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    Daily Digest – May 5

    by Davos

    Tuesday, May 5, 2009, 3:23 PM

  • China has ‘canceled US credit card’: lawmaker
  • Worries Rise on the Size of U.S. Debt
  • Expert: get out of western sovereign bonds (Video on page)
  • Gold off to the Races? Buffet Claims Inflation going…UP
  • WSJ: Banks Tighten Corporate Credit Lines
  • HomeOwner’s Equity: Less than 15%
  • Bogus Expert/Forecast Alert (Latest Column for the Huffington Post)
  • Dark Clouds Hanging Over Sunshine State?
  • A Conflict of Interest is Not a Conflict of Interest If It Involves Goldman
  • America’s Banks 101 (H/T Mike Pilat, Video)
  • New Stress Trial Balloon Floated
  • World’s major rivers ‘drying up’

Economy

China has ‘canceled US credit card’: lawmaker

China, wary of the troubled US economy, has already "canceled America’s credit card" by cutting down purchases of debt, a US congressman said Thursday.

Worries Rise on the Size of U.S. Debt

Then there is the concern that the interest the government must pay on its debt obligations may become unsustainable or weigh on future generations. The Congressional Budget Office expects interest payments to more than quadruple in the next decade as Washington borrows and spends, to $806 billion by 2019 from $172 billion next year.

“You’re just paying more and more interest and having to borrow more and more money to pay the interest,” said Charles S. Konigsberg, chief budget counsel for the Concord Coalition, which advocates lower deficits. “It diverts a tremendous amount of resources, of taxpayer dollars.”

Of course, no one is suggesting the United States will have problems paying the interest on its debt. On Wednesday, even as it announced its huge financing needs for the latest quarter, the Treasury said financial markets could accommodate the flood of new bonds. “We feel confident that we can address these large borrowing needs,” said Karthik Ramanathan, the Treasury’s acting assistant secretary for financial markets.

One worry, however, is that there are fewer eager lenders to buy all that American debt. Most of the world is in recession, and other nations have rising borrowing needs as well. As other nations’ surpluses turn to deficits, America will face competition in global financial markets for its borrowing needs. For the moment, the United States is actually benefiting from a flight to quality into Treasuries brought on by the global financial crisis, which helped reduce rates to record lows this winter. But the influx will not continue forever.

China has lent immense sums to the United States — about two-thirds of its central bank’s $1.95 trillion in foreign reserves is believed to be in United States securities — but it has begun to voice concerns about America’s financial health.

To calm nerves and fill the deficit hole, the government is getting creative. The Treasury is ramping up its auction calendar, holding more frequent sales of government debt and selling the debt in expanded amounts. It is now holding sales of its 30-year bond each month, up from four times annually.

It is also resuscitating previously discontinued bonds, such as the seven-year note and the three-year note, to try to mop up any available money all along the yield curve. There is even talk of issuing billions of dollars of a new 50-year bond, though the idea has not won official approval.

On a second front, the Treasury and the Federal Reserve are trying to bolster the mechanics of the market — to make sure every auction goes smoothly. With such enormous sums involved, every extra basis point on the interest rate the government pays could mean extra billions of dollars for the taxpayer. Earlier this year, when demand was hesitant at a Treasury auction and when a British bond auction went poorly, investors grew nervous that the government might struggle to sell its mountain of debt.

To avoid such an outcome and to keep borrowing costs low, the government is trying to expand the group of firms that bid at Treasury auctions. After the demise of such names as Lehman Brothers, the number of these firms, called primary dealers, has shrunk to 16, the smallest since this elite club was formed decades ago. Now the government is in discussions with smaller firms like Nomura and MF Global to persuade them to join.

Expert: get out of western sovereign bonds (Video on page) 

Martin Hennecke, a frequent guest on CNBC, is recommending that investors who have fled to cash and government bonds need to rethink that strategy. He sees inflation on the horizon and warns that western sovereign bonds will suffer as a result and sitting on cash will be throwing money away.

The crux of his thesis rests on the huge budget deficits now being run by western countries to reflate their economies. These deficits must be funded and the fear is they will simply be monetized through printing money a.k.a quantitative easing by western central banks. This policy used to ward of the potential of deflation gives the potential for lots of inflation down the line if the excess liquidity is not retracted.

While I agree that the renewed risk of inflation exists (the Q1 U.S. GDP report demonstrating this), I am skeptical whether inflation will be a problem for the immediate future. Nevertheless, his view that vigilance against getting trapped in depreciating assets once inflation reappears is well in-line with how I see things.

He recommends commodities and precious metals as a hedge. He also recommends staying away from export-dependent Asian shares. But, he does see “some good picks” in domestic Chinese shares and elsewhere in Asia.

Hennecke makes some interesting comments about the Dollar and the Yuan as reserve currencies. Have a look at the video below. 

Gold off to the Races? Buffet Claims Inflation going…UP

Gold may be "off to the races" if prices break resistance levels at $US950 to $US960 an ounce, according to Jeffrey Rhodes, a Dubai-based trader with International Assets Holding.

Prices may surpass $US1200 an ounce this year, more than the record $US1032.70 reached in March 2008, Rhodes said. Gold peaked at $US1006.29 this year on February 20. Gold’s support level is at about $US850 an ounce, he said. Support is where buy orders may be clustered and resistance is where there may be sell orders.

"A number that would get everyone very excited would be $US1005 an ounce," Rhodes said in an interview April 27.

Gold for immediate delivery has advanced for eight consecutive years, the longest winning streak since at least 1948. Investment in the SPDR Gold Trust, the biggest exchange- traded fund backed by gold, almost doubled in 12 months and overtook Switzerland as the world’s sixth-largest gold holding. Gold has gained 0.5% this year to $US886.55 an ounce at the close of trading May 1.

WSJ: Banks Tighten Corporate Credit Lines

From the WSJ: Banks Get Tougher on Credit Line Conditions

Banks are shortening the terms on lines of credit … They are charging significantly higher fees for the lines of credit, known as revolvers. And instead of promising an interest rate determined mainly by the company’s credit rating, banks will now charge more if the cost of insuring the company’s debt against default is higher.

About 72% of the revolving credit facilities obtained by investment-grade companies in the first quarter of 2009 had 364-day maturities, or tenors, and no companies received five-year lines … In the same period a year ago, 30% of the facilities were for 364 days and 41% had five-year maturities.

There are two key changes: the duration has been shortened, and the interest rate is based on the price of default insurance (as opposed to credit rating). Another snub of the ratings agencies!

Also on lending standards, the Fed’s April Senior Loan Officer Survey on bank lending practices will probably be released this week.

HomeOwner’s Equity: Less than 15%

Interesting discussion on negative equity in this week’s Barron’s. Citing Stephanie Pomboy’s recent missive, Alan Abelson takes a closer look at some of the negative details around corporate profitability and homeowner equity.

When it comes to Homeowners Equity, the official data is misleading. Why? Pomboy notes the Fed data is accurate but misleading. It includes both the homes with mortgages and those owned free and clear.

Why is this significant? About a third of homes have no mortgages whatsoever. The unencumbered properties improve the homeowners equity data from the Fed’s Flow of Funds report. Add in 33% of homes with 100% equity and it skews the data. The total looks better.

before you say “So What?” co the following: We know that those homeowners that do not have mortgages — i.e., 100% equity — cannot default. So if we want to understand the potential further mischief real estate land can cause, it is the mortgaged properties we should be watching. Back out the third of home owners that have no mortgage — the 33% of homes with 100% equity — and the Fed’s measure of 43% net equity drops precipitously.

Thus, Pomboy’s assertion that it would be more informative to say that those homes with a mortgage have homeonwers equity of less than 15%.

Here’s the Barron’s excerpt:

“The complacent reaction among the investment cognoscenti is that the credit markets are wildly oversold. More likely, she sniffs, it has something to do with the fact that “an overwhelming portion of some $8 trillion in mortgage debt (or 80% of the total) is teetering on the edge of, or in some state of, negative equity.”

As to the Fed’s claim that the equity of homeowners as a group stands at 43%, she points out that what the Fed neglects to tell you is that roughly a third of them have their houses free and clear. Lo and behold, some basic arithmetic reveals that 67% of homeowners with mortgages have equity of less than 15%. That, Stephanie comments drily, suggests the “destruction priced into the credit markets hardly seems out of whack with potential reality.”

And while, thanks to “the transfer of toxic assets to taxpayers” and the magic of accounting legerdemain, the scarred financials to some significant extent may be spared further pain, the same, alas, can’t be said for the nonfinancial sector. Little recognized, she insists, is how much the extraordinary gains in domestic nonfinancial profits from the low in 2001 to the peak in 2006 — a stunning rise of 388% — owed to the housing bubble.”

Ouch . . .

Bogus Expert/Forecast Alert (Latest Column for the Huffington Post)

So much for being ahead of the curve! Aside from the fact that one of the worst downturns this century (which had been correctly anticipated by yours truly and other [mostly] non-economists) began only a month after ECRI discounted this possibility, it took a further three months for the "forecaster" to acknowledge what many ordinary Americans already knew was taking place (see "UPDATE 1-Leading Index Shows US Economy in Recession, ECRI Says").

My first question is: Why do ECRI’s opinions about the future matter?

And my second question is: Is it any wonder that the mainstream media keeps losing credibility — and its audience?

Dark Clouds Hanging Over Sunshine State?

Following up to my last post on systemic fraud at public pension funds, Sydney Freedburg sent me her latest article, Florida investment agency uses smoke, mirrors (added emphasis and notes are mine):

Front and center on its Web site, the agency that invests $118 billion for Floridians showcases its code of ethics: "It’s all about … Trust — Performance — Integrity.”

Most people take that as an article of faith, that the state is investing money for retirees and others wisely. But when the agency has fielded inquiries, it has often been about obfuscation, omission and falsehood.

[Note: When you are hiding the truth, remember the three O’s: Obfuscate, Obfuscate, Obfuscate!]

When a community college employee asked if his pension money was in risky securities sliding on Wall Street, the answer he got was misleading and false.

When a city official with $26 million invested with the state asked if the money was safe, the people who run the state fund brushed him off.

When another city official asked if a $425 million investment was safe, the agency gave an answer the city considered so misleading that it asked the FBI to investigate.

When the agency’s employees privately fretted about losses and shaky investments, their bosses told retirees and state and local officials that everything was fine. They even misled the three people charged with oversight of the agency: the governor, the chief financial officer and the attorney general.

This picture emerges from a St. Petersburg Times review of thousands of e-mails and confidential memos, financial records, transcripts and other reports issued from late 2006 to 2009.

The documents reveal an agency, the State Board of Administration, that often clouds its public statements in complicated language and corporate speak that obscure the truth.

Pressed for answers, the agency’s managers sometimes dodged or equivocated. Sometimes they offered assurances that were technically accurate but gave a distorted picture. Sometimes their responses were simply false.

The managers say that they never tried to deceive anyone but acknowledge that they need to be more open. Executive director Ash Williams said the agency offers free, one-on-one investment counseling and is working to improve its disclosure about investments that it makes with the taxpayers’ money.

"We want to be as straightforward as we can,” Williams said. "We’re trying to disclose as much as we can in the spirit of openness.”

Tanya Beder, a risk-management expert who audited an SBA fund for the Legislature last year, agreed to review documents for the Times.

When it comes to disclosure, she said, she saw a continuation of the attitude that she found during her audit: Senior managers believe it is up to investors to ask rather than the duty of the agency to disclose.

"This attitude is troubling,” Beder said. "It places a huge burden on investors to ask exactly the right question."

A Conflict of Interest is Not a Conflict of Interest If It Involves Goldman

The Federal Reserve Bank of New York shaped Washington’s response to the financial crisis late last year, which buoyed Goldman Sachs Group Inc. and other Wall Street firms. Goldman received speedy approval to become a bank holding company in September and a $10 billion capital injection soon after.

During that time, the New York Fed’s chairman, Stephen Friedman, sat on Goldman’s board and had a large holding in Goldman stock, which because of Goldman’s new status as a bank holding company was a violation of Federal Reserve policy.

The New York Fed asked for a waiver, which, after about 2½ months, the Fed granted. While it was weighing the request, Mr. Friedman bought 37,300 more Goldman shares in December. They’ve since risen $1.7 million in value.

Yves here. It’s bad enough that Friedman owned Goldman shares while involved in policy discussions that would affect the bank. The fact that he went and bought more shares is breathtaking. Of course, this shows a huge deficiency in Fed procedures. Directors should be barred from trading stocks in any institution regulated by the Fed. While it is technically not inside information (you need to be an insider of the company in question, that is, have a fiduciary duty to its shareholders), it certainly raises the specter of trading on privileged information.

America’s Banks 101 (H/T Mike Pilat, Video)

New Stress Trial Balloon Floated

I’d wait till Meredith Whitney weighs in.

Environment

World’s major rivers ‘drying up’ 

Researchers from the US-based National Center for Atmospheric Research (NCAR) analysed data combined with computer models to assess flow in 925 rivers — nearly three quarters of the world’s running water supply — between 1948 and 2004.

A third of these had registered a change in flow and most of them — including the Niger in West Africa, the Ganges in South Asia and the Yellow River in China — were dryer.

"Reduced run-off is increasing the pressure on freshwater resources in much of the world, especially with more demand for water as population increases. Freshwater being a vital resource, the downward trends are a great concern," said Aiguo Dai, a scientist at NCAR and lead author of the research.

Rivers are losing water for a variety of possible reasons, say the researchers, including the installation of dams and the use of water for agriculture. But in many cases the decrease in flow is because of climate change, which is altering rainfall patterns and increasing evaporation because of higher temperatures.

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