Mish's Global Economic Trend Analysis

France Risks AAA Rating on EFSF Leverage; Spotlight on Portugal, the Next to Fail
Lowes to Close Stores;Gap to Close US Stores, Expand in China; Best Buy to Reduce Square Footage by 10%; Mall Vacancies Record High; Grim Jobs Picture
Smoke Clears, Fog Lifts, Revealing More Smoke and Fog; Sell the "No-News"; Point by Point Synopsis of the Merkel-Sarkozy Plan
Gross Says he "Struck Out" on Bonds after Missing U.S. Treasury Rally, Now Using Leveraged Mortgage Play Hoping to Catch Up; Another Gross Mistake?

France Risks AAA Rating on EFSF Leverage; Spotlight on Portugal, the Next to Fail

Posted: 17 Oct 2011 08:12 PM PDT

The spread between German and French government bonds keeps rising. It is now at a record 95 basis points and counting (a bit higher than the article below suggests).

Look for the spread to widen further because France Risks AAA on Bulked Up ESFS Bailout Fund

Proposals to beef up Europe's bailout fund by offering to guarantee portions of the debt owed by the region's weaker governments threaten to trash France's top credit rating.

France's rating is under pressure, Moody's Investors Service said yesterday, and investors now demand to be paid a record 93.2 basis points more to hold its bonds rather than German notes, up from 29 basis points in April.

The cost of insuring French bonds using credit-default swaps has soared to 183 basis points, from an average of about 84 in the first half of the year. They are the most expensive to protect among the top-rated nations in Europe and more costly than for nations rated AA- by Standard & Poor's, including China, Estonia and the Czech Republic.

"Looking at the numbers, France is no longer a AAA credit," said Nicola Marinelli, who oversees $153 million in funds at Glendevon King Asset Management in London. "They're talking about guaranteeing trillions of euros of bonds but if France isn't a AAA then even guaranteeing one more euro might not be sustainable."

'Political Signal'

Italy and Spain alone must refinance more than 420 billion euros of bonds that come due next year, data according to Bloomberg show. By offering to take the first loss on some portion -- the part mooted is 20 percent -- of new issuance, the euro-region states can show they are standing behind the issuer and persuade private investors to step in.

"You're sending a very strong political signal that all the member states believe that Spain and Italy are solvent and they are willing to demonstrate that by putting themselves in harm's way," said Kapoor at Re-Define. "They have a very narrow space for maneuver in terms of the leverage. They're between the devil and the deep blue sea."

French banks tumbled in the past three days with BNP Paribas (BNP) SA, the biggest of the nation's lenders, dropping more than 12 percent and Societe Generale (GLE) SA down almost 14 percent on concern they would be downgraded along with the government.

"Given the sheer size the French banking system it may end up being singled out as the most vulnerable country to a rating agency downgrade," said Marchel Alexandrovich, an economist at Jefferies International in London.

Political Signal or Political Stupidity?

Spain is not solvent. Nor is Portugal.

The odds of no haircuts on Spanish and Portuguese debt are near-zero. As with Greek bonds approximately six months ago, no haircuts are priced in on both countries.

Now 50% minimum haircuts on Greek bonds are openly talked about. In a year or so, perhaps way less, there will be talk of haircuts on Portugal, then Spain.

Spotlight on Portugal, the Next to Fail

Portugal is about ready to blow and the EU clowns are still attempting to contain Greece. That foolish attempt at containing Greece, now has the AAA rating of France at stake.

Treasury Secretary Tim Geithner thinks this can be solved with leverage. Yet, that leverage is going to cost France its AAA rating, and deservedly so.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
Click Here To Scroll Thru My Recent Post List

Lowes to Close Stores;Gap to Close US Stores, Expand in China; Best Buy to Reduce Square Footage by 10%; Mall Vacancies Record High; Grim Jobs Picture

Posted: 17 Oct 2011 12:24 PM PDT

Financial job carnage has already been announced. Layoffs in the financial sector may affect 80,000 or more. Cash strapped cities and states are shedding workers. Housing is abysmal. To top it off, Retail jobs carnage is just around the corner.

Gap will close 189 stores in the US and instead expand in China.
Walmart plans smaller stores.
Lowes announced today it will close 20 stores affecting 1,950 employees.
Best Buy plans to reduce square footage by 10%.
Regional and strip mall vacancies are at record highs already.

How many trucking jobs will that cost? How many manufacturing jobs? Note the implications on commercial real estate rents and prices.

Today Citigroup set aside lower reserves for losses. What a farce.

Let's take a look at some of the retail stories.

Lowe's to Close 20 Stores, Reduce Planned Openings

The Wall Street Journal reports Lowe's to Close 20 Stores, Reduce Planned Openings

Lowe's Cos. is shutting 20 of its home-improvement stores and greatly slowing future openings in an effort to improve its profitability.

The closings affect about 1,950 employees, and the retailer will book a related second-quarter charge of $345 million to $415 million, or 17 cents to 20 cents a share.

The company now expects to open 10 to 15 stores a year in North America from 2012 forward, down from its prior assumption of about 30 stores a year. Lowe's will open about 25 stores this year, as planned, having already committed to the sites.

Lowe's closed 10 stores on Sunday and said it would shut 10 more within a month.

"Today we have a clearer view of the long-term economic recovery and decided to close these 20 stores," Lowe's spokeswoman Chris Ahearn said. "The stores have under-performed and we haven't seen progress necessary for them to reach profitability."

Gap Closing 189 U.S. Stores, Expanding in China

Yahoo!News reports Gap closing stores in US

Oct 14, 2011
The struggling retailer, which runs the Gap, Old Navy and Banana Republic chains, detailed plans on Thursday to close 189 locations, or 21 percent of its namesake Gap stores in the U.S., by the end of 2013. At the same time, the largest U.S. clothing chain said it plans to triple the number of Gap stores in China from about 15 by the end of the year to roughly 45 by the end of next year.

On Thursday, Gap officials offered more details to analysts gathered in New York for its annual meeting. The company said that it plans to have closed 34 percent of its namesake Gap stores between 2007 and the end of 2013, not including Gap Outlet locations. After the reduction, it will have 700 Gap stores left by the end of 2013, down from 1056 in 2007.

80,000 Financial Sector Layoffs

NakedEmpire says 'Financial Sector Layoffs could top 80,000'

August 2, 2011
In July, as financial sector layoffs mounted, a top executive search firm estimated as many as 80,000 jobs might go in this coming round of financial layoffs.
"This is kind of like the beginning of a tsunami," said Richard Stein of Caldwell Partners. "You don't get it in one go — it comes in sort of short shock waves."

Wall Street Turns the Jobs Gun on Itself

The Wall Street Journal reports Wall Street Turns the Jobs Gun on Itself

Job cuts on Wall Street are nothing new. The industry is well known for its sponge-like quality, absorbing bankers when times are flush, squeezing them from the ranks when the business cycle slows. Hire, fire, repeat.

But the most recent rounds of cuts—5% or more at Goldman Sachs Group Inc., 400 to 600 employees at Credit Suisse Group Inc. and a combined 700 jobs at Barclays PLC since the start of the year—could snap the trend.

Those jobs might not come back for a long time. Goldman is even shipping some jobs to Asia.

The securities industry still employs about 800,000 people nationwide, according to the Securities Industry and Financial Markets Association. That is only 7.8% fewer than the all-time high, and roughly the same as in 2006, when Bear Stearns Cos. and Lehman Brothers Holdings Inc. still roamed the earth.

It isn't a stretch to think that employment could fall to 2003 levels, meaning another 50,000 job cuts. And, in a worst-case scenario, the decline could feel like a throwback to pre-tech bubble days, when the industry employed 100,000 fewer people than at the end of March.

This latest cycle has a something in common with layoff waves such as the purges of the late 1990s, the post 9/11 downsizing and belt-tightening during of the financial crisis: It is all business.

The big difference, of course, is that unlike those employment trends in the past, there isn't much evidence that these jobs will come back this time.

Mall Vacancies Hit All Time Record

Zero Hedge has a post out today with good commentary and excellent charts. Please consider "Internet Killed The Radio Store" - Mall Vacancies Hit All Time Record

While the incremental bankruptcies in commercial REITs have been slow in coming primarily due to record low interest rates, the mall vacancy number just hit a new all time high.

During the third quarter, vacancies at regional and super-regional malls rose to 9.4 percent from 8.8 percent a year earlier and 9.3 percent in the second quarter, according to the New York-based property research company Reis. This was the highest since data was compiled in 2000."

Citing a Bloomberg report but providing no link, Zerohedge states ...

Employment data reveal the trend away from hiring at establishments that sell goods easily purchased on the Internet like books and hobby supplies. The need to employ sales people at apparel and accessory stores has actually increased since sales assistance is a necessity. An extra large shirt is not the same across all brands, and footwear sizes vary greatly. Colors can mislead on the web.

Wal-Mart and Best Buy are experimenting with smaller store formats. In its last quarterly earnings conference call Best Buy said, "… we are planning to reduce our big box square footage by 10 percent over the next three to five years. Our test results so far in this space continue to indicate that a store prototype which combines the enhanced operating model with reduced space and lower operating costs has not materially lowered our sales volumes."

Where the Hell are the Jobs Going to Come From?

I keep asking where are the jobs going to come from?

Housing - no
Financials - no
Government - no (hopefully)
Commercial Real Estate - no
Retail Sales - no

"What If" Scenarios

Here is a chart I posted in 2009 showing job growth by month since 1999, and reposted this October in Hypothetical Employment and Unemployment Charts from the Atlanta Fed; Mish "What If" Scenarios

Monthly Job Growth 1999-2009

click on chart for sharper image

I posted the above table in November of 2009. The key years are 1999, 2005, and 2006.

Chart courtesy of BLS. Annotations by me, numbers are in thousands.

The areas in deep blue mark recessions.

At the height of the internet bubble with a nonsensical Y2K scare on top of that, the economy managed to gain 264,000 jobs a month.
At the height of the housing bubble in 2005, the economy added 212,000 jobs a month.
At the height of the commercial real estate bubble with massive store expansion, the economy added somewhere between 96,000 and 178,000 jobs per month depending on where you mark the peak.

Neither the housing boom, nor the commercial real estate boom is coming back. Nor is there going to be another internet revolution.

Structural Problems

Government is not the answer nor are Keynesian make-shift work programs that will hire a few union workers at monstrous costs, fixing little. We need to fix structural problems.

That means scrapping Davis-Bacon and prevailing wage laws, getting rid of poisonous public union collective bargaining agreements, lowering benefits of public unions that act as a drain on cities, states, and municipalities, and expending education opportunities via accredited low-cost online schools.

In addition we should cut back military spending by 33% or more, and fix corporate tax laws that reward the flight of jobs and capital overseas. Finally I suggest a return to the gold standard as noted in Hugo Salinas Price and Michael Pettis on the Trade Imbalance Dilemma; Gold's Honest Discipline Revisited

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
Click Here To Scroll Thru My Recent Post List

Smoke Clears, Fog Lifts, Revealing More Smoke and Fog; Sell the "No-News"; Point by Point Synopsis of the Merkel-Sarkozy Plan

Posted: 17 Oct 2011 08:56 AM PDT

A couple of people asked me yesterday to comment on the G-20 meeting. I responded "What did they say?"

Here is the answer. The G-20 leaders said nothing and did nothing other than to offer the hope that Merkel and Sarkozy would provide a solution on October 23.

The fog of G-20 is gone and all there is to see is a fog of vague promises by German Chancellor Angela Merkel and French President Nicolas Sarkozy that something dramatic will happen later.

Sell the "No-News"

Sunday evening to Monday morning provided yet another wild swing in the futures market. I went to bed at 3 AM and the S&P was up 10 points near 1230. However, the S&P gapped down 5 points and is now down 15 to 1204, roughly a 2% swing from the overnight high.

It's tough to say this was a "sell the news" reaction because there was no news, at least from the G-20. Instead, it was a "sell the no-news" reaction.

Germany Shoots Down 'Dreams' of Swift Crisis Solution

The G-20 did nothing and said nothing but today Angela Merkel lifted some of the fog from promises made a couple of weeks ago. The picture is now much clearer. Merkel pulled back the fog revealing more fog.

Please consider Germany Shoots Down 'Dreams' of Swift Crisis Solution

Germany said European Union leaders won't provide the complete fix to the euro-area debt crisis that global policy makers are pushing for at an Oct. 23 summit.

German Chancellor Angela Merkel has made it clear that "dreams that are taking hold again now that with this package everything will be solved and everything will be over on Monday won't be able to be fulfilled," Steffen Seibert, Merkel's chief spokesman, said at a briefing in Berlin today. The search for an end to the crisis "surely extends well into next year."

Obstacles to an EU accord include resistance by bankers to a deeper restructuring of Greek debt and discord among Europe's capitals over how to multiply the firepower of their bailout fund and recapitalize financial institutions. At stake is confidence in the 17-nation currency union that Merkel says she wants to preserve.

As EU officials move toward an agreement that may include bigger losses on Greek debt holdings and the forced recapitalization of lenders, bankers are pushing back. Options include altering a July accord struck with investors for a 21 percent net-present-value reduction in Greek debt holdings.

Five-Point Plan

In the works for the summit is a five-point plan to

Foresee a solution for Greece
Bolster the firepower of the 440 billion-euro ($611 billion) EFSF
Recapitalize banks
Push to boost competitiveness and consideration
European treaty changes to tighten economic management

Point Number One: Greece

Greece will default and it will be a hard default. The Yield on 1-year Greek bonds is hit a new high of 176% today, currently at 172%.

Merkel and Sarkozy have no plan for Greece other than to keep Greece in the Euro and that is not up to Merkel and Sarkozy, but rather up to the citizens of Greece.

Moreover, the smaller the haircut, the bigger the burden on Greece and the more likely Greece leaves sooner rather than later.

Point Number Two: Bolstering the Firepower of the EFSF

Let's assume Nouriel Roubini, Tim Geithner, and everyone else pitching "firepower" nonsense gets their way. Let's boost the EFSF to $2 trillion. Better yet, let's talk "Big Bazooka" and boost it to $40 trillion.

Can Roubini, Geithner, Merkel, Sarkozy, or any of the EU clowns tell me exactly where $40 trillion will come from? Here is the answer: They can't.

Moreover they cannot tell us where $2 trillion will come from either because all these plans for boosting the EFSF are against the German constitution, not that any of the EU jackasses care.

So let's assume the jackasses get their way. Exactly what good will $2 trillion do? Will the ECB just print the money and give it away? Will citizens put up with another $2 trillion highway robbery plan to bail out the banks and bondholders?

Point Number Three: Raise Capital

Banks are resisting mightily. Moreover, where does the capital come from? If from banks and bondholders, expect to see shareholder dilution. In fact, expect to see shareholder dilution regardless where it comes from. Is the stock market priced for that?

Sovereign debt ratings will sink like a rock if nations start bailing out the banks, yet again.

Point Number Four: Push to Boost Competitiveness

I happen to agree with this point. It is necessary. However, look at the pushbacks against austerity programs. Expect more pushbacks, in every country.

More importantly, even if there was substance to the plans (there isn't), and even if the "non-plans" were implemented (assuming Merkel and Sarkozy had plans that other nations would adopt), it would take years, not months to produce results.

Point Number Five: European Treaty Changes to Tighten Economic Management

Jackasses never give up. Point number five is proof.

Look at the difficulties just to get the latest EFSF to pass. It brought down the government of Slovakia. Perhaps the clowns manage to get away with boosting the "firepower" of the EFSF (illegally of course), but they still have to come up with the money.

However, getting 17 nations to agree to treaty changes has no chance at all. The German courts alone would stop it without a voter referendum and new German constitution.

Fog Behind the Fog

Thus, there is absolutely no substance to the Merkel-Sarkozy 5-point plan. There is only fog behind the fog, just as there was with the G-20 summit.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
Click Here To Scroll Thru My Recent Post List

Gross Says he "Struck Out" on Bonds after Missing U.S. Treasury Rally, Now Using Leveraged Mortgage Play Hoping to Catch Up; Another Gross Mistake?

Posted: 17 Oct 2011 12:42 AM PDT

It's one thing to make a mistake. We all do. It's another thing to compound a mistake, using leverage, hoping to make it back up. Pimco's Bill Gross may have just done the latter.

Please consider PIMCO's Gross admits he struck out on bonds this year

In a Special Edition letter posted on PIMCO's website, Gross, who runs the $242 billion PIMCO Total Return portfolio, wrote that he underestimated the contagion effect from the Europe debt crisis and the U.S. debt ceiling debacle.

"As Europe's crisis and the U.S. debt ceiling debacle turned developed economies toward a potential recession, the Total Return Fund had too little risk off and too much risk on," said Gross, who also shares the title of co-chief investment officer at Pacific Investment Management Co. with Mohamed El-Erian.

His fund's poor performance led Gross to simply call his open letter to investors, "Mea Culpa." It is up only 1.06 percent year to date versus the benchmark BarCap U.S. Aggregate Index which is up 3.99 percent.

"The simple fact is that the portfolio at midyear was positioned for what we call a "New Normal" developed world economy - 2.0 percent real growth and 2 percent inflation," Gross said.

That's all changed, of course. Gross said PIMCO's internal growth forecast for developed economies "is now zero percent over the coming several quarters and the portfolio more accurately reflects this posture."

I challenged the opinion of Bill Gross on March 10, 2011 in Pimco Dumps All Remaining Treasuries in Total Return Fund; Six Reasons to Fade Bill Gross

Six Reasons to Fade Pimco

I view this setup as favorable for US Government bonds. For starters there is no Pimco selling pressure, only potential buying pressure when Gross changes his mind.

Second, everyone seems to think the end of QE II will be the death of treasuries. While that could be the case, sentiment is so one-sided that I rather doubt it, especially is the global recovery stalls.

Third, the US dollar is towards the bottom of a broad range and any bounce could easily wipe out gains in higher yielding emerging-market debt.

Fourth, the global macro picture is weakening considerably with overheating in China, state government austerity measures in the US, and a renewed sovereign debt crisis in Europe on top of a supply shock in oil. Emerging markets are unlikely the place to be in such a setup.

Fifth, chasing yield means chasing risk, and that is on top of currency risk. Chasing risk is highly likely to fail again at some point, the only question is when.

Sixth, several interest rate hikes are priced in by the ECB this year. Will all those hikes come? I rather doubt it, and if the ECB doesn't hike, look for the US dollar to rally, perhaps significantly.

Another Gross Mistake?

I have already commented on this before and the only reason I bring it up again is because Gross may be making another mistake.

Gross now has cash levels of negative 19% according to the article. If that is still true, Gross is using leverage hoping to catch up. His play is in mortgage-backed securities.

The time to use leverage, if there was one, would have been when treasury yields were much higher and nearly everyone believed there was no risk of recession and the US dollar would go to hell.

Many plowed into the Australian dollar and Swiss Francs, not only missing a huge US treasury but also getting clobbered in Swiss Francs and the Australian dollar to boot.

I am not going to do another "Six reasons to Fade Bill Gross" post because he may be correct. However, I do not like the odds or the leverage. Here are a couple charts that show why.

US Treasury Yield Curve

$IRX = 03-Mo Yield
$FVX = 05-Yr Yield
$TNX = 10 Yr Yield
$TYX = 30 Yr Yield

Mortgage Rates

Mortgage Rates from Mortgage Calculator

A further rally is certainly possible in treasuries and mortgage backed securities. However, fixed-income traders may be a "sell the news" trade following the Fed's "Operation Twist" announcement.

On September 23, I asked Has Operation Twist Played Out Already? Time to Short Bonds?

I did not know the answer then and I still do not know the answer now. I also do not know when Gross put that leverage on, or his average duration on that leverage.

However I can say that 10-year treasury yields are 42 basis points higher since I wrote that post. Mortgage rates are up as well, but not as dramatically.

The risk Gross faces now is not only being wrong a second time, but being wrong with leverage.

I see little justification for leveraged plays on U.S. debt after these huge rallies. Bear in mind that point of view comes from a deflationist who thinks the US and Europe is in for another recession.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
Click Here To Scroll Thru My Recent Post List

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Monday, October 17, 2011

Mish's Global Economic Trend Analysis

Mish's Global Economic Trend Analysis

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