
Oh, and none of this will go into effect until December. Let’s hope Spain and Italy and others don’t need the funds before then!
My take on this whole mess?
  1. The benefits of the announcements (lower yields on sovereign bonds and higher share prices in EU banks) will be short-lived.
  2. None of these decisions address the core issues facing the EU banking system: namely, insolvency and excessive leverage.
  3. No one in the EU actually has the money to make these measures work (again, Spain and Italy will provide 30% of the ESM’s funding).
Markets will stage a knee jerk reaction to these measures. That reaction will see bank shares rise and yields fall, temporarily. But this move will be short-lived, just as moves following LTRO1 and LTRO 2 were. After all, these announcements are just more political measures than anything else. And Europe needs capital NOT politics at this point.
So I would expect this rally and the drop in bonds to be short-lived. EU leaders may have put off the Crisis by a few weeks (or perhaps even a month). But they still haven’t addressed the core issues causing the Crisis: excess leverage courtesy of hundreds of billions of Euros’ worth of garbage debt.
With that in mind, I would use this rally to further prepare for the EU Crisis. I recently published a report showing investors how to prepare for this. It’s called How to Play the Collapse of the European Banking System and it explains exactly how the coming Crisis will unfold as well as which investment (both direct and backdoor) you can make to profit from it.
This report is 100% FREE. You can pick up a copy today at:
Good Investing!
Graham Summers
PS. We also feature numerous other reports ALL devoted to helping you protect yourself, your portfolio, and your loved ones from the Second Round of the Great Crisis. Whether it’s a US Debt Default, runaway inflation, or even food shortages and bank holidays, our reports cover how to get through these situations safely and profitably.

And ALL of this is available for FREE under the OUR FREE REPORTS tab at:

SUNDAY, JULY 01, 2012

Sorry, Bucko, Europe Is Still in a Death Spiral
Replacing old impaired debt with new impaired debt does not generate growth. Borrowing more money will not reverse financial death spirals.

Sorry, Bucko--Europe is still in a financial death spiral. Friday's "fix" changed nothing except the names of entities holding impaired debt. We can lay out the death spiral dynamics thusly:

1. Growth was dependent on borrowing money and blowing it on consumption and malinvestment. Replacing old impaired debt with new impaired debt does not generate growth.

2. Borrowing more money to pay the interest on past borrowing will not generate growth. Money must be borrowed to pay the interest and additional money borrowed to fund current consumption. As interest increases, this creates a geometric increase in debt and interest costs.

3. Borrowing more money to fund current consumption is a death spiral, as the interest payments eat up future revenues, starving productive investment and future consumption.

4. Borrowed money must be backed by either collateral or future income streams. The collateral remaining in malinvestments (villas in Spain, etc.) is either impaired, near-zero or simply non-existent. There is no legitimate collateral on which to base more borrowing.

5. Future income streams are already committed to paying interest on past debt and mandated consumption (entitlements, government payrolls, etc.), so there is no legitimate collateral on which to base more borrowing.

6. Interest rates will rise as investors question whether their capital will be returned in full or if it will be returned in depreciated currency.

7. Export-based economies will contract as China's expansion slows to a crawl. Future projections of national income are overly optimistic.

8. As income is bled off to pay rising interest, there is less money available for consumption or investment. Without investment, income declines. As taxes rise, there is less private-sector income available for either investment or consumption. This is the "austerity death spiral," and borrowing more for State malinvestment will not halt it.
The more money that is borrowed to maintain Status Quo consumption, the higher the future interest payments. This is a financial death spiral.

9. There is no collateral for more borrowing, but "growth" depends on more borrowing.

10. Transferring bad debt to central banks does not mean interest will not accrue: interest on the debt still must be paid out of future income, impairing that income.

11. Lowering interest rates does not create collateral where none exists.

12. Lowering interest rates only stretches out the death spiral, it does not halt or reverse it.

13. Centralizing banking and oversight does not create collateral where none exists.

14. Europe will remain in a financial death spiral until the bad debt is renounced/written off and assets are liquidated on the open market.

15. Anything other than this is theater. Pushing the endgame out a few months is not a solution, nor will it magically create collateral or generate sustainable "growth."

16. The Martian Central Bank could sell bonds to replace bad debt in Europe, but as long as the MCB collects interest on the debt, then nothing has changed.

The Martians would be extremely bent when they discovered there is no real collateral for their 10 trillion-quatloo loan portfolio in Europe.

Biderman's Disbelief In The Market's Unending Belief In 'Something For Nothing'

Tyler Durden's picture


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