Today’s News 26th January 2016

• Presidential Crimes Then And Now

  Authored by Paul Craig Roberts,

  Are Nixon’s and the Reagan administration’s crimes noticable on the scale of Clinton’s, George W. Bush’s, and Obama’s?

  Not much remains of the once vibrant American left-wing. Among the brainwashed remnants there is such a hatred of Richard Nixon and Ronald Reagan that the commitment of these two presidents to ending dangerous military rivalries is unrecognized. Whenever I write about the illegal invasions of other countries launched by Clinton, George W. Bush, and Obama, leftists point to Chile, Nicaragua and Grenada and say that nothing has changed. But a great deal has changed. In the 1970s and 1980s Nixon and Reagan focused on reducing Cold War tensions. Courageously, Nixon negotiated nuclear arms limitation agreements with the Soviet Union and opened to China, and Reagan negotiated with Gorbachev the end of the dangerous Cold War.

  Beginning with the Clinton regime, the neoconservative doctrine of the US as the Uni-power exercising hegemony over the world has resurrected tensions between nuclear-armed powers. Clinton trashed the word of the Reagan and George H.W. Bush administrations and expanded NATO throughout Eastern Europe and brought the military alliance to Russia’s border. The George W. Bush regime withdrew from the anti-ballistic missile treaty, revised US war doctrine to permit pre-emptive nuclear attack, and negotiated with Washington’s East European vassals to put anti-ballistic missiles on Russia’s borders in an effort to neutralize Russia’s nuclear deterrent, thus bringing major security problems to Russia. The Obama regime staged a coup against a government allied with Russia in Ukraine, traditionally a part of Russia, and imposed a Russophobia government as Washington’s vassal. Turning to China, Washington announced the “pivot to Asia” with the purpose of controlling shipping in the South China Sea. Additionally, the Clinton, George W. Bush, and Obama regimes fomented wars across a wide swath of the planet from Yugoslavia and Serbia through the Middle East and Africa to South Ossetia and now in Ukraine.

  The neoconservative ideology rose from the post-Reagan collapse of the Soviet Union. The doctrine met the need of the US military/security complex for a new enemy in order to avoid downsizing. Washington’s pursuit of empire is a principal danger to life itself for everyone on the planet.

  Unlike Clinton, George W. Bush, and Obama, Nixon and Reagan went against the military/security complex. Nixon opened to China and made arms reduction agreements with the Soviets. Reagan negotiated with Gorbachev the end of the Cold War. The military/security complex was displeased with these presidential initiatives. Both left and right accused Nixon and Reagan of nefarious machinations. Right-wing Republicans said that Nixon and Kissinger were selling America out to the communists and that the scheming Soviets would take advantage of Reagan, the old movie actor. “Communists,” we were assured, “only understand force.”

  Nixon and Reagan focused on eliminating dangerous rivalries, and the three stooges—Clinton, Bush, and Obama—have resurrected the rivalries. Those who cannot see the astonishing difference are blinded by prejudices and their brainwashing.

  In this article, I describe unappreciated aspects of the Nixon and Reagan presidencies. What I provide is neither a justification nor a denunciation, but an explanation. Here is what Patrick Buchanan, who was in the White House with both presidents, wrote to me in response to my explanation:

  “Craig, you are dead on in what you write about both Nixon and Reagan and what they sought in their presidencies. Reagan often talked of those ‘godawful weapons,’ meaning nukes. I was at Reykjavik with him, and was stunned at Hofde House to learn that Ronald Reagan pretty much wanted to trade them all away. And when, years later, Tom Wicker wrote favorably about the Nixon presidency, he accurately titled his book One of Us. All his life Nixon sought the approbation of the [pre-neocon] Establishment. Am deep into a new book, based on my experiences and my White House files, and all through it I am urging him [Nixon] to be and to become the kind of conservative president I wanted, but he never was. My thanks for bringing in The Greatest Comeback, which covered the period when I was closest to Nixon. All the best, Pat.”

  Writing for Americans is not always an enjoyable experience. Many readers want to have their prejudices confirmed, not challenged. Emotions rule their reason, and they are capable of a determined resistance to facts and are not inhibited from displays of rudeness and ignorance. Indeed, some are so proud of their shortcomings that they can’t wait to show them to others. Some simply cannot read and confuse explanations with justifications as if the act of explaining something justifies the person or event explained. Thankfully, all readers are not handicapped in these ways or there would be no point in trying to inform the American people.

  In a recent column I used some examples of Clinton-era scandals to make a point about the media, pointing out that the media and the American people were more interested in Clinton’s sexual escapades and in his choice of underwear than in the many anomalies associated with such serious events as the Oklahoma City bombing, Waco, the mysterious death of a White House legal counsel, US sanctions on Iraq that took the lives of 500,000 children, and illegal war against Serbia.

  Reaganphobes responded in an infantile way, remonstrating that the same standards should be applied to “your dear beloved Ray-Gun” as to Clinton. Those readers were unable to understand that the article was not about Clinton, but about how the media sensationalizes unimportant events in order to distract attention from serious ones. Examples from the Clinton era were used, because no question better epitomizes the level of the American public’s interest in political life than the young woman’s question to President Clinton: “boxers or briefs?”

  It is doubtful that journalists and historians are capable of providing accurate understandings of any presidential term. Even those personally involved often do not know why some things happened. I have been in White House meetings from which every participant departed with a different understanding of what the president’s policy was. This was not the result of lack of clarity on the president’s part, but from the various interests present shaping the policy to their agendas.

  Many Americans regard the White House as the lair of a powerful being who can snap his fingers and make things happen. The fact of the matter is that presidents have little idea of what is transpiring in the vast cabinet departments and federal agencies that constitute “their” administration. Many parts of government are empires unto themselves. The “Deep State,” about which Mike Lofgren, formerly a senior member of the Congressional staff has written, is unaccountable to anyone. But even the accountable part of the government isn’t. For example, the information flows from the cabinet departments, such as defense, state, and treasury, are reported to Assistant Secretaries, who control the flow of information to the Secretaries, who inform the President. The civil service professionals can massage the information one way, the Assistant Secretaries another, and the Secretaries yet another. If the Secretaries report the information to the White House Chief of Staff, the information can be massaged yet again. In my day before George W. Bush and Dick Cheney gave us the Gestapo-sounding Department of Homeland Security, the Secret Service reported to an Assistant Secretary of the Treasury, but the Assistant Secretary had no way of evaluating the reliability of the information. The Secret Service reported whatever it suited the Secret Service to report.

  Those who think that “the President knows” can test their conviction by trying to keep up with the daily announcements from all departments and agencies of the government. It is a known fact that CEOs of large corporations, the relative size of which are tiny compared to the US government, cannot know all that is happening within their organizations.

  Nixon: Villain or Centrist Reformer?

  I am not particularly knowledgeable about the terms of our various presidents. Nevertheless, I suspect that the Nixon and Reagan terms are among the least understood. Both presidents had more ideological opponents among journalists and historians than they had defenders. Consequently, their stories are distorted by how their ideological opponents want them to be seen and remembered. For example, compare your view of Richard Nixon with the portrait Patrick Buchanan provides in his latest book, The Greatest Comeback. A person doesn’t have to agree with Buchanan’s view of the issues of those years, or with how Buchanan positioned, or tried to position, Nixon on various issues, to learn a great deal about Nixon. Buchanan can be wrong on issues, but he is not dishonest.

  For a politician, Richard Nixon was a very knowledgeable person. He travelled widely, visiting foreign leaders. Nixon was the most knowledgeable president about foreign policy we have ever had. He knew more than Obama, Bush I and II, Clinton, Reagan, Carter, Ford, and Johnson combined.

  The liberal-left created an image of Nixon as paranoid and secretive with a long enemies list, but Buchanan shows that Nixon was inclusive, a “big tent” politician with a wide range of advisors. There is no doubt that Nixon had enemies. Many of them continue to operate against him long after his death.

  Indeed, it was Nixon’s inclusiveness that made conservatives suspicious of him. To keep conservatives in his camp, Nixon used their rhetoric, and Nixon’s rhetoric fueled Nixon-hatred among the liberal-left. The inclination to focus on words rather than deeds is another indication of the insubstantiality of American political comprehension.

  Probably the US has never had a more liberal president than Nixon. Nixon went against conservatives and established the Environmental Protection Agency (EPA) by executive order. He supported the Clean Air Act of 1970. Nixon federalized Medicaid for poor families with dependent children and proposed a mandate that private employers provide health insurance to employees. He desegregated public schools and implemented the first federal affirmative action program.

  Declaring that “there is no place on this planet for a billion of its potentially most able people to live in angry isolation,” Nixon engineered the opening to Communist China. He ended the Vietnam War and replaced the draft with the volunteer army. He established economic trade with the Soviet Union and negotiated with Soviet leader Brezhnev landmark arms control treaties—SALT I and the Anti-Ballistic Missile Treaty in 1972, which lasted for 30 years until the neoconized George W. Bush regime violated and terminated the treaty in 2002.

  These are astonishing achievements for any president, especially a Republican one. But if you ask Americans what they know about Nixon, the response is Watergate and President Nixon’s forced resignation.

  In other words, here is more proof that all the American media does is to lie to us. The US media is no longer independent. It is a servile captive creature that turns lies into truths via endless repetitions.

  I am convinced that Nixon’s opening to China and Nixon’s arms control treaties and de-escalation of tensions with the Soviet Union threatened the power and profit of the military/security complex. Watergate was an orchestration used to remove the threat that Nixon presented. If you read the Watergate reporting by Woodward and Bernstein in the Washington Post, there is no real information in it. In place of information, words are used to create an ominous presence and sinister atmosphere that is transferred to Nixon.

  There was nothing in the Watergate scandal that justified Nixon’s impeachment, but his liberal policies had alienated conservative Republicans. Conservatives never forgave Nixon for agreeing with Zhou Enlai that Taiwan was part of China. When the Washington Post, John Dean, and a missing segment of a tape got Nixon in trouble, conservatives did not come to his defense. The liberal-left was overjoyed that Nixon got his comeuppance for supporting the exposure and prosecution of Soviet spy Alger Hiss two decades previously.

  I do not contend that the left-wing has no legitimate reasons for hostility against Nixon. Nixon wanted out of Vietnam, but “with honor” so that conservatives would not abandon him. Nixon did not want to become known as the President who forced the US military to accept defeat. He wanted to end the war, but if not with victory then with a stalemate like Korea. He or Kissinger gave the US military carte blanche to produce a situation that the US could exit “with honor.” This resulted in the secret bombing in Laos and Cambodia. The shame of the bombings cancelled any exit with real honor.

  The Reagan era is also misunderstood. Just as President Jimmy Carter was regarded as an outsider by the Democratic Washington Establishment, Ronald Reagan was an outsider to the Republican Establishment whose candidate was George H. W. Bush. Just as Carter’s presidency was neutered by the Washington Establishment with the frame-up of Carter’s Budget Director and Chief of Staff, Reagan was partially neutered before he assumed office, and the Establishment removed in succession two national security advisors who were loyal to Reagan.

  Reagan’s Priorities and the Establishment’s Agenda

  When Reagan won the Republican presidential nomination, he was told that although he had defeated the Establishment in the primaries, the voters would not be able to come to his defense in Washington. He must not make Goldwater’s mistake and shun the Republican Establishment, but pick its presidential candidate for his vice president. Otherwise, the Republican Establishment would work to defeat him in the presidential election just as Rockefeller had undermined Goldwater.

  As a former movie star, Nancy Reagan put great store on personal appearance. Reagan’s California crew was a motley one. Lynn Nofziger, for example, sported a beard and a loosely knotted tie if a tie at all. He moved around his office in sock feet without shoes. When Nancy saw Bush’s man, Jim Baker, she concluded that the properly attired Baker was the person that she wanted standing next to her husband when photos were made. Consequently, Reagan’s first term had Bush’s most capable operative as Chief of Staff of the White House.

  To get Reagan’s program implemented with the Republican Establishment occupying the chief of staff position was a hard fight.

  I don’t mean that Jim Baker was malevolent and wished to damage Reagan. For a member of the Republican Establishment, Jim Baker was very intelligent, and he is a hard person to dislike. The problem with Baker was two-fold. He was not part of the Reagan team and did not understand what we were about or why Reagan was elected. Americans wanted the stagflation that had destroyed Jimmy Carter’s presidency ended, and they were tired of the ongoing Cold War with the Soviet Union and its ever present threat of nuclear Armageddon.

  It is not that Baker (or VP Bush) were personally opposed to these goals. The problem was that the Establishment, whether Republican or Democratic, is responsive not to solving issues but to accommodating the special interest groups that comprise the Establishment. For the Establishment, preserving power is the primary issue. As The Saker makes clear, in both parties the Anglos of my time, of which George H. W. Bush was the last, have been replaced by the neocons. The neocons represent an ideology in addition to special interest groups, such as the Israel Lobby.

  The Republican Establishment and the Federal Reserve did not understand Reagan’s Supply-Side economic policy. In the entire post World War II period, reductions in tax rates were associated with the Keynesian demand management macroeconomic policy of increasing aggregate demand. The Reagan administration had inherited high inflation, and economists, Wall Street, and the Republican Establishment, along with Reagan’s budget director, David Stockman, misunderstood Reagan’s supply-side policy as a stimulus to consumer demand that would cause inflation, already high, to explode. On top of this, conservatives in Congress were disturbed that Reagan’s policy would worsen the deficit—in their opinion the worst evil of all.

  Reagan’s supply-side economic policy was designed not to increase aggregate demand, but to increase aggregate supply. Instead of prices rising, output and employment would rise. This was a radically new way of using fiscal policy to raise incentives to produce rather than to manage aggregate demand, but instead of helping people to understand the new policy, the media ridiculed and mischaracterized the policy as “voodoo economics,” “trickle- down economics,” and “tax cuts for the rich.” These mischaracterizations are still with us three decades later. Nevertheless, the supply-side policy was partially implemented. It was enough to end stagflation and the policy provided the basis for Clinton’s economic success. It also provided the economic basis that made credible Reagan’s strategy of forcing the Soviets to choose between a new arms race or negotiating the end of the Cold War.

  Ending the Cold War and Bad CIA Advice

  President Reagan’s goal of ending the Cold War was upsetting to both conservatives and the military/security complex. Conservatives warned that wily Soviets would deceive Reagan and gain from the negotiations. The military/security complex regarded Reagan’s goal of ending the Cold War as a threat comparable to Nixon’s opening to China and arms limitations treaties with the Soviet Union. President John F. Kennedy had threatened the same powerful interests when he realized from the Cuban Missile Crisis that the US must put an end to the risk of nuclear confrontation with the Soviet Union.

  With the success of his economic policy in putting the US economy back on its feet, Reagan intended to force a negotiated end to the Cold War by threatening the Soviets with an arms race that their suffering economy could not endure. However, the CIA advised Reagan that if he renewed the arms race, he would lose it, because the Soviet economy, being centrally planned, was in the hands of Soviet leaders, who, unlike Reagan, could allocate as much of the economy as necessary to win the arms race. Reagan did not believe the CIA. He created a secret presidential committee with authority to investigate the CIA’s evidence for its claim, and he appointed me to the committee. The committee concluded that the CIA was wrong.

  Reagan always told us that his purpose was to end, not win, the Cold War. He said that the only victory he wanted was to remove the threat of nuclear annihilation. He made it clear that he did not want a Soviet scalp. Like Nixon, to keep conservatives on board, he used their rhetoric.

  Curing stagflation and ending the Cold War were the main interests of President Reagan. Perhaps I am mistaken, but I do not think he paid much attention to anything else.

  Grenada and the Contras in Nicaragua were explained to Reagan as necessary interventions to make the Soviets aware that there would be no further Soviet advances and, thus, help to bring the Soviets to the negotiating table to end the nuclear threat. Unlike the George W. Bush and Obama regimes, the Reagan administration had no goal of a universal American Empire exercising hegemony over the world. Grenada and Nicaragua were not part of an empire-building policy. Reagan understood them as a message to the Soviets that “you are not going any further, so let’s negotiate.”

  Conservatives regarded the reformist movements in Grenada and Nicaragua as communist subversion, and were concerned that these movements would ally with the Soviet Union, thus creating more Cuba-like situations. Even President Carter opposed the rise of a left-wing government in Nicaragua. Grenada and Nicaragua were reformist movements rather than communist-inspired, and the Reagan administration should have supported them, but could not because of the hysteria of American conservatives. Reagan knew that if his constituency saw him as “soft on communism,” he would lack the domestic support that he needed in order to negotiate with the Kremlin the end of the Cold War.

  America Playing the Foreign Policy Game

  Today Western governments support and participate in Washington’s invasions, but not then. The invasion of Grenada was criticized by both the British and Canadian governments. The US had to use its UN Security Council veto to save itself from being condemned for “a fragrant violation of international law.”

  The Sandinistas in Nicaragua were reformers opposed to the corruption of the Somoza regime that catered to American corporate and financial interests. The Sandinistas aroused the same opposition from Washington as every reformist government in Latin America always has. Washington has traditionally regarded Latin American reformers as Marxist revolutionary movements and has consistently overthrown reformist governments in behalf of the United Fruit Company and other private interests that have large holdings in countries ruled by unrepresentative governments.

  Washington’s policy was, and still is, short-sighted and hypocritical. The United States should have allied with representative governments, not against them. However, no American president, no matter how wise and well- intentioned, would have been a match for the combination of the interests of politically-connected US corporations and the fear of more Cubas. Remember Marine General Smedley Butler’s confession that he and his US Marines served to make Latin America safe for the United Fruit Company and “some lousy investment of the bankers.”

  Information is Power

  Americans, even well informed ones, dramatically over-estimate the knowledge of presidents and the neutrality of the information that is fed to them by the various agencies and advisors. Information is power, and presidents get the information that Washington wants them to receive. In Washington private agendas abound, and no president is immune from these agendas. A cabinet secretary, budget director, or White House chief of staff who knows how Washington works and has media allies is capable, if so inclined, of shaping the agenda independently of the president’s preferences.

  The Establishment prefers a nonentity as president, a person without experience and a cadre of knowledgeable supporters to serve him. Harry Truman was, and Obama is, putty in the hands of the Establishment. If you read Oliver Stone and Peter Kuznick’s The Untold History of the US, you will see that the Democratic Establishment, realizing that FDR would not survive his fourth term, forced his popular Vice President Henry Wallace off the ticket and put in his place the inconsequential Truman. With Truman in place, the military/security complex was able to create the Cold War.

  From Bad to Worse

  The transgressions of law that occurred during the Nixon and Reagan years are small when compared to the crimes of Clinton, George W. Bush and Obama, and the crimes were punished. Nixon was driven from office and numerous Reagan administration officials were prosecuted and convicted. Neither Nixon nor Reagan could have run roughshod over both Constitution and statutory law, setting aside habeas corpus and due process and detaining US citizens
  indefinitely without charges and convictions, authorizing and justifying torture, spying without warrants, and executing US citizens without due process of law.

  Moreover, unlike the Clinton, Bush, and Obama regimes, the Reagan administration prosecuted those who broke the law. Assistant Secretary of State Elliott Abrams was convicted, National Security Advisor Robert McFarlane was convicted, Chief of CIA Central American Task Force Alan Fiers was convicted, Clair George, Chief of the CIA’s Division of Covert Operations was convicted. Richard Secord was convicted. National Security Advisor John Poindexter was convicted. Oliver North was convicted. North’s conviction was later overturned, and President George H.W. Bush pardoned others. But the Reagan Administration held its operatives accountable to law. No American President since Reagan has held the government accountable.

  Clair George was convicted of lying to congressional committees. Richard Secord was convicted of lying to Congress. John Poindexter was convicted of lying to Congress. Alan Fiers was convicted of withholding information from Congress. Compare these convictions then with James R. Clapper now. President Obama appointed Clapper Director of National Intelligence on June 5, 2010, declaring that Clapper “possesses a quality that I value in all my advisers: a willingness to tell leaders what we need to know even if it’s not what we want to hear.” With this endorsement, Clapper proceeded to lie to Congress under oath, a felony. Clapper was not indicted and prosecuted. He was not even fired or forced to resign. For executive branch officials, perjury is now a dead letter law.

  The destruction of the rule of law and accountable government has extended to state and local levels. Police officers no longer “serve and protect” the public. The most dangerous encounter most Americans will ever experience is with police, who brutalize citizens without cause and even shoot them down in their homes and on their streets. A police badge has become a license to kill, and police use it to the hilt. During the Iraq War, more Americans were murdered by police than the military lost troops in combat. And nothing is done about it. The country is again facing elections, and the abuse of US citizens by “their” police is not an issue. Neither are the many illegal interventions by Washington into the internal affairs of other sovereign countries or the unconstitutional spying that violates citizens’ privacy.

  The fact that Washington is gearing up for yet another war in the Middle East is not an important issue in the election.

  In the US the rule of law, and with it liberty, have been lost. With few exceptions, Americans are too ignorant and unconcerned to do anything about it. The longer the rule of law is set aside, the more difficult it is to reestablish it. Sooner or later the rule of law ceases even as a memory. No candidate in the upcoming election has made the rule of law an issue.

  Americans have become a small-minded divided people, ruled by petty hatreds, who are easily set against one another and against other peoples by their rulers.

  

  

  

  

  

• Gold Fund Manager Laments The Big Payoff "Will Not Be Cause For Celebration"

  Dreams don't always come true for TV singing show contestants or gold enthusiasts. As Santiago Capital's Brent Johnson explains, precious metals remain in a long and painful bear market… so why continue to own gold? Simply put, despite all the cries of "you suck" and feelings of loneliness and depression, "if you have done your homework" this will lead to conviction because all the reasons to own gold are still there and are now even more compelling…

  Contrarians, by definition, spend most of their time bring wrong "until the moment they are not and the big pay off comes."

  

   

  Brent Johnson explains "you don't get to make the big money and have it be easy…"

   

  

  The Party In The Global Equity Markets Is Winding Down and "Our moment is coming.. and when that happens we can be humble and gracious or pompous rockstars. When this position – which has been so painful for so long – pays off, the urge to say 'I told you so' will be almost impossible to resist… but please don't say it."

  "Our winnings are not going to come from the backs of politicians who sold out their constituents in mountains of debt; it's not going to come from the bankers who loaded up their balance sheets with trillions of dollars of derivatives; it's not going to come at the expense of the celebrities in Hollywood or rockstars of New York. Our winnings will come on the backs of innocent people around the world whose prices will rise as their wages fall.. it's going to come from the people who wake up one morning to find their savings have been devalued or bailed-in… it's going to come from the pension funds of teachers and firefighters. The irony is that when gold finally pays off – it will not be a cause for celebration."

  

  

  

  

  

• Apple in the Seventies

  From the Slope of Hope: It’s time for me to travel to the place I always prefer: way out on a limb.

  My Apple credentials are sound. I bought my first Macintosh in early 1984. I worked at Apple headquarters for several years in the late 1980s. When did I buy my first iPhone? The day it came out. First iPad? The day it came out. I even wrote a few books about the Macintosh. And some of you know the videos I’ve done about that Silicon Valley deity, Mr. Steven Paul Jobs. So I don’t have any anti-Apple ax to grind.

  Having said all that, I think Apple’s best days are behind it. The fat and happy executive staff, led by the charisma-free Tim Cook, is sitting on top of the most valuable company on the planet. Subtly and slowly, though, Apple has already lost one-quarter of its entire market cap.

  Tuesday, of course, is when Apple reports their earnings, after the close. I have no clue about Apple’s fundamentals, but I’ve seen a chart or two in my life, and this long-term chart of Apple looks jumping-up-and-down bearish.

  

  Looking a bit closer, there is a massive topping pattern which I’ve helpfully shaded in green for you. The strength we had late last week pushed up right back toward all that overhead supply, and early on Monday, I shorted the stock at what I hope is a price I’ll be pleased with.

  

  Now here’s the going-out-on-a-limb part: I suspect that Apple is more likely to be down on Wednesday than up. I further think that, in the months ahead, Apple is going to find itself at a place no one dare imagine: in the 70s. I have tinted in area below which shows a suggested target, which just so happens to also close a gap beautifully set before a massive roar higher in the price a couple of years ago.

  

  I had some lunatic things to say about oil late in 2014, although I held my tongue about some price projections since they seemed so preposterous. I’m not going to offer Apple this courtesy. I think the 25% drop they’ve seen is going to blossom into a nearly 50% drop. I suspect ol’ Cookie is going to be checking out his ridiculous Apple Watch sooner or later to see when it’s time for him to finally leave and enjoy the vast personal fortune he acquired from Jobs’ genius.

  

  

  

  

  

• Gold Price May Lead Gold Mining Stocks – Latest Research

  Gold Price May Lead Gold Mining Stocks – Latest Research

  Dr Brian Lucey and Dr Fergal O’Connor have just published some interesting research on the correlations of the gold price and gold mining indices.

  

  In ‘Are Gold Bugs Coherent?’, the academics use wavelet models to surface the relationship between gold miners stock prices and the price of gold. Specifically, they examine the relationship between the gold price and the NYSE ARCA Gold Bugs index of gold miner share prices over a 17 year period using wavelet analysis.

  They find that

  “that there is little relationship in the short run but some significant and long standing long run relationships and that gold prices appear to lead gold miner stock prices.”

  There is now a large body of academic research which shows that gold is a safe haven asset and a hedging instrument and can play a “useful role in reducing a portfolio’s risk.”

  This has again been seen in recent weeks with gold having risen by more than 4% year to date, while leading stock indices such as the S&P 500 are down by more than 7%.

  The research entitled ‘Are Gold Bugs Coherent?’ can be accessed here

  

  LBMA Gold Prices

  25 Jan: USD 1,103.70, EUR 1,020.29 and GBP 773.96 per ounce
  22 Jan: USD 1,097.65, EUR 1,012.55 and GBP 769.63 per ounce
  21 Jan: USD 1,096.80, EUR 1,006.98 and GBP 774.99  per ounce
  20 Jan: USD 1,093.20, EUR 999.73 and GBP 771.08 per ounce
  19 Jan: USD 1,087.00, EUR 999.77 and GBP 759.79 per ounce

  Breaking Gold News and Commentary Today – Click here

  

  

  

  

• The "Real" Donald Trump – A Fascinating Interview From 1990

  Submitted by Mike Krieger via Liberty Blitzkrieg blog,

  In 1990, Donald Trump conducted a lengthy interview with Playboy Magazine. It provides an absolutely fascinating window into the man’s mind, which I suggest everyone read in full. Unexpectedly, I came away with a more informed and nuanced perspective on the man. While it didn’t change my opinion of him as President, I do have a much greater appreciation for Donald Trump as a person, specifically how his mind works and what drives him.

  I originally came across this interview after seeing a tweet referencing a 25 year old interview during which Trump expressed admiration for how strongly Chinese authorities cracked down on dissent in Tiananmen Square in 1989. I immediately thought to myself that this would be the perfect fodder to further elucidate the kind of cold, brutal, authoritarian leader Trump undoubtably would be as President.

  While that particular quote didn’t disappoint, I decided to read further and came away with many additional observations. I think these observations are worth sharing since I think there’s a very real chance Trump will be elected President within the next ten years. His chances ride on the fact that the current system is terminally corrupt, as well as socially and economically bankrupt. It will crash and burn, whether in slow motion like the past eight years, or very rapidly over the next several. Someone will likely step in to fill this void, and Trump has the personality type and understanding of human nature to possibly propel himself into the position when the timing is right. Is the time right in 2016? Probably not, but a President Trump is far more likely to occur in our lifetimes than many of us want to admit.

  So with that out of the way, let me share some of the things I learned from the interview. First, I think Trump is far less materialistic than people presume, which sounds like a contradiction considering he is unquestionably one of the biggest showoffs on planet earth. While this is true, the motivation behind his ostentatious public persona is primarily to further his brand. As he says repeatedly in the interview, it’s all a show. In other words, he claims it’s pure marketing and I believe him.

  What motivates Trump isn’t the collection of material things, rather, it’s a constant need to stroke his enormous ego and stoke his narcissism. Life is merely a giant game for Trump. A game in which the winners collect lots of fame and money, and the losers don’t. He doesn’t simply want to win this game, coming out on top is his entire life’s purpose. The idea of not winning isn’t even an option.

  So with this in mind, is the Presidency just the ultimate prize for Trump? Does he want it simply because it is one of the few “wins” he has yet to collect? I think so. Deep down, I think Trump can’t truly envision himself as life’s ultimate winner without the Presidency. This is not to say I think Trump isn’t genuine when he says America is going down the toilet. Indeed, he was hitting on many of the exact same themes back in 1990. In fact, it gives you the impression that Trump has thought America was lacking his entire life, precisely because Trump had yet to be named the country’s CEO.

  Trump believes in winning, and he thinks he and America are one in the same. In that sense, I genuinely believe that as President he would do what he thinks is best for America. In that sense, he’s not the typical detached, corrupt, greedy, globalist U.S. President we’ve become so accustomed to. This is precisely what his supporters are picking up on and why they love him.

   

  From this angle alone, he might actually have the chops to be a very good President. This is because for a man with his disposition, being President might still not be enough of an accomplishment. His ego will require that history remember him not just as a billionaire and President, but as the man who “Made America Great Again,” the ultimate motivator for a man who never rests until he gets what he wants. So it’s true that he really wouldn’t be unduly influenced by billionaires and large corporations if he felt they were getting in the way of his making America great (and himself greater). Those are the positives.

  As such, the establishment really is scared because Trump actually is an uncontrollable wildcard. This is certainly bad for them, but it isn’t necessarily good for “we the people.” The problem arises when it comes to Trump’s definition of greatness. From my chair, he doesn’t seem to think liberty, freedom and the Constitution play much of a role. Indeed, you can get a pretty good sense of his definition of “great” by looking at his buildings and the sorts of accomplishments he prides himself on. He loves the shock factor and big expensive toys. He likes them because they impress others and help his brand. There’s more swagger than substance to the things he prioritizes, at least publicly. Indeed, it’s not surprising that the casino business would have a particular appeal to him. It’s a world in which customers indulge themselves in a fantasy until they run out of money or get bored, and by the time they leave, Trump’s bank account is far bigger than it was before. He wins again.

  Trump supporters see this and think this is how he’s going to deal with foreign leaders and that this is a good thing. They think that he’ll simply outsmart them. Maybe he will and maybe he won’t, who knows. Personally, I’m far more concerned about how he would deal with domestic dissent.

  To that end, I think one thing is clear. I think he’d take George W. Bush’s “you are either with us, or you are with the terrorists” and change it to something like “you are either with me, or you hate America.” In a collapsed economy, this sort of slogan could appeal to a lot of people, and with an outraged public behind him, President Trump has the capacity to be incredibly cruel and vicious to American citizens he think stand in the way of his “Making America Great.”

  Without any obvious respect for the Constitution or Bill of Rights, a President Trump could very quickly transform himself into a very dangerous strongman, all the while believing that he is merely doing what is necessary to make America great. This attitude has become painfully clear to me during the campaign as I’ve watched him intentionally stir up anger and hate by demonizing minorities such as Muslims and Mexicans. Do I think it’s possible he doesn’t really stand behind his own hateful statements and is merely telling groups of frustrated people what they want to hear to get elected? Perhaps, but such a willingness tells you a lot about the lengths he would go to win, and shines a light on the things he’s capable of doing in order to solidify and expand his power once he’s won.

  Which brings me to the final point. Many of Trump’s personality traits are more admirable, or at least appear less nefarious than I previously thought. Nevertheless, it is extremely crucial to understand that the traits that make someone an incredible showman and billionaire are not the same traits needed in a President to restore a Constitutional Republic. Not that I think that’s high on Trump’s list of priorities in any event.

  Now here are some of the more interesting excerpts of the interview. Read the entire thing here.

  Then what does all this-the yacht, the bronze tower, the casinos-really mean to you?
  Props for the show.

   

  And what is the show?
  The show is “Trump” and it has sold out performances everywhere. I’ve had fun doing it and will continue to have fun, and I think most people enjoy it.

   

  You don’t sound guilty at all.
  I do have a feeling of guilt. I’m living well and like it, I know that many other people don’t live particularly well. I do have a social consciousness. I’m setting up a foundation; I give a lot of money away and I think people respect that. The fact that I built this large company by myself working people respect that; but the people who are at high levels don’t like it. They’d like it for themselves.

   

  What do you do to stay in touch with your employees?
  I inspect the Trump Tower atrium every morning. Walk into it … it’s perfect; everything shines. I go down and raise hell in a nice way all the time because I want everything to be absolutely immaculate. I’m, totally hands-on. I get along great with porters and maids at the Plaza and the Grand Hyatt. I’ve had bright people ask me why I talk to porters and maids. I can’t even believe that question. Those are the people who make it all work …. If they like me, they will work harder … and I pay well.

   

  How far are you willing to push adversaries?
  I will demand anything I can get. When you’re doing business, you take people to the brink of breaking them without having them break, to the maximum point their heads can handle-without breaking them. That’s the sign of a good businessman: Somebody else would take them fifteen steps beyond their breaking point.

   

  Why?
  I am very skeptical about people; that’s self-preservation at work. I believe that, unfortunately, people are out for themselves. At this point, it’s to many people’s advantage to like me. Would the phone stop ringing, would these people kissing ass disappear if things were not going well? I enjoy testing friendship …. Everything in life to me is a psychological game, a series of challenges you either meet or don’t. I am always testing people who work for me.

   

  How?
  I will send people around to my buyers to test their honesty by offering them trips and other things. I’ve been surprised that some people least likely to accept a trip from a contractor did and some of the most likely did not. You can never tell until you test; the human species is interesting in that way. So to me, friendship can be really tested only in bad times. I instinctively mistrust many people. It is not a negative in my life but a positive. Playboy wouldn’t be talking to me today if I weren’t a cynic. So I learned that from Fred, and I owe him a lot. . . . He could have ultimately been a happy guy, but things just went the unhappy way.

   

  And the Pope?
  Absolutely. Nothing wrong with ego. People need ego, whole nations need ego. I think our country needs more ego, because it is being ripped off so badly by our so-called allies; i.e., Japan, West Germany, Saudi Arabia, South Korea, etc. They have literally outegotized this country, because they rule the greatest money machine ever assembled and it’s sitting on our backs. Their products are better because they have so much subsidy. We Americans are laughed at around the world for losing a hundred and fifty billion dollars year after year, for defending wealthy nations for nothing, nations that would be wiped off the face of the earth in about fifteen minutes if it weren’t for us. Our “allies” are making billions screwing us.

   

  You’re opposed to Japanese buying real estate in the U.S.?
  I have great respect for the Japanese people and list many of them as great friends. But, hey, if you want to open up a business in Japan, good luck. It’s virtually impossible. But the Japanese can buy our buildings, our Wall Street firms, and there’s virtually no.thing to stop them. In fact, bidding on a building in New York is an act of futility, because the Japanese will pay more than it’s worth just to screw us. They want to own Manhattan. Of course, I shouldn’t even be complaining about it, because I’m one of the big beneficiaries of it. If I ever wanted to sell any of my properties, I’d have a field day. But it’s an embarrassment! I give great credit to the Japanese and their leaders, because they have made our leaders look totally second rate.

   

  You have taken out full-page ads in several major newspapers that not only concern U.S. foreign trade but call for the death penalty, too. Why?
  Because I hate seeing this country go to hell. We’re laughed at by the rest of the world. In order to bring law and order back into our cities, we need the death penalty and authority given back to the police. I got fifteen thousand positive letters on the death-penalty ad. I got ten negative or slightly negative ones.

   

  You believe in an eye for an eye?
  When a man or woman cold-bloodedly murders, he or she should pay. It sets an example. Nobody can make the argument that the death penalty isn’t a deterrent. Either it will be brought back swiftly or our society will rot away. It is rotting away.

   

  For a man so concerned about our crumbling cities, some would say you’ve done little for crumbling Atlantic City besides pull fifty million dollars a week out of tourists’ pockets.
  Elected officials have that responsibility. I would hate to think that people blame me for the problems of the world. Yet people come to me and say, “Why do you allow homelessness in the cities?” as if I control the situation. I am not somebody seeking office.

   

  Wait. Doesn’t it seem that with all your influence in Atlantic City you could do more to combat crime and corruption and put something back into the community?
  Well, crime and prostitution go up, and Atlantic City administrations are into very deep trouble with the law, and there are lots of problems there, no question about it. But there is a tremendous amount of money going to housing from the profits of the casinos. As somebody who runs hotels, all I can do, when you get right down to it, is run the best places, bring in as much money as possible, which in turn goes out for taxes. I contribute millions a year to various charities. Finally, by law, I’m not allowed to have Governmental influence; but if they passed legislation that allowed me to get more involved, I’d be very happy to do it. In the meantime, I have the most incredible hotels in the world in Atlantic City. The Taj Mahal will be beyond belief. And if I can awaken the government of Atlantic City, I have performed a great service.

   

  What were your other impressions of the Soviet Union?
  I was very unimpressed….Russia is out of control and the leadership knows it. That’s my problem with Gorbachev. Not a firm enough hand.

   

  You mean firm hand as in China?
  When the students poured into Tiananmen Square, the Chinese government almost blew it. Then they were vicious, they were horrible, but they put it down with strength. That shows you the power of strength. Our country is right now perceived as weak … as being spit on by the rest of the world—

   

  Besides The real-estate deal, you’ve met with top-level Soviet officials to negotiate potential business deals with them; how did they strike you?
  Generally, these guys are much tougher and smarter than our representatives. We have people in this country just as smart, but unfortunately, they’re not elected officials. We’re still suffering from a loss of respect that goes back to the Carter Administration, when helicopters were crashing into one another in Iran. That was Carter’s emblem. There he was, being carried off from a race, needing oxygen. I don’t want my President to be carried off a race course. I don’t want my President landing on Austrian soil and falling down the stairs of his airplane. Some of our Presidents have been incredible jerk-offs. We need to be tough.

   

  A favorite word of yours, tough. How do you define it?
  Tough is being mentally capable of winning battles against an opponent and doing it with a smile. Tough is winning systematically.

   

  Sometimes you sound like a Presidential candidate stirring up the voters.
  I don’t want the Presidency. I’m going to help a lot of people with my foundation-and for me, the grass isn’t always greener.

   

  But if the grass ever did look greener, which political party do you think you’d be more comfortable with?
  Well, if I ever ran for office, I’d do better as a Democrat than as a Republican-and that’s not because I’d be more Republican-and that’s not because I’d be more liberal, because I’m conservative. But the working guy would elect me. He likes me. When I walk down the street, those cabbies start yelling out their windows.

   

  Another game: What’s the first thing President Trump would do upon entering the Oval Office?
  Many things. A toughness of attitude would prevail. I’d throw a tax on every Mercedes-Benz rolling into this country and on all Japanese products, and we’d have wonderful allies again.

   

  And how would President Trump handle it?
  He would believe very strongly in extreme military strength. He wouldn’t trust anyone. He wouldn’t trust the Russians; he wouldn’t trust our allies; he’d have a huge military arsenal, perfect it, understand it. Part of the problem is that we’re defending some of the wealthiest countries in the world for nothing. . . . We’re being laughed at around the world, defending Japan–

   

  You categorically don’t want to be President?
  I don’t want to be President. I’m one hundred percent sure. I’d change my mind only if I saw this country continue to go down the tubes.

   

  More locally, one of your least favorite political figures was Mayor Ed Koch of New York. You two had a great time going after each other: He called you “piggy, piggy, piggy” and you called him “a moron.” Why do you suppose he lost the election?
  He lost his touch for the people. He became arrogant. He not only discarded his friends but was a fool for brutally criticizing them. The corruption was merely a symptom of what had happened to him: He had become extremely nasty, mean spirited and very vicious, an extremely disloyal human being. When his friends like Bess Myerson and others were in trouble, he seemed to automatically abandon them, almost before finding out what they’d done wrong. He could think only about his own ass-not the city’s. That was dumb: The only one who didn’t know his administration was crumbling around him was him. Power corrupts.

   

  You probably have more power than Koch did as mayor. And you’re getting more of it all the time. How about power’s corrupting you?
  I think power sometimes corrupts-“sometimes” has to be added.

   

  You’re involved in so many activities, deals, promotions-in the deep of the night, after the reporters all leave your conferences, are you ever satisfied with what you’ve accomplished?
  I’m too superstitious to be satisfied. I don’t dwell on the past. People who do that go right down the tubes. I’m never self-satisfied. Life is what you do while you’re waiting to die. You know, it is all a rather sad situation.

   

  Life? Or death?
  Both. We’re here and we live our sixty, seventy or eighty years and we’re gone. You win, you win, and in the end, it doesn’t mean a hell of a lot. But it is something to do-to keep you interested.

   

  So building that second huge yacht isn’t an act of gaudy excess but another act in the show?
  Well, it draws people. It will be the eighth wonder of the world and will create an aura that seems to work. It will cost me two hundred million dollars. But I don’t need it! I could be very happy living in a one-bedroom apartment. I used to live that life. In the early Seventies, I lived in a studio apartment overlooking a water tank.

   

  If you were starting over again, in what business would you choose to make your fortune?
  Good question …. There’s something about mother earth that’s awfully good, and mother earth is still real estate. With the right financing, you’ve essentially invested no money. Publishing, movies, broadcasting are tougher, and there aren’t too many Rupert Murdochs, Si Newhouses, Robert Maxwells and Punch Sulzbergers. I’ll stick to real estate.

   

  You seem very pleasant and charming during interviews, yet you talk constantly about toughness. Do you put on an act for us?
  I think everybody has to have some kind of filtering system. I’m very fair and I have had the same people working for me for years. Rarely does anybody leave me. But when somebody tries to sucker-punch me, when they’re after my ass, I push back a hell of a lot harder than I was pushed in the first place. If somebody tries to push me around, he’s going to pay a price. Those people don’t come back for seconds. I don’t like being pushed around or taken advantage of. And that’s one of the problems with our country today. This country is being pushed around by everyone.

   

  About your own toughness…
  Well, as I said, I study people and in every negotiation, I weigh how tough I should appear. I can be a killer and a nice guy. You have to be everything. You have to be strong. You have to be sweet. You have to be ruthless. And I don’t think any of it can be learned. Either you have it or you don’t. And that is why most kids can get straight As in school but fail in life.

   

  As you continue to make more deals, as you accumulate more and more, there’s a central question that arises about Donald Trump: How much is enough?
  As long as I enjoy what I’m doing without getting bored or tired … the sky’s the limit.

  The big concern as relates to Trump as President would be his strongman type of personality coupled with a cult of personality worship amongst his followers. This worship is something that Trump himself is well aware of, and it makes him all the more dangerous. For example, he recently said the following in Iowa:

  Donald Trump boasted Saturday that support for his presidential campaign would not decline even if he shot someone in the middle of a crowded street.

   

  “I could stand in the middle of 5th Avenue and shoot somebody and I wouldn’t lose voters,” Trump said at a campaign rally here.

  The scary part is, I think he’s right.

  

  

  

  

  

• Offshore Yuan Drops To 3-Week Lows As China Injects Another $70 Billion Liquidity

  Following the afternoon weakness in US equities, Offshore Yuan has been limping lower into the fix, not helped by comments from a MOFCOM researcher that "China is able to withstand currency fluctuations" implicitly warning carry traders to stay away and suggesting the dollar's dominance would not last long. CNH is now at 3-week lows against CNY, over 300pips cheap – which prompted the major short squeeze last time. Chinese stocks are modestly lower but more worrying is the 7-day slide in Chinese corporate bond yields – the most in 2 months – hinting perhaps that the last bubble standing is bursting.

  Having dismissed calls for large scale stimulus, the Year-end liquidity spigot is wide open…

  • *PBOC TO INJECT 440B YUAN WITH REVERSE REPOS: TRADERS

  Consisting of 360bn 28-day and 80bn 7-day reverse repo.

  As PBOC held the Yuan Fix "stable" for the 13th day in a row.

  Offshore Yuan continues to weaken and diverge from the "relative" stability of onshore Yuan as MOFCOM resercher Mei Xinyu writes that China is willing and able to stand temporary fluctuations in currency rates to gain independence of its monetary policy,. adding that the Yuan couldn’t be pegged to dollar perpetually since China is the 2nd largest economy in world and a strong position of dollar won’t last long.

  

   

  Is it us or does that sound a little more like a threat to dollar hegemony than a warning about volatility?

  Chinese CDS continue to confirm Offshore Yuan's implied weakness – the last time CNY remained "stable" in the face of devaluation stress like this was in the pre-amble to August's collapse…

  

  Finally, we draw attention to the fact that the "last bubble standing" – Chinese corporate bonds – appear to be cracking, having seen yields increase for the last 7 days – the most since mid November…

  

  As Chinese stocks stumble:*HONG KONG'S HANG SENG INDEX FALLS 1.4% IN PREMARKET

   

  None of which should surprise anyone, as BofAML's David Cui (chief China equity strategist) warned so succinctly:

  I expect higher volatility in the markets and a much higher chance of financial system instability in China – debt/GDP ratio will be higher, growth will be slower and there will likely be more shocks to the system. Whether the financial system breaks down or not, I expect the risk of such a breakdown to be the dominant theme for China markets this year.

   

  It’s true that since 2011 every year there had been a round of debates about this, and so far, the financial system has held up reasonably well (even though there had been scares from time to time). Many view the absence of any severe disturbance over the past few years as proof that the government is on top of things and believe that the risk has diminished over time. I think the opposite is true: the government has maintained a superficial stability largely by debt-funded stimulus and ever-greening of bad debts. We believe these have strengthened various implicit guarantees that have in turn generated  powerful destabilizing forces beneath the surface – a classic case of short term stability breeding long term instability.

   

  I think there are at least five: the guarantee on GDP growth, on RMB stability, on no sharp fall of the A-share market, on no major debt default and on no large housing price drop. A break of any of these guarantees may potentially destabilize the system in my view. And it’s a matter of time when some of these guarantees will be broken because they are inherently conflicting. For example, to hold up growth, the government has to run fairly loose monetary policy and very aggressive fiscal policy which means that RMB will increasingly come under pressure. The same is true with holding up the A-share market. The government has to borrow money from banks to buy A-shares, which boosts money growth and adds to asset bubble and RMB problems. If it reduces loans elsewhere to compensate, growth and debt may suffer. These are just two examples.

  Leading him to forecast that it’s going to be tougher for China’s equity markets this year than last year.

  We forecast SHCOMP to decline by about 30% to around 2,600 by yearend, and HSCEI to decline by about 7% to around 9,000.

   

  Our year-end targets had not factored in a credit crunch scenario because the timing of which is difficult to predict. Should it occur, we expect the indices to end below the low bounds of our expected trading ranges, possibly way below (2,200 for SHCOMP and 7,400 for HSCEI).

  None of which spell anything but contagion concerns for global levered carry trades.

  *  *  *

  And what would a night in Asia be without the Japanese spewing forth more muppetry monetary policy magic…

  The Japanese continue to desperately try to jawbone some momentum back into their markets, following this morning's spurious midnight Japane time headline, here is another:

  • *EX-BOJ DEPUTY IWATA SEES CHANCE FOR EASING THIS WEEK: ASAHI

  Which popped USDJPY back higher after some early weakness

  

   

  And then this:

  • *AMARI SAYS GOVT SHOULDN'T GUIDE MONETARY POLICY

  And here's why it matters – the correlatiob between USDJPY and world stocks has never been higher…

  

   

  Well done Central Planners.

  

  

  

  

  

• Is There A "Fourth Revolution" On The Horizon In America?

  Submitted by Lawrence Kadish via The Gatestone Institute,

  • The current political cycle reveals that many Americans are demanding unprecedented accountability from their elected leaders concerning wasteful spending and policies that have labeled our nation "The United Give Me States of America."

  • A growing majority of citizens want economic growth, job creation, national security and many insist on an end to policies of political correctness that prevent the education of our citizenry and, as they believe, is unraveling our basic right of freedom of speech.

  • Of equal concern are the prospects of ongoing terrorist acts against our nation and our allies, the unimaginable threat of a nuclear 9/11 or the global upheaval from a bankrupt America triggered by a default on our nation's unsupportable $19 trillion national debt.

  In a recent conference entitled, "How to Think about Inequality," author James Piereson discussed key topics explored in his books, Shattered Consensus and The Inequality Hoax.

  In Shattered Consensus, Piereson suggested that America is on the abyss of a new and historic phase of economic and political upheaval he calls the "Fourth Revolution."

  He cites three prior turning points in our nation's history: Jefferson's "Revolution of 1800," which created popular political parties as we know them, the Civil War and the New Deal.

  Piereson said he doesn't know when The "Fourth Revolution" will occur or what form it will take.

  But as today's electorate respond to the rhetoric of current Presidential hopefuls one could argue that Piereson may be wrong in his timing. Between our dangerously unsustainable debt and the raw emotions of primary voters so evident in their passion for their respective candidates, we are far from the edge of Piereson's Fourth Revolution. We are in the midst of it.

  James Piereson, author of the books Shattered Consensus and The Inequality Hoax.

  The current political cycle reveals that many Americans are demanding unprecedented accountability from their elected leaders concerning wasteful spending and policies that have labeled our nation "The United Give Me States of America."

  A growing majority of citizens want economic growth, job creation, national security and many insist on an end to policies of political correctness, as they believe it is unraveling our basic right of freedom of speech.

  Of equal concern are the prospects of ongoing terrorist acts against our nation and our allies, the unimaginable threat of a nuclear 9/11 or the global upheaval from a bankrupt America triggered by a default on our nation's unsupportable $19 trillion national debt. As stated previously:

  In stark but simple terms, unless Americans are made aware of this financial crisis and demand accountability, the very fabric of our society will be destroyed. Interest rates and interest costs will soar and government revenues will be devoured by interest on the national debt. Eventually, most of what we spend on Social Security, Medicare, education, national defense and much more may have to come from new borrowing, if such funding can be obtained.

   

  Left unchecked, this destructive deficit-debt cycle will leave the White House and Congress with either having to default on the national debt or instruct the Treasury to run the printing presses into a policy of hyperinflation.

  When there is no food on the table, when the dollar has no value, that is when demagogues like Hitler get into power.

  That "Fourth Revolution" envisioned by Mr. Piereson would also need to include those in America who would seek to have our nation become a socialist state.

  

  

  

  

  

• Billion Dollar Baby Bye Bye – Theranos Lab Found "Deficient"

  It seems billion dollar baby of Silcon Valley, Elizabeth Holmes, is facing yet another unicorn-slaying moment as the fairy-take ending for Stanford drop-out looks increasingly distant after a WSJ report that U.S. health inspectors have found serious deficiencies at Theranos Inc.’s laboratory in Northern California, according to people familiar with the matter. With a board full of big swinging dicks about to be exposed for the greater fools they truly are, failing to fix the problems could put the Theranos lab at risk of suspension from the Medicare program.

  We reported on the beginning of the end of the multi-billion dollar dream here, when its core "new technology" – known as a Capillary Tube Nanocontainer (CTN) – was exposed as essentially unacceptable for use.

  And now, as The Wall Street Journal reports, U.S. health inspectors have found serious deficiencies at Theranos Inc.’s laboratory in Northern California, according to people familiar with the matter.

  The problems were found during an inspection by the Centers for Medicare and Medicaid Services, the chief federal regulator of clinical labs, at the blood-testing company’s facility in Newark, Calif. Failing to fix the problems could put the Theranos lab at risk of suspension from the Medicare program.

   

  The inspection results are expected to be publicly released soon, these people said. A spokesman for the agency said it “can’t confirm any survey conclusions or results at this time.”

   

  Theranos spokeswoman Brooke Buchanan said the company “does not have the report from last year’s regularly scheduled CMS audit of its California lab.”

   

  The problems observed by regulators were far more severe than those cited by CMS following its last inspection of the same lab in December 2013, according to the people familiar with the matter. The previous inspection cited infractions that Theranos said it promptly resolved.

  This deficiency comes just days before a CMS inspection report critical to Theranos future relationship with its main retail partner Walgreens Boots Alliance,

  The drugstore operator has 41 blood-drawing “wellness centers” in stores in Arizona and California, which are Theranos’s primary access to consumers. Walgreens had aimed to expand the sites nationwide but has suspended those plans until Theranos answers questions about its technology, said the people familiar with the matter.

   

  In recent weeks, Walgreens has debated whether to close the wellness centers, and the results of the latest inspection by CMS could lead the retailer to take an even harder look at what remains of its partnership with Theranos, these people said.

   

  Since October, Walgreens representatives have met a number of times with Theranos Chief Executive Elizabeth Holmes and her executive team but were dissatisfied with their responses, the people added.

   

  An earlier review of the contract led Walgreens officials to conclude that it would be difficult to exit the agreement, but the inspection findings could alter that conclusion, according to people familiar with the matter.

  Finally, as Aswath Damodaran chastened just a few months ago, looking back at the build up and the let down on the Theranos story, the recurring question that comes up is how the smart people that funded, promoted and wrote about this company never stopped and looked beyond the claim of “30 tests from one drop of blood” that seemed to be the mantra for the company. While we may never know the answer to the question, Aswath Damodaran offers three possible reasons that should operate as red flags on future young company narratives…

  1. The Runaway Story: If Aaron Sorkin were writing a movie about a young start up, it would be almost impossible for him to come up with one as gripping as the Theranos story: a nineteen-year old woman (that already makes it different from the typical start up founder), drops out of Stanford (the new Harvard) and disrupts a business that makes us go through a health ritual that we all dislike. Who amongst us has not sat for hours at a lab for a blood test, subjected ourselves to multiple syringe shots as the technician draw large vials of blood, waited for days to get the test back and then blanched at the bill for $1,500 for the tests? To add to its allure, the story had a missionary component to it, of a product that would change health care around the world by bringing cheap and speedy blood testing to the vast multitudes that cannot afford the status quo.

   

  The mix of exuberance, passion and missionary zeal that animated the company comes through in this interview that Ms. Holmes gave Wired magazine before the dam broke a few weeks ago. As you read the interview, you can perhaps see why there was so little questioning and skepticism along the way. With a story this good and a heroine this likeable, would you want to be the Grinch raising mundane questions about whether the product actually works?

   

  2. The Black Turtleneck: I must confess that the one aspect of this story that has always bothered me (and I am probably being petty) is the black turtleneck that has become Ms. Holmes’s uniform. She has boasted of having dozens of black turtlenecks in her closet and while there is mention that her original model for the outfit was Sharon Stone, and that Ms. Holmes does this because it saves her time, she has never tamped down the predictable comparisons that people made to Steve Jobs.

   

  

   

  If a central ingredient of a credible narrative is authenticity, and I think it is, trying to dress like someone else (Steve Jobs, Warren Buffett or the Dalai Lama) undercuts that quality.

   

  3. Governance matters (even at private businesses): I have always been surprised by the absence of attention paid to corporate governance at young, start ups and private businesses, but I have attributed that to two factors. One is that these businesses are often run by their founders, who have their wealth (both financial and human capital) vested in these businesses, and are therefore as less likely to act like “managers” do in publicly traded companies where there is separation of ownership and management. The other is that the venture capitalists who invest in these firms often have a much more direct role to play in how they are run, and thus should be able to protect themselves. Theranos illustrates the limitations of these built in governance mechanisms, with a board of directors in August 2015 had twelve members:

   

   

  

   

  I apologize if I am hurting anyone’s feelings, but my first reaction as I was reading through the list was “Really? He is still alive?”, followed by the suspicion that Theranos was in the process of developing a biological weapon of some sort. This is a board that may have made sense (twenty years ago) for a defense contractor, but not for a company whose primary task is working through the FDA approval process and getting customers in the health care business. (Theranos does some work for the US Military, though like almost everything else about the company, the work is so secret that no one seems to know what it involves.)

   

  The only two outside members that may have had the remotest link to the health care business were Bill Frist, a doctor and lead stockholder in Hospital Corporation of America, and William Foege, worthy for honor because of his role in eradicating small pox. My cynical reaction is that if you were Ms. Holmes and wanted to create a board of directors that had little idea what you were doing as a business and had no interest in asking, you could not have done much better than this group of septuagenarians. 

  

  

  

  

• "Gangs" Of "All-Male" Moroccan Migrant Children “Take Over” Stockholm Train Station; Steal, Grope, Beat Women

  On Sunday, we learned that despite the best efforts of German cartoonists, some refugees are still having a hard time understanding how to behave at public pools.

  European authorities, increasingly desperate to salvage the “yes we can” refugee narrative in the face of mounting evidence that it may be well nigh impossible to integrate two vastly divergent cultures, have scrambled to put together integration guides and design brochures and pamphlets aimed at “explaining” Western European societal norms to the millions of asylum seekers that now call the bloc home.

  Most of the integration guides make some reference to the fact that in polite culture, it’s not appropriate to grope women even if they appear, by Mid-East standards anyway, to be scantily clad. On New Year’s Eve, women reported being sexual assaulted by dozens of “Arab” men in Germany, Finland, and Austria among other countries and since then, officials have focused increasingly on what certainly appears to be a kind of “groping” epidemic perpetrated by asylum seekers.

  But it’s not just the “groping.” If Bild is to be believed, some refugees recently engaged in what one might call some “shenanigans” at the Johannisbad baths in Zwickau. Here are the rather disconcerting details from a clumsy (yet exceedingly amusing) Google translation of the original German:

  “According bathrooms GmbH have masturbated refugees when visiting swimming baths in pools and emptied their bowels in the water. They are women in sauna harassed and have tried to storm the ladies’ locker!”

  Needless to say, that won’t do anything to calm Europeans’ frayed nerves.

  Far-right Dutch politician Geert Wilders even went so far as to suggest that the “Islamic testosterone bombs” be “locked up” in asylum centers for the sake of “the women.”

  On Monday, we get the latest bit of migrant news out of Europe, this time from Sweden where “gangs” of Moroccan migrant children have apparently “taken over” the Stockholm train station where, to let The Daily Mail tell it, they are “stealing, groping” and beating women. Here’s the story:

  Swedish police warns that Stockholm’s main train station has become unsafe after being ‘taken over’ by dozens of Moroccan street children. 

  The all-male migrant teen gangs are spreading terror in the centre of the Swedish capital, stealing, groping girls and assaulting security guards, according to Stockholm police.

   

  Members of the gangs, some as young as nine, roam central Stockholm day and night, refusing help provided by the Swedish authorities. 

   

  
  

   

  Sweden has seen a dramatic increase in the number of Moroccan under-18s who apply for asylum without a parent or guardian in the past four years, with many later running away from the housing provided to live on the streets in the capital. 

   

  Stockholm police estimate that at least 200 Moroccan street children move in the area around the main train station in the centre of the capital, sleeping rough, and living off criminal activity.

   

  ‘These guys are a huge problem for us. They steal stuff everywhere and assault security guards at the central station,’ one police officer told SVT.

   

  ‘They grope girls between their legs, and slap them in the face when they protest. All police officers are aware of this. 

  So apparently, dozens of nine-year-olds and preteenagers have effectively taken control of a major transportation hub and transformed it into their own personal crime den where security guards are assaulted on site, women are “groped”, and girls are “slapped in the face” for trying to protect themselves. 

  

  “The gangs are made up of orphans who have grown up on the streets of Casablanca and Tanger in Morocco, where authorities estimate there are around 800,000 homeless ‘street children,” the Mail continues, adding that “Swedish migration authorities first reported and increase in Moroccan unaccompanied minors applying for asylum in 2012, when 145 arrived, a number which more than doubled in 2013.”

  Some 500 Moroccan children applied for asylum but around a fifth of those who were placed with foster families or put in group homes ran away and “disappeared off the radar.” 

  It would appear that these missing children are now dug in at the train station where they have brought authorities “to their knees.” 

  So far, police have attempted to solve the problem by arresting the children for “public drunkenness” in order to “get them off the streets for a while.” Clearly, that isn’t a viable long-term strategy and so, Interior Minister Anders Ygeman now says Sweden is set to round them all up Trump style and ship them back to Morocco, or as Ygeman puts it, “we are in agreement that this is a joint problem for us to solve, and that we both need to find ways of identifying these people and achieve repatriation.”

  Of course there’s another solution. Sweden could just post the following cartoons at the train station:

  

  

  

  

  

  

  

• Gundlach Slams Yellen: "The Market Will Humiliate You"

  In just 44 somewhat anger-and-frustration-filled seconds, DoubleLine’s bond guru Jeffrey Gundlach unleashes some very uncomfortable truths on Janet Yellen and the “idiots” at The Fed… “they have got to dial this [hawkish] rhetoric back or the markets are going to humiliate them.”

   

   

  Gundlach slams the #Fed – here’s are his shocking comments
  https://t.co/epPyuSdKp5

  — CNBC’s Fast Money (@CNBCFastMoney) January 25, 2016

   

   

  Some would argue that has already begun…

  

  

  

  

  

  

  

• The Marketing Of The American President

  Authored by Nina Khrushcheva, originally posted at Project Syndicate,

  When it comes to political entertainment, it doesn’t get much better than presidential election season in the United States. Foreign observers follow the race to determine who is best equipped to lead the US – and, to some extent, the world – toward a more stable, secure, and prosperous future. But in America, entertainment is king, and Americans tend to focus on excitement above all – who looks better, has a catchier sound bite, seems most “authentic,” and so on, often to the point of absurdity.

  This is not a new approach, of course. Edward Bernays, the father of modern public relations, examined it in 1928, in his book Propaganda. “Politics was the first big business in America,” he declared, and political campaigns are “all side shows, all honors, all bombast, glitter, and speeches.” The key to victory is the manipulation of public opinion, and that is achieved most effectively by appealing to the “mental clichés and emotional habits of the public.”

  A president, in other words, is nothing more than a product to be marketed. And, as any marketer knows, the quality of the product is not necessarily what drives its success; if it were, Donald Trump would not be regarded as a serious candidate for the Republican Party nomination, much less a top contender. Instead, a president must serve as a kind of imaginary friend: a beer buddy for men, an earnest empathizer for women, or a charming Twitter user for the millennials.

  In the current campaign, the most complex candidate, Hillary Clinton, is suffering mightily as a result of – let’s be honest – personality issues. She has made important policy contributions as US Secretary of State in the first Obama administration, and she has offered what is arguably the most complete economic vision of any presidential candidate. Yet she is facing a serious challenge from Bernie Sanders, a self-described socialist senator from Vermont, in the race for the Democratic nomination.

  Sanders’s popularity stems partly from the image he projects of a stereotypical “nutty professor,” adorably of another world. His energetic and unselfconscious gesticulations make him seem passionate and genuine. Yet his actual policy suggestions – such as free post-secondary education and universal health care – resemble Trump’s calls to “make America great again,” in the sense that they establish simple yet visionary goals.

  According to Bernays, people’s desire for simplicity extends to another area of electoral politics: “party machines should narrow down the field of choice to two candidates, or at most three or four.” Here, the Republicans have gone badly astray. After beginning the election season with 17 candidates, they have managed to narrow it down by only a few, to 12.

  Jeb Bush, former Florida governor and younger brother of George W. Bush, was initially considered a serious contender. But Trump is right, for once, in his observation that Bush is a “low-energy” person. He is the Charlie Brown of the election, whose every swipe at the football is thwarted by his savvier counterparts.

  Another Floridian, Senator Marco Rubio, is a more energetic establishment alternative. But his campaign, like his appearance, lacks definition and assertiveness – not to mention a good sound bite.

  A lack of sound bites is not a problem for New Jersey Governor Chris Christie, whose Tony Soprano vibe and brash one-liners have plenty of entertainment value. Indeed, in a typical US presidential election campaign, Christie might be a contender for the most cartoonish candidate. But this is not a typical campaign, because there’s nothing typical about Trump.

  With his exaggerated facial expressions, penchant for trash talking, and love of superlatives, Trump – a showman and a businessman – seems to have the right background for Bernays-style public manipulation. But he has the wrong background for a president. (It is worth asking whether he really even wants to be President. He must know that, like the Wizard of Oz, he can portray himself as great and powerful only until he needs to perform actual miracles.)

  Among these one-dimensional figures, one fully formed candidate stands out: the Texan Ted Cruz. Once a national debating champion, Cruz is fully in control of his persona; not even Trump, with his frantic attacks on Cruz’s eligibility (because he was born in Canada), can get under his skin.

  In fact, it is Cruz who has made Trump squirm. In last week’s Republican debate, Cruz accused Trump of having “New York values,” calling the city (explicitly excluding New York State) “socially liberal” and focused on “money and media.” Cruz managed not only to get a rise out of Trump, but also to enhance his own appeal to conservative voters in the Midwest and South, who view the city as a kind of modern-day Sodom and Gomorrah. (New Yorkers and many others were also offended by Cruz’s statement, not because the city isn’t socially liberal and the home base of America’s media and financial industries, but because the pejorative use of “New York” has historically been an anti-Semitic dog whistle.)

  Appropriately plastic-looking, Cruz can, when necessary, act as brainless as Sarah Palin (who has just endorsed Trump). But Cruz, educated at Princeton and Harvard, is no fool. He is, as Bernays taught, treating his campaign as a “drive for votes, just as an Ivory Soap advertising campaign is a drive for sales.”

  Trump is a showman who has captured the public’s attention. But Cruz is a propagandist, selling to his constituents an ostensibly credible story of actual leadership. Though he, like Clinton, is not the most broadly likable character, he would be a worthy contender in a presidential election. The question is whether Americans will want to buy what they are selling.

  It seems for now… they are not…

  

  

  

  

  

  

• 20 Dead, 200 Hospitalized After Reports US Lab "Leaks" Deadly Virus In Ukraine

  Amid the so-called "ceasefire" in Ukraine, yet ongoing shelling in many regions, the Donbass news agency reports that more than 20 Ukrainian solders have died and over 200 soldiers are hospitalized after an apparent leak of a deadly virus called "California Flu" from a US lab near the city of Kharkov.

  As Donbass News International reports,

  More than 20 Ukrainian soldiers have died and over 200 soldiers are hospitalized in a short period of time because of new and deadly virus, which is immune to all medicines. Donetsk People's Republic intelligence has reported that Californian Flu is leaked from the same place where research of this virus has been carried out.

   

  The laboratory is located near the city of Kharkov and its base for US military experts.

   

  Information from threatening epidemic is announced by Vice-Commander of Donetsk Army, Eduard Basurin.

   

  Leak of deadly virus in Ukrainian side was published first time on 12.1.2016:

  "According to the medical personnel of the AFU units (Ukrainian troops) there were recorded mass diseases among the Ukrainian military personnel in the field. Physicians recorded the unknown virus as a result of which the infected get the high fever which cannot be subdues by any medicines, and in two days there comes the fatal outcome. Thus far from the virus there have died more than twenty servicemen, what is carefully shielded by the commandment of the AFU from the publicity", said Basurin in daily MoD situation report.

  Outbreak of deadly virus continues and Friday 22.1.2016 Vice-Commander told new information from epidemic:

  "We keep registering new facts of growing the epidemics of acute respiratory infections among the Ukrainian military.

   

  Just since the beginning of this week more than 200 Ukrainian military have been taken to civil and military hospitals of Kharkov and Dnepropetrovsk. It is important to repeat that the DPR intelligence previously reported the research being carried out in a private laboratory in the locality Shelkostantsiya, 30 km away from the city of Kharkov, and involving US military experts. According to our information, it is there where the deadly Californian flu strain leaked from," Basurin said.

  It appears it is not just military that is affected, as Radio Free Europe reports a flu epidemic is sweeping through the eastern Ukrainian city of Kramatorsk — and the conflict smoldering nearby is making the situation even worse. Doctors are unable to identify the exact strain of the virus, because the laboratory they need is across the front lines in separatist-controlled Donetsk

   

  

  

  

  

  

• "If All The Markets Crashed Tomorrow" – Here Are The Cheapest Hedges For A Systemic Collapse

  We have to thank Benjamin Bowler: one month ago Bank of America’s “equity-linked analyst” (aka derivatives guy) was the first honest sellside banker to demonstrate, vividly and in no uncertain terms and with lovely charts to boot, how the Fed’s “massive manipulation” broke the market. We urge anyone who missed it the first time, to reread his piece from late December (it can be found here) because it summarizes in a few paragraphs about 7 years worth of posts from this website.

  Earlier today, BofA’s Bowler struck again, thinking out loud what could – and would – happen, if the “central bank puts failed” and many, if not all, asset classes proceeded to disintegrate.

  As he put it, “since 2014, risk-off episodes have been typically characterized by short-lived bouts of volatility which mostly remained localized to a particular asset class or region as central banks have been aggressive in their actions to calm markets. In our 2016 Year Ahead we anticipated such instances would become more frequent, with an increased likelihood of global contagion as the Fed embarked on a rate hike cycle, reducing their willingness to intervene at the first sign of stress. Indeed, volatility across asset classes has steadily risen over the last few months with global equity vol and US IG credit spreads having breached their 8yr+ median levels. It remains to be seen whether Draghi’s comments on 21-Jan and further global policy initiatives will suffice to curtail further contagion in the mid to long term.

  More importantly, being a derivatives expert, Bowler was king enough to lay out a matrix showing the cheapest ways to cross specific or broad asset “crash” risk, ranking the hedge options by underlying asset and by “richness” of the hedge. As we admitted, while hedge costs have risen across the board to levels last seen during the May-12 sell-off, “FX options continue to offer best value with SEKUSD and EURUSD puts ranking as the top hedges in our screen.”

  He also calculated that within equities, NIFTY puts continue to stand out, while KOSPI puts also offer good value, on relative basis. RTY (Small/mid-cap US equities) puts are the most attractive DM equity hedge at current pricing, while S&P500 and NDX puts are among the most overpriced hedges across all markets.

  The summary chart of the various cheap-to-rich puts is shown below (the methodology of how to read this chart is presented at the bottom of the post).

  

  As he explains, Chart 1 shows crash returns of different assets during historical tail events per unit of current OTM option implied volatility.

  We measure tail events by the 10 largest 3M drops since Jan-06 (see Finding cheap hedges: the framework for how we algorithmically identify these events at the end of this post). Ranked by the average, the analysis shows that SEKUSD, EURUSD and NIFTY puts offer most value across asset classes, given the distribution of historical shocks in respective markets.

  • SEKUSD puts screen as best value across asset classes as SEKUSD volatility has proven resilient to the recent rise in cross asset vol. It is worth noting that BofAML FX strategists recommend short EURSEK to position for a strengthening Swedish economy. Investors positioned this way may find SEKUSD puts attractive as a hedge.
  • More generally, FX hedges (EURUSD, AUDUSD & GBPUSD puts in particular) rank as most underpriced versus their historical drawdowns in our screen, with DM equities and Oil puts most expensive.
  • However, even the best value hedge is currently offering less protection per unit price than any best value hedge since Jun-12 – i.e., the top-most blue marker (avg crash return / put vol for SEKUSD) is the furthest to the left it has been in 3yrs+.
  • NIFTY puts offer the best value within equities and 3rd best in our universe.
  • TLT calls continue to rank as good value despite the >4% TLT rally YTD.

  But what if one wanted to hedge against specific risk factors, whether the S&P 500, or Stoxx 50, or Emerging Markets, or China, or Commodities, or Junk bonds, or any other major underlying asset class?

  Well you are in lunk: Chart 2 through Chart 9 show ratios of historical crash betas (versus a benchmark) to relative hedge costs (see Benchmark proxy hedging in Finding cheap hedges: the framework for a detailed explanation of the methodology). Whenever a proxy asset does not decline for a given sell-off in the benchmark, this hedge benefit is registered as 0, highlighting the basis risk of proxy hedging.

  As Bowler summarizes, for good proxy hedges, look out for:

  1. Average hedge benefit per unit cost > 1 (better value than the benchmark hedge)
  2. Closely distributed hedge benefits in past sell-offs (consistency of proxy hedge)
  3. Min hedge benefit > 0 (low basis risk to benchmark)

  So, without further ado, here are the cheapest and most efficient ways to profit from a crash by…

  Hedging US equities (S&P500)

  Proxy hedging the S&P500 with Russell (small/mid cap US equities) puts continues to screen attractive. In fact – at current pricing – RTY puts would have offered 45% better value than S&P500 puts during the latest sell-off (labelled ‘7’ in the chart below). Moreover, RTY puts would have delivered similar or superior protection to S&P puts in 8 of the top 10 S&P drawdowns since ’06.

  One thing to note: Proxy hedging S&P500 with RTY puts screens attractive, with the number of RTY puts which can be bought for the price of an S&P500 put at its 95th 7yr+ percentile. RTY puts would have delivered 1.5x the hedge benefit of S&P500 puts during the Jan-16 sell-off, at current pricing.

  

   

  Hedging US small/mid-cap equities (RTY)

  In the Cross-asset tail hedging section RTY puts rank as the most attractive tail hedge across DM equities. Consequently, RTY puts offer better value protection than any proxy hedge candidate.

  

   

  Hedging European equities (Euro STOXX 50)

  NIFTY puts screen top among proxy hedges for ESTX50 exposure, offering 8% better value than ESTX50 puts on average (at current pricing). However, this isn’t sufficient to justify the basis risk, in our view.

  

   

  Hedging Emerging market exposure (EEM)

  Puts on DJUBS (broad commodity index) would have generated superior protection to EEM exposure in most recent large sell-offs vs. the benchmark puts. In particular, DJUBS puts would have offered 66% better value than EEM puts during the Jan-16 sell-off (labelled by ‘6’ in the chart below), owing to declines on relatively low volatility, that most commodities ex-Oil have have exhibited in recent months.

  

   

  Hedging commodity exposure (DJUBS)

  Proxy hedging the DJUBS commodities index with most assets in our screen brings with it prohibitively high basis risk to be attractive, according to our analysis.

  

   

  Hedging HY Credit

  Proxy hedging HY Credit exposure with most assets is not attractive given the high levels of basis risk.

  

   

  Hedging the EURO (EURUSD)

  With EURUSD puts screening as the second best value hedge across all assets in our benchmark-agnostic screen (see Cross-asset tail hedging section), it is unsurprising that proxy hedging EUR weakness does not currently screen attractive.

  

   

   

  Hedging Chinese equities (HSCEI)

  While HSCEI volatility has continued to grind higher, volatility on most other equities also increased over the past two months. Basis risk and higher prices of proxy hedges have reduced their efficacy in protecting against HSCEI declines, leaving proxy-hedging
  unattractive.

  

   

  * * *

  Here is BofA’s primer on how to read the above charts:

  Finding cheap hedges: the framework: Method I: Cross asset tail hedging

  Our cross asset tail hedging screen compares current put option costs to the magnitude of historical tail events in order to determine which options are most underpricing tail risk.

  Interpreting the cross asset TH screen:

  • Readings further to the right represent assets that are most underpricing historical tail events today
  • An asset with a benefit-to-cost ratio of 2 indicates its options are half the price of an asset with a ratio of 1, assuming their historical tail returns were similar
  • Looking across asset classes we perform a cost-benefit analysis comparing the cost of buying out-of-the-money put options to the magnitude of historical tail events, without consideration of hedging benchmarks. Assuming historical tail events represent the potential magnitude of future sell-offs, we look for options that are most underpricing downside risk.
  • Tail hedge benefit: is measured by the magnitude of the 10 largest drawdowns occurring over non-overlapping 3-month periods since Jan-06 (Chart 17).
  • Hedging cost: is measured by the current implied vol of 25 delta put options (*see footnote of Chart 18). We use out-of-the-money options as we are comparing their pricing of large downside risks. Equal delta options allow for easy comparison across assets.
  • High benefit / low cost: The best value hedge is cheap to enter relative to its expected payoff in a tail event. The x-axis in the right-hand chart below maps out this ratio for past events and includes the average payout relative to today’s put costs. Assets with points far to the right are most underpricing historical downside risks and hence represent best value.

  

  Method II: Benchmark proxy hedging

  Interpreting the BPH screen:

  • A reading > 1 indicates better value in the proxy put option vs. the benchmark
  • Small variations along the x-axis mean the proxy has good tracking to the benchmark during large sell-offs
  • All readings > 1 indicates the proxy has consistently been a better hedge at current pricing

  For investors looking to hedge risk in a specific underlying benchmark, including equity, credit, commodity or currency, it is not only important to consider the cheapest options across asset classes, but also how the proxy asset correlates with the benchmark during times of stress. In severe risk-off events, asset correlations tend to 1 and proxy hedging can become attractive. Proxy hedging does not often work for small declines in benchmark assets due to the basis risk between asset classes.

  • Here, we identify options on proxy assets that our analysis shows can help hedge against declines in various benchmark assets, bearing in mind the trade-off between cost savings and tracking risk of the proxy asset.
  • Proxy hedge benefit: We calculate how much proxy assets have fallen during the largest sell-offs in a benchmark asset (eg. S&P500, US HY Credit). “Crash betas” are computed based on the decline in the proxy and benchmark assets, respectively since Jan-05. For example, Chart 19 illustrates how the AUDUSD moved during the S&P500 sell-off in Feb-10.
  • Relative hedge cost: The current ratio of 3M 25% delta put option implied volatility for the proxy vs. the benchmark.
  • High benefit / low cost: Chart 20 summarizes how much the proxy asset declined during benchmark sell-offs relative to current option costs. A reading above 1 is desirable and means that proxy hedging would offer better value than put options on the benchmark, assuming relative asset performance is similar to the past during severe tail events.

  

  * * *

  And while the above information is great, and quite valuable, it does beg a simple question: if indeed everything were to crash tomorrow (or the day after) in a systemic collapse that drags down the entire asset universe, then while any of the above listed puts will clearly soar in value, just who will be there on the other side, either to sell them to or at exercise time? After all, the crashes envisioned above guarantee that no banks and counterparties would be left standing.

  Which begs the question: is, paradoxically, the best crash hedge not buying but selling puts and collecting the premium now before it all goes to hell? After all if everything collapses, who will be there to enforce contracts and demand that you repay your counterparty, especially if the Fed – unlike in 2008 – does not come to bail you and everyone else out?

  Finally, if and when contracts are no longer observed, the only “hedges” left, whether cheap or not, will not be of the paper variety but only the physical type.

  

  

  

  

• Chinese Rush To Buy Foreign Assets As Mammoth $1 Trillion In Capital Flees Country

  “The immediate trigger for a pickup in capital outflows toward the end of the year was the People’s Bank of China’s poor communication over its shift in currency policy,” Mark Williams, chief Asia economist for Capital Economics told Bloomberg on Sunday, describing the panicked reaction to Beijing’s adoption of a trade-weighted currency index.

  Over $1 trillion in capital flowed out of China in 2015 as the PBoC’s bungled move to devalue the yuan caused investors to question whether a much larger depreciation is in the cards.

  According to Bloomberg’s estimates, $158.7 billion left the country last month, the second highest monthly total of 2015 after September’s $194.3 billion hemorrhage.

  Things had calmed down going into December and probably would have stayed calm at least in the interim had the PBoC not introduced a new trade-weighted index for the yuan which pretty clearly indicated that China still thinks its currency is overvalued.

  Indeed, assuming the dollar continues to appreciate versus global currencies, the yuan will need to fall significantly in order to keep the trade-weighted RMB stable.

  

  In short, China is no longer willing to take it on the chin in the global currency wars. The days of Beijing sitting idly by and watching as the dollar peg kills the country’s export competitiveness are over.

  As 2015 turned to 2016 we got still more volatility and indeed, fresh devaluation fears contributed mightily to the market turmoil we witnessed in January.

  “China’s yuan policy has a communication issue” the IMF’s Christine Lagarde said last week.

  Indeed, but one thing that has been clearly communicated to Chinese citizens is that they need to get their money out of China – and fast. Technically, Chinese are limited to $50,000 in terms of how much they can move out of the country in a given year, but as we’ve documented extensively, there are any number of ways to skirt the restrictions.

  “Thanks to incremental reforms to China’s capital account enacted while the yuan was still strong, it is easier than ever for Chinese companies and individuals to get money out legally,” Reuters writes, adding that Chinese “can buy property, or invest in offshore stocks, bonds or managed hedge funds; they can purchase offshore life insurance that can be used as collateral for further loans, or even buy a foreign company outright.”

  And those are just the legal outlets. Chinese can also use the UnionPay end-around (although Xi has cracked down on that) or simply visit “Mr. Chen” at his “tea” kiosks. Here’s more from Reuters on Beijing’s “more holes than fingers” problem:

  As a slick slide presentation runs for the well-heeled investors jammed into the banqueting hall of Shanghai’s Renaissance Yangtze Hotel, an image flashes up of a grinning Chinese man pushing a wheelbarrow full of cash into Europe.

   

  Another slide features a car bearing a Chinese flag preparing to drive into a pit. For wealthy Chinese, desperate to avoid further falls in a currency that has shed 6 percent against the dollar since August, the message is clear.

   

  “The yuan will keep depreciating as time goes by, so we should swap the money we have in hand into tangible assets,” Li Xiaodong, chairman of Canaan Capital, tells his audience, while exhorting them to pull their money out of China while the going is still good and pour it into property in Spain and Portugal.

   

  Canaan Capital is one of a swarm of asset management firms leaping to profit from Beijing’s latest policy headache: the swelling crowd of Chinese individuals and firms trying to get their money out of the world’s second biggest economy as its growth slows to a quarter-century low.

   

  One Shanghai-based investment company, Zengda, plans to guide Chinese money into mines, land and gas projects in Africa.

   

  Others use trade and even tourism transactions to get money out of the country – contributing to the $200-$500 billion Chinese tourists are estimated to spend abroad annually.

   

  The trend has grown so rapidly that some international banks are bolstering their wealth management divisions, encouraged by data showing money pouring out of China.

   

  China’s central bank and commercial banks sold a net 629 billion yuan ($95.61 billion) worth of foreign exchange in December, nearly triple the figure for the previous month.

  Estimating capital flight out of China isn’t an exact science and different analysts look at different proxies to determine just how leaky the ship is, so to speak. “In the wake of the small devaluation of the renminbi in August 2015, and more recently the weaker fixes in the first week of the new year, we have received a large volume of questions about capital outflows from China – how big they are, what the main sources of outflows, and how long they can continue,” Goldman says, in a note out Monday.

  In an effort to shed some light on where to look for accurate data on capital flight, Goldman breaks down the relevant data points on the way to determining that from August to December, $449 billion in capital left the country.

  *  *  * 

  From Goldman

  Each month, official sources publish three different data sets that are relevant to the FX flow situation. These are not comprehensive either individually or collectively, but together shed a fair amount of light on the likely degree of FX outflow.

  PBOC FX reserves (Exhibit 3). This dataset captures the FX assets held by the PBOC. It is reported based on market prices and therefore subject to valuation effects (both with respect to exchange rate and asset price movements). It does not include forwards but captures PBOC’s FX-RMB (cash) settlements with other parties; these settlements may include drawdown/repayment of PBOC’s FX entrusted loans to other entities (e.g., policy banks). It is released the earliest of the three indicators, usually on the 7^th of the month.

  

  Position for FX purchase of the whole banking system (PBOC plus banks). This dataset captures the amount of RMB supplied for FX purchase by the entire banking system (i.e., both the central bank and commercial banks), free of valuation effects. It is based on cash settlements and therefore does not include any changes in forwards. Transactions between the onshore banking system (PBOC plus onshore banks) and other parties with access to the onshore FX market would be covered in this dataset. This data is usually out around the middle of the month, after FX reserves data. Note that given possible PBOC balance sheet management (e.g., short-term transactions and agreements with banks, e.g., forward transactions), neither PBOC’s reserve data nor its position for FX purchase necessarily forms a complete picture of the FX situation.

  SAFE data on banks’ FX settlement . This dataset captures banks’ FX transactions with onshore non-banks, both in the spot market and via forwards. It is transaction-based and therefore free of valuation effects. While the headline series is cash-based, which includes outright spot transactions in the reporting period and settlement of previously entered forwards, we can adjust the forward component by subtracting the settlement of forwards and adding back freshly entered forwards. After this adjustment, the SAFE data capture the underlying currency demand both in spot and forward by corporates and households—it is therefore our preferred gauge of onshore FX flows. The SAFE data is usually released in the third week of the month, after FX reserves and FX purchase data.

  Based on the different characteristics of the various data sets as summarized in Exhibit 4, we can roughly deduce the underlying FX flow situation as follows.

  

  Our preferred gauge of onshore FX flow—again, based on SAFE data but adjusted for settled/freshly-entered forward contracts–suggests a net flow of about -$449bn during August-December (and -$620bn for the full year). Note that this gauge refers only to onshore FX flow, not including any FX intervention in the offshore CNH market—hence it is likely an underestimate of the overall (onshore and offshore) outflow situation.

  From an accounting perspective, though, it would be the unadjusted SAFE settlement data (including settlement of previously entered forwards between banks and non-banks, but excluding freshly- entered ones) that are more comparable with other related FX data sets (which are also cash-based). Exhibit 5 shows the changes in the various FX data sets from August through December 2015.

  

  A main difference between SAFE settlement and banks’ position for FX purchase is that the latter captures onshore banks’ FX transactions with other institutions that also have access to onshore interbank FX market (e.g., offshore banks, some other non-bank financial institutions). Data from these two data sets were fairly close in August-December, except for October, where the SAFE FX settlement suggested continued FX outflow while the position for FX purchases pointed to FX inflow. The discrepancy, along with the meaningful increase in non-bank financial institutions’ RMB deposits during the month, suggests the possibility that some non-bank financial institutions sold a significant amount of FX for RMB in the interbank market in October.

  One area where none of the official data can give much guidance on is the possible scale of CNH intervention through forwards Judging from observed market behavior, there has likely been significant volume of CNH forward intervention. To the extent this has been the case, the outstanding amount of the forward positions would be additive to the amount of outflows we calculated above and could be an additional drag on PBOC reserves going forward.

  *  *  *

  In other words, when you see the spread between the onshore and offshore spot suddenly compress after blowing out dramatically, China has just spent more money to combat capital flight and as regular readers might have noticed, CNH interevention isn’t exactly uncommon.

  And so, as money flees the country for the “safety” of Spanish real estate and African mines, watch the FX reserve headline figure and recall what Bank of Singapore chief economist Richard Jerram said earlier this month: “The burn rate has been worrying. It’s not about how long it gets to zero, its about how long it gets to about 2, which is what they need.”

  

  

  

  

  

• The Fed Passes The Buck: Blame Oil And China

  Submitted by C. Jay Engel via The Mises Institute,

  There are a handful of themes out there on recent market action that are either totally wrong or otherwise highly misleading. For instance, regarding the recent calamity in the capital markets, one especially apparent dichotomy has presented itself as offering two choices as to what, exactly, is causing the painful turbulence.

  There are some who, in a complete echo of the news headlines, are quick to point the finger at both oil and China. And yet there are others who point the finger at the Fed for “raising rates too early.” Along with the second is the observation that “inflation is totally MIA” and therefore it was ludicrous that the Fed felt the need to “raise interest rates.” Both of these tend to express anguish over the “strong dollar.”

  Both of these miss the entire point, and the cause of the current trouble. For one thing, it is ridiculous to blame oil for the falling markets when the falling oil is the very thing that needs to be explained. It is wholly unsatisfactory to explain something by describing it. It works well for headlines, and for shifting the blame away from where it really belongs, but one must learn to look deeper. One cannot expect to impress anyone by explaining that the plane is crashing to the ground because it is no longer flying. What is the cause of oil’s magnificent plummet toward the bottom? That is the true question.

  Moreover, the problem with the “China thesis” is that it doesn’t explain anything either. It merely observes a correlation in the markets and therefore makes it highly convenient to put the blame on “the other guys.” Let me not be misunderstood here: the Chinese and US economies are certainly influenced by each other, especially in our age of fluctuating fiat currencies. But ultimately, both China and the US — indeed the entire world — are being dragged down by past actions of their respective central banks and more specifically the illusion of prosperity via monetary and credit expansion.

  Which leads to the second theme: putting the blame on the Fed for “raising rates” too early. That is, there are a good many who argue that if the Fed had never announced in December that it was going to seek minuscule increases in the Federal Funds rate, none of the recent market drops would have happened. They will say things like “inflation was never a threat, so the Fed was irresponsible to raise rates.”

  Money-Supply Inflation vs. Price “Inflation”

  This is confused. First, it must be constantly emphasized that the meaning of inflation, contrary to the mainstream’s application of it, is more appropriately defined an increase in the money supply, not “rising prices.” The reason why the Fed and proponents of central banking prefer the “rising prices” definition is because it obscures the chief source of our present economic condition. It rips the blame away from the Fed and toward all kinds of other “market forces” and therefore encourages the central bank to swoop in to the rescue rather than be the object of severe suspicion. Indeed, as Mises observed (page 420 of Human Action):

  What many people today call inflation or deflation is no longer the great increase or decrease in the supply of money, but its inexorable consequences, the general tendency toward a rise or a fall in commodity prices and wage rates. This innovation is by no means harmless. It plays an important role in fomenting the popular tendencies toward inflationism.

   

  First of all there is no longer any term available to signify what inflation used to signify. It is impossible to fight a policy which you cannot name…

   

  The second mischief is that those engaged in futile and hopeless attempts to fight the inevitable consequences of inflation — the rise in prices — are disguising their endeavors as a fight against inflation. While merely fighting symptoms, they pretend to fight the root causes of the evil. Because they do not comprehend the causal relation between the increase in the quantity of money on the one hand and the rise in prices on the other, they practicalIy make things worse.

  Rising prices can be a result of inflation, but it is not itself inflation. So then, inflation was actually very high in the last decade due to the Fed’s QE and other monetary policy schemes. Second, it should never be ignored that “rising prices” can easily be found in the capital markets themselves. It doesn’t take an investment guru to observe the staggering levels to which the various market indexes have reached. Digging only a little bit farther into the surface reveals the absurd prices for the so-called highest valued stock such as Facebook, Amazon, Apple, and so on.

  Where All That Money Went

  More importantly, however, is the fact that much of the newly created money has not even come close to creating “widespread [consumer price] inflation” due to the actual structure of the current, post-crises banking regime. In fact, Jeffrey Snider, among others, have argued that it is literally impossible for “price inflation” to take place as a direct result of QE due to the way that money currently enters the system as reserves. “Price inflation” would need to come from the actions of individual banks themselves who are at present cautious about their consumer lending practices. Therefore the Fed is not creating “price inflation,” but something far worse: capital misallocation.

  The point here is simply that those who want the interest rates to be continually suppressed so that economic activity will be encouraged, don’t even realize that this is literally the cause of bubble creations, not productive economic activity.

  It used to be, under the pre-crises fractional-reserve model, that there would be loads of malinvestment as a result of banks creating new loans (new economic activity would take place, and then collapse back down). But now, money is created, not by commercial banks, but mostly by the Fed itself. Which means that, in the phraseology of David Stockman, the new money is simply sloshing around the canyons of Wall Street and pushing up equity and bond prices, rather than reaching the “real economy.”

  The Bubble Only Prolongs the Problem

  Thus, contrary to those blaming the Fed for causing stocks to fall by “raising rates” (which Joe Salerno reflects on here) we want to stress the fact that, in raising rates, the most that the Fed could do is unravel previously made mistakes. In other words, there is nothing praiseworthy in the first place about artificially propped up stock market levels. We have no interest in lauding the longevity of the bubble, because the bubble is the enemy of the healthy economy. The collapsing equity markets reveal where bubbles were formed and that our alleged prosperity is an illusion. And this is precisely what former Dallas Fed Chairman Richard Fisher stated in a conversation on CNBC last week when he confessed: “We frontloaded a tremendous market rally to create a wealth effect.”

  And thus, the money expansion must inevitably cycle back down. Fisher himself admits: “… and an uncomfortable digestive period is likely now.” What was inflated up to the top, must deflate down to the floor. That is the only way for an economy to recover: bad credit needs to be liquidated. Unfortunately, it is painful indeed.

  That is the true cause of the recent calamity. The dollar is “strengthening” by virtue of our credit system cracking at the seams. In other words, the so-called “strong dollar,” is merely one side of the pendulum swing of a volatile collapsing banking system. It shouldn’t be assumed that the dollar is becoming more sound; it is not. But if we might ever again have a sound currency, we first have to face the music.

  And thus oil too, after years of being elevated up toward the heavens via the Fed’s monetary shenanigans, is experiencing its own inevitable bust. The illusion is being exposed.

  Unfortunately, the Fed is a wild card, so we stay tuned to whether it will let the markets recover, or continue the perpetual cycle of money creation. My own advice for the Fed is neither to “raise rates” nor to lower them. But rather, to let go and let the market correct itself. For we have a lot of correction ahead of us.

  

  

  

  

  

• Crude Crash Crushes Stock Knife-Catchers – Bonds & Bullion Bid

  Seemed appropriate…

  But we just had to show this…Who says bears don't know how to have fun?

   

  It appears the BoC-inspired bounce has run its correlated margin-call course…

  

   

  And as goes crude so goes stocks…

  

   

  As every asset class is the same trade…

  

   

  And stocks are rolling over fast…as it seems Draghi did not offer enough dovishness today…

  DRAGHI: AT HOME THE RECOVERY IS PROCEEDING. Sell Mortimer, Sell!!!

  — zerohedge (@zerohedge) January 25, 2016

   

  

   

  Small Caps were the worst performer today (along with Trannies) after being the most-squeezed in the last few days…

  

   

  This is the 3rd dip that was ripped, only to turn into another dip…

  

   

  As FANGs were hit hard (along with TSLA)…

  

   

  Treasury yields rallied 2-4bps (with the curve bull flattening)…

  

   

  Stocks caught down to bonds' early warning…

  

   

  Financials finally caught down to realityy…

  

   

  The USD Index drifted lower on the day led by EUR strength as Draghi's jawboning today did nothing to help…(notable weakness in commodity currencies)

  

   

  Commodities were a mixed bag today with crude and copper giving back their gains as gold and silver rallied notably…

  

   

  WTI crashed back below $30 as Gold broke back above $1100…thanks to Saudi Aramco's comments…

  

   

  As Crude started to run for $30, stock losses accelerated…

  

   

  Charts: Bloomberg

  

  

  

  

• "Don't Overstay Your Welcome In This Bounce": JP Morgan Crushes Last Week's Exuberance

  Earlier today, we brought you the latest commentary from Bloomberg’s Mark Cudmore who cautioned traders against reading too much into the late week rally that left everyone in a good mood heading into the weekend.

  “Thursday’s rally continued strongly into the weekend close, resulting in most global assets recording a positive week,” Cudmore wrote.

  “But once analyzed in the broader context, it seems likely this may only be a bear-market bounce [and although] the relief rally probably has more to run but it’s hard to believe the worst of 2016 is behind us,” he added.

  Cudmore isn’t the only one who thinks last week’s exuberance should be promptly faded.

  On Monday we got the latest from JP Morgan’s Mislav Matejka who earlier this month announced that BTFD is officially dead and STFR is the new guiding principle for traders. “Clearly, equities are unlikely to keep falling in a straight line, with periodic rebounds likely,”  Matejka wrote. “However, we believe that one should be using any bounces as selling opportunities.”

  On Monday, Matejka is back and he’s got some advice for anyone who might be feeling brave after Thursday and Friday: “one should not overstay one’s welcome in the bounce.”

  Below, find more from Matejka on what “one” should and shouldn’t do in today’s volatile and increasingly precarious markets (note the bit about poor breadth and limited counter-cyclical slack for policymakers).

  *  *  *

  From JP Morgan

  In our last week’s report, we argued for a tradeable market bounce given a number of tactical indicators flashing oversold, including RSI, Bull-Bear, put/call ratio, equity skew and other.

  Our take was that perhaps up to half of the earlier decline could be unwound. We believe, though, that one should not overstay one’s welcome in the bounce. The medium-term risk-reward for equities has worsened significantly, in our view, and the risk of a downside economic scenario is far from adequately priced in.

  When we analyze the historical downturns, we get the following: the average US market fall was of the order of 29%. At 11% SPX fall so far, we are far from this. Even bigger problem, in our view, is that corporate earnings are still near highs, as are sales. In past recessions, forward EPS fell by 22% peak to trough. This contrasts to the current 3% fall. In addition, the forward P/E troughed in recession at 11.5x vs latest 14.9x. Finally, the average duration of a recession trade was 14 months. In contrast, S&P500 was near all-time highs as recently as November. All these variables – duration of equity market weakness, size of the fall, multiples at lows and the move in sales/earnings from highs – suggest that the market is far from pricing in adequate probability of an economic slowdown. We believe it is premature to start thinking about a low from a medium-term perspective.

  

  Some might say that lower yields now mean multiples should be sustained at higher levels. We don’t see it this way. In our view, the problem is that if we are indeed starting the next downturn at near zero rates in the US, the investor sentiment might be additionally hurt. The worry might be that there is no cushion this time around and the effectiveness of any future policy response would surely be challenged given that policymakers didn’t even have chance to unwind the past policy supports. This is additional to the poor breadth and liquidity in the market currently, as well as continued China concerns. If CNY depreciation becomes disorderly, we believe stocks could see further downside.

  

  

  

  

  

• Don't Say You Weren't Warned (Again)

  Submitted by Michael Lebowitz via 720Global.com,

  “What The Fed did, and I was part of it, was front-loaded an enormous market rally in order to create a wealth effect… and an uncomfortable digestive period is likely now.” – Former Dallas Federal Reserve Governor Richard Fisher – January 5, 2016.

  Throughout 2015 we discussed various measures of evaluating equity prices. All of our analysis points to current equity valuations indicating the market is at an extreme and that poor future returns should be expected. As a result, we have not been shy to recommend investors take a more conservative tack with equities. Indeed, equity market price deterioration in just the first three weeks of 2016 has wiped out nearly two years of gains. While we are uncertain if the recent downturn is the beginning of the anticipated bearish period we expect to materialize, we are certain it is imperative investors better understand the poor risk/reward dynamic of holding equities in the current environment.

  On the heels of the frank comments from Mr. Fisher, we thought it would be helpful to share yet another type of equity analysis to help visualize the effect the “enormous rally” has had on equity valuations.

  Soaring Price to Earnings Multiples

  The scatter plot below shows the strong correlation (r-squared = .75) between long-term earnings growth estimates and the price to forward earnings estimates ratio. This ratio is similar to traditional P/E measures but uses 1-year forward earnings estimates instead of historical earnings data. When long term growth estimates are high, investors tend to be optimistic and likely to pay a higher premium or a greater multiple for earnings. The opposite holds true for lower growth expectations.

  Long Term Growth Estimates vs Price to Forward Earnings 1997-Current (monthly)

  

  Deeply concerning to us, and apparently now to Mr. Fisher, is the degree of excessive optimism embedded in current prices. The red line delineates combinations of earnings ratios and long term growth estimates that are 20% greater than the dotted black regression line. The yellow dot, representing the most current data, lies slightly above the red line and at levels rarely seen in the last 20 years. The circled cluster of data points nearest the yellow one are all from the prior 9 months.

  **Keep in mind as you view the charts- the data only covers the last 18 years, a time period which we would argue contains three of the largest equity bubbles since the Great Depression. Accordingly, observations that stand out as extreme within this data-set are even more extreme when analyzed over longer time periods.

  Where will the dot go over time?

  The inevitable question is, “Where and how will the yellow dot shift?” In the following chart we add arrows to the scatter plot to help visualize how the location of the dot might change. In reality there are an infinite number of possibilities but we offer four base cases (A-D) in an effort to asses which shifts might be of higher or lower probability.

  Potential Data Shifts

  

  A. This scenario infers prices increase at a faster rate than expected forward earnings, or decline at a slower rate than forward earnings decline. Also conditional is that long term growth estimates remain the same. This scenario leads to further multiple expansion beyond the current levels, which as noted earlier are already historically extreme.

  B. This arrow represents a path towards normalization back to the trend line. In this case long term growth estimates rise and investors do not pay a higher forward earnings multiple as they traditionally have. An increase of long term growth rate estimates of 3% currently, absent a change in the price to forward earnings ratio, would bring the market to a fair valuation and a multiple consistent with the last 18 years of data.

  C. This arrow presents another path to normalization. Long term growth rates remain stable like arrow A, however unlike arrow A, multiples decline back to trend. In this case a price drop in the S&P 500 of 20% with no change in expectations for one-year forward earnings, would be required to normalize valuations.

  D. In this scenario, price to forward earnings multiples remain unchanged despite a shrinking long term earnings growth rate. This would defy historical precedent as reduced long term earnings estimates have usually been met with lower price multiples. The fact that current valuations are already at extremes seems to make this scenario unlikely.

   

  E. This arrow highlights the general direction the data points have traveled over the last 5 years. This is more accurately shown in the scatter plot below which uses yearly color codes to map out the last 5 years of data.

  Shifts Since 2011

  

  To help answer the question on which way the yellow dot might shift, we focus on long term earnings growth and the price to forward earnings ratio which are the x and y-axis respectively of the preceding charts.

  

  Long term earnings trends tend to be highly correlated with economic activity. In the year 2000 investors were incredibly optimistic as expected long term earnings growth rates peaked over 18%. Since then, the expected growth rate of earnings has fallen to 10% and currently resides less than 1% above the pessimistic outlooks observed during the great financial crisis of 2008. The trend this millennium should not come as a surprise as GDP growth, the ultimate driver of long term earnings, has been decelerating for years. The graph to the left uses a 3-year moving average trend line to smooth GDP data. Despite ebbs and flows, the rate of economic growth has been steadily declining for well over 60 years.

  Given our stated views on productivity growth declines and the massive level of indebtedness, it is not unreasonable to forecast that actual long term earnings growth will likely follow the GDP trend lower in the future. That does not mean the market cannot temporarily witness periods of optimism where the expected growth rate increases. We are comfortable predicting that long term earnings growth will most likely shift left along the x axis, at least until there is a profound change to the way the government and Federal Reserve promote economic growth.

  Earnings are a function of revenue and corporate profit margins. Our earnings growth forecast in the prior paragraph holds true for revenue growth. As long as GDP continues to trend lower, revenues will likely be challenged as well. Margins, on the other hand, are not as reliant on economic growth. Over the last few years, for instance, margins exploded to record levels despite below trend GDP growth. Layoffs, deficient investment, stock buybacks, mergers and a host of other factors, including suspect measurement, facilitated greater profits per dollar of revenue for shareholders.

  Margins have a long history of expanding and contracting within a well-defined range. Currently, margins are at the top end of that range, making further margin expansion difficult to expect. In fact many of the aforementioned methods in which companies increased margins have been largely depleted, which adds to our expectation that margins will contract to more normal levels over the coming years. Given the declining long term trend in economic growth and therefore revenues, coupled with expectations for lower margins, we are left to assume forward earnings estimates will also decline.

  Declining long term earnings growth forecasts and forward earnings estimates coupled with historically high valuations is a recipe for poor returns. This concoction would most likely result in a shift somewhere between arrows C and D in the chart entitled “Potential Data Shifts” above.

  20% Downside and Then Some

  A quick glance at the scatter plot would lead one to assume that a 20% decline in the S&P 500 with no change in forward earnings estimates or long term growth forecasts would result in a fair valuation (the yellow dot would follow the path of the C arrow shown above). That is correct, but we would be remiss if we did not mention two other important factors. First, corrections frequently move beyond trend lines and tend to “overcorrect”. Based on the data shown above, it is not farfetched to assume the yellow data point could fall an additional 10-20% below the trend line. Secondly, as stock prices decline, the economy may likely suffer as well. Therefore we should also consider the ramification of a decline in forward earnings estimates and possibly long term growth forecasts. The one takeaway we hope you arrive at is that a decline akin to those seen in 2000 and 2008 is not out of the realm of possibilities.

  Many other valuation measures also predict poor future returns. We urge investors to carefully consider the implications of holding a large equity allocation at this time. Our tag line below is worth careful consideration.

  At 720 Global, risk is not a number. Risk is simply overpaying for an asset.

  

  

  

  

  

• The Big Short of 'Mother Frackers'

  By EconMatters

   

  Energy Bankruptcy Boom 2015

   

  Dozens of oil and gas companies went into bankruptcy last year. While energy E&P companies were dropping like flies in 2015, credit rating agencies and banks have remained awfully quiet and apparently buried their heads in the sand.   

  

   

  You see, the Fall Borrowing Base Redetermination by banks on the E&P sector was supposed to take place around October 2015. According to a Haynes and Boone, LLP survey conducted prior to the fall borrowing base redetermination season, industry observers and insiders are predicting a decrease in the ability to borrow against reserves by an average of 39%.

   

  The result of base redetermination does not require public disclosure.  Nevertheless, it seemed banks were extremely lenient as the average reduction for 17 companies disclosing the borrowing base reduction results was just 4%.  Rating agencies, meanwhile, did not take major E&P downgrade actions till this month in 2016.

   

  It’s About Time!

   

  On Jan. 22, 2016 Moody’s Investors Service said it put 120 oil and gas companies on review for downgrades. Rival Standard & Poor’s Ratings Services was way ahead of Moody’s. S&P said it already downgraded the debt of 165 U.S. companies back in 4Q 2015, representing $1.5 trillion, led by the oil, gas, and commodity sectors. S&P also said for the full year, downgrades rose by 67%, to 461, the highest level since 2009. From late December to January 2016, Fitch also took individual downgrade action on companies such as NGL Energy (NGL: NYSE), Chesapeake Energy (CHK: NYSE) and Williams (WMB: NYSE).

   

  Wall Street’s Lifeline to Frackers

   

  We can see how banks do not want to write off and take a loss from their E&P debt on their books and have motivation to keep feeding the high leverage and not call in the energy loans during the base determination last October. 

   

  FT reports that as of September 2015, about a dozen E&Ps already had debts as high as more than 20 times their EBITDA. One of the reasons pushing down oil price to the current historical lows, and yet no sign of decline in U.S. production is that quite a few small frackers need to pump oil regardless (even below the economic threshold) just for the cashflow to pay bills and payrolls.

   

  So the collective action by banks to sustain the life of many weak oil frackers (so banks won’t  need to book losses) ironically exacerbated the oil over-supply and price crash speeding up the way for these hanging-in-there frackers to meet their maker.

  

   

   

  Why the Downgrade Delay?

   

  On the other hand, we fail to see the motivation and logic behind the delay by rating agencies who are supposed to have independent (from banks) evaluation model to provide forward-looking financial risk indications.

   

  It is so ironic to see how Moody’s came out and defended the frackers the same time when Einhorn slammed ‘Mother Frackers‘ which prompted a watershed event in oil E&P stocks last May.  At the time, Moody’s said,

  …[The oil and gas sector] liquidity-stress index (LSI) more than doubled….[however], the [LSI] index is still well below its 26% peak in March 2009 …..default risk remains benign ….

  [Emphasis Ours]

  From there, we can only draw two possible conclusions from rating agencies delayed reaction/action:

   

  (1) Influences from Banks (or Others) — There is an inherent conflict of interest in the current Wall Street model that rating agencies are basically paid by the ones they are supposed to give ratings on.  Readers who saw the movie “The Big Short” (from the book by Michael Lewis) should remember how rating agencies were prominently profiled as influenced by big banks on their rating calls during the 2008 financial crisis (perhaps that’s why S&P seems to have an earlier jump on the E&P downgrade than the two rivals?)

   

  While nobody can say for sure if this conflict-of-interest model has improved since 2008, it is not hard to draw a parallel Déjà vu from the 2008 subprime/housing sector with possible banks influencing rating agencies to the current E&P sector.  An even better question right now would be:  Is this to allow some insiders time to position themselves “on the right side of the trade”?

   

  (2) Extremely flawed (perhaps even delusional) oil price assumption by rating agencies.  While EconMatters outlined why WTI is a short as early as July 2013, it is pretty basic (if not alarmed by the booming oil bankruptcies and layoffs) for any competent Wall Street or rating agency analysts to at least reach a similar oil price scenario by 3Q 2015.  But rating agencies did not come out and act accordingly until early 2016.  (In the same vein, it is highly questionable why Moody’s all of a sudden jumped on the bandwaon of oil price forecast.)

   

  Fracking Bubble 2015-2016

   

  FT reports the 60 leading US independent oil and gas companies have total net debt of $206bn, more than doubled from about $100bn at the end of 2006, and almost a third of the 155 US oil and gas companies covered by Standard & Poor’s are rated B-minus or below (highly speculative, below investment grade).

   

  We don’t always agree with Einhorn on his view including Apple long and some of his specific E&P shorts. However, we do see a bubble in the E&P sector similar to the 2000 tech bubble. We noted last May that “the sector is long overdue for a shakeup” with 110+ publicly traded E&P companies in North America (mid to small caps), and many of them came to market just in the past five years for the sole purpose of hitting their IPO pay dirt.    

   

  More Pains To Come

   

  Many highly leveraged and poorly managed drillers have been able to hide under the cloak of high oil prices (and Wall Street) in the past few years.  Now Barclays estimates that without a rebound in commodity prices, the potential oil bonds downgrade volume for 2016 and 2017 could exceed $170 Bn while another $155 billion worth of high-yield debt supply will enter the market.

  Chart Source: Bloomberg

  The long overdue credit agency downgrade is only the beginning of a tsunami hitting the entire oil E&Ps (bonds and stocks). More E&Ps will go out of business while some solid companies may get smacked down (but hopefully eventually survive) simply by the sector association.  

   

  Wall Street had a hand in this Frack Bubble of 2015-2016, not much different from the 2008 housing bubble.  We know Shell just fired another 10,000 workers while global oil job losses top 250,000, but it is too early to tell how the market and economy will turn out in this bubble aftermath. 

   

  Not to be despair though, the better news for now is that with weak shale E&P companies going out of business, oil production should progress to reflect the logical supply volume in the current oil price environment.  That should eventually lead to the rebalance of the oil market, price and the proper valuation of the remaining energy stocks.

   

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