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Guest Cameron

Was wondering if I could get any opinions as this has been a topic on my mind for recently.

 

1. The Fed caring more about consumption inflation rather than asset inflation. Have people been being lulled into thinking they are a lot more wealthy then they really are. This is what the Fed wanted to happen, raise asset prices, people will feel rich therefore they spend more but that means nothing because debt service payments happen at some point regardless of how rich you feel. But at some point that has to get overextended. Also on the topic of people being lulled, if you feel that the only reason stocks are high in relation to fundamentals is because of low interest rates than couldn't that be considered a type of overoptimism. i.e you starting loosening your investing standards because you can use interest rates as an excuse to buy a certain stock you otherwise wouldn't.

 

2. Was 2008 a liquidity or solvency problem, if the former is true than QE was really necessary, if the latter than it wasn't. The reason I bring this up is during the middle of the Great Depression when QE was implemented we didn't see this mass increase in asset values like we do today. i.e inflation adjusted home prices not going up at all during the years of Great Depression QE but today they are at 2005 levels. Also commercial real estate on an inflation adjusted basis is above pre-crisis levels.

 

3. The household in the United States is increasingly adding consumer debt, while rolling over auto loans into negative equity. Household debt deleveraged after the spike in household debt leading up to the crisis but only to 80% of GDP back to its historic trend while service payments have stayed flat at around 10% of DI since 2012. To add home ownership is at 1960s levels so this report doesn't take into account rent expenditures. Corporate debt has doubled since 2008 from around $3 trillion to $6 trillion with this mostly going into share buybacks, while this may be great for the shareholder in the short term I look at this the same way as if someone uses a credit card to buy consumer goods. Meaning they are taking on debt that isn't being used to create cash flows to pay off that debt. At some point this becomes unsustainable.

 

4. Lastly global commodity prices have collapsed 70% since 2014 while asset prices have increased, something that happened following the deflationary recession in 1919-1920. Also most Americans haven't participated in the recovery, much like in 1919-1920 where we had a farm land collapse.

 

I have put a couple charts at the bottom in relation to above. As I said any thoughts or opinions are more than welcome.

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-Often wonder if this macro stuff is worth the time spent.

-Looking at the charts, especially the first one:

 

-if you look at the period that corresponds to the Buffett partnership years (1957-70), market headwinds were favorable and Mr. Buffett closed his funds "when statistical bargains disappeared". It's all about the risk-free rate, isn't it?

-the 1987 "crash" even if described as "epic" was really only a blip in the long term scheme of things. Simply a buying opportunity.

-if you "smooth" the line from the early 1980's to now (smoothing in the sense that the dot-com and the 2007-9 episodes become blips in the long term scheme), the upward move is mostly unprecedented and breathtaking.

-the Great Moderation, which remains largely unexplained, is still alive.

-the Great Moderation may have something to do with the greatest monetary experiment of all times.

 

So, what to do?

 

Even if concerns are valid, holding your breath may be detrimental to your capacity to survive.

Going long volatility may cause your investment thesis to decay.

The commodity price disconnect with asset prices that is described after the post-war short-lived recession did not correct immediately as a result of mean reversion forces.

There is a difference between thinking and shouting that the emperor has no clothes.

Occasionally the easy thing is the hardest.

Disclosure: sustainability bias.

 

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2) is confusing to me. Individual issuers can have either a solvency or a liquidity problem. But the system as a whole typically will have a liquidity problem unless they all owe money to foreign countries. So I would argue that solvency problems with key individual issuers like Lehman and Bear Stearns led to liquidity problems for the system as a whole which obviously feeds back and leads to liquidity problems for other individual issuers.

 

There is a kind of contagion typically. What happens is that a key player has a solvency problem. When this happens because the players are opaque and they each hold debt from the other players as assets on their books, there are fears that other players may also end up having solvency problems. And this lead to runs on individual players where people reclaim the IOU each of the players has issued. But this leads to liquidity drying up.

 

The way this is resolved is that you have a lender of last resort which should lend to institutions with liquidity problems but not solvency problems...and that is the FED. The 1907 crisis is why the FED exists. To me this is the only thing the FED should ever be doing.

 

But at some point economists thought they understood Macroeconomics which I don't think they did. So various idiotic mandates have been added to the FED such as  1) maximum employment; 2) stable prices; and 3) moderate long-term interest rates. The FED is no longer just a lender of last resort. It is also supposed to in some sense manage the economy.

 

Anyways I basically agree with Cigarbutt that macro is useless for investing but I think it useful to discuss because as time goes on your understanding will improve. At least that is what I'm hoping.

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Guest Cameron

2) is confusing to me. Individual issuers can have either a solvency or a liquidity problem. But the system as a whole typically will have a liquidity problem unless they all owe money to foreign countries. So I would argue that solvency problems with key individual issuers like Lehman and Bear Stearns led to liquidity problems for the system as a whole which obviously feeds back and leads to liquidity problems for other individual issuers.

 

There is a kind of contagion typically. What happens is that a key player has a solvency problem. When this happens because the players are opaque and they each hold debt from the other players as assets on their books, there are fears that other players may also end up having solvency problems. And this lead to runs on individual players where people reclaim the IOU each of the players has issued. But this leads to liquidity drying up.

 

The way this is resolved is that you have a lender of last resort which should lend to institutions with liquidity problems but not solvency problems...and that is the FED. The 1907 crisis is why the FED exists. To me this is the only thing the FED should ever be doing.

 

But at some point economists thought they understood Macroeconomics which I don't think they did. So various idiotic mandates have been added to the FED such as  1) maximum employment; 2) stable prices; and 3) moderate long-term interest rates. The FED is no longer just a lender of last resort. It is also supposed to in some sense manage the economy.

 

Anyways I basically agree with Cigarbutt that macro is useless for investing but I think it useful to discuss because as time goes on your understanding will improve. At least that is what I'm hoping.

 

Your response to number 2 is what most people think, in fact it was Bernanke's excuse for QE, the so called "liquidity problem" wasn't a run on banks like the Great Depression, rather it was the overnight commercial paper or interbank lending that froze is what he said. When you look at the FRED data on interbank lending during that period it actually never actually fell, in fact what really happened was the interest rate on the commercial paper shot up because banks didn't know who was solvent, it wasn't a matter of banks not having money. Therefore throwing more money at the system doesn't fix the real problem of why 2008 happened.

 

Why we still have this problem is we never dealt with the instruments that caused the confusion among banks, so whose to say we don't have another so called liquidity problem when the next recession happens?

 

The job of the Fed is to lend to solvent banks having liquidity issues, they clearly broke this rule.

 

 

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Guest Cameron

-Often wonder if this macro stuff is worth the time spent.

-Looking at the charts, especially the first one:

 

-if you look at the period that corresponds to the Buffett partnership years (1957-70), market headwinds were favorable and Mr. Buffett closed his funds "when statistical bargains disappeared". It's all about the risk-free rate, isn't it?

-the 1987 "crash" even if described as "epic" was really only a blip in the long term scheme of things. Simply a buying opportunity.

-if you "smooth" the line from the early 1980's to now (smoothing in the sense that the dot-com and the 2007-9 episodes become blips in the long term scheme), the upward move is mostly unprecedented and breathtaking.

-the Great Moderation, which remains largely unexplained, is still alive.

-the Great Moderation may have something to do with the greatest monetary experiment of all times.

 

So, what to do?

 

Even if concerns are valid, holding your breath may be detrimental to your capacity to survive.

Going long volatility may cause your investment thesis to decay.

The commodity price disconnect with asset prices that is described after the post-war short-lived recession did not correct immediately as a result of mean reversion forces.

There is a difference between thinking and shouting that the emperor has no clothes.

Occasionally the easy thing is the hardest.

Disclosure: sustainability bias.

 

I was trying to use the commodity example in terms of demand, to find a period that oil inventories were as high as they are now was back in the 1920s.

 

Also farmers following that recession were in a depression for the next 20 years until the 1940s. I just don't see where the economy has improved, the number of Americans with an auto loan increased from 70 million to 107 million since 2008. Credit card debt is about pre-crisis highs. Savings as a percentage of disposable income rose following the recession but is not back at only 3.6% and has been falling.

 

Whose the economy working well for today?

Screen_Shot_2017-10-28_at_10_30.28_AM.png.dfbaf405c5cf7c37a53d5a9c8a5fa8e9.png

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Your response to number 2 is what most people think, in fact it was Bernanke's excuse for QE, the so called "liquidity problem" wasn't a run on banks like the Great Depression, rather it was the overnight commercial paper or interbank lending that froze is what he said. When you look at the FRED data on interbank lending during that period it actually never actually fell, in fact what really happened was the interest rate on the commercial paper shot up because banks didn't know who was solvent, it wasn't a matter of banks not having money. Therefore throwing more money at the system doesn't fix the real problem of why 2008 happened.

 

Yes it was not a run on normal retail banks. Basically the commercial paper is issued by investment banks to fund their operations but the commercial paper is held by retail banks, money market funds, etc. Essentially all the derivative transactions, a large amount of credit, financing for corporations etc are done by investment banks like Goldman Sachs, Morgan Stanley etc. So the basic scenario we were looking at is:

 

1) First Bear Stearns and Lehman fail,

2) then interest rates increase on commercial paper and people start doubting that banks like Merrill Lynch can make it

3) Then a Money Market Fund breaks the buck because most MM funds basically hold commercial paper from the investment banks. Nearly every MM fund out there has huge exposure to a very small number of issuers: Deutch, GS, JPMorgan, Merrill, Citigroup.

4) In response to this there is a run on the MM fund that broke the buck. Then of course MM funds avoid commercial paper from issuers

5) Then Merrill fails. In response, most MM funds break the buck. There are a number of large prominent MM funds that would be down by over 20% if just Merrill failed. In fact I doubt there is a single MM fund in existence that would not be down over 20% if their largest issuer failed...and in 2008 a lot of their largest issuers were investment banks.

 

At this point the market for commercial paper is dead, people are scared shitless, every single person out there is trying to take their money out of Money Market funds as quickly as possible, the derivative market is dead, derivative consumers like pension funds, corporations etc are in a state of panic. Now of course this will also hit retail banking because old fashioned banks hold commercial paper and invest in MM funds.

 

Why we still have this problem is we never dealt with the instruments that caused the confusion among banks, so whose to say we don't have another so called liquidity problem when the next recession happens?

 

Your right we haven't solved the problem and this will re-occur as soon as we become complacent which we definitely will.

 

The job of the Fed is to lend to solvent banks having liquidity issues, they clearly broke this rule.

 

You are wrong about the FEDs job...as I stated in my post, the Fed now has a triple mandate which I would say its succeeding spectacularly at fulfilling. Inflation is low, unemployment is low, interest rates are low. You can disagree with what the FED job should be but the basic fact is the FED has done exactly and precisely what Congress told it to do.

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Guest Cameron

Your response to number 2 is what most people think, in fact it was Bernanke's excuse for QE, the so called "liquidity problem" wasn't a run on banks like the Great Depression, rather it was the overnight commercial paper or interbank lending that froze is what he said. When you look at the FRED data on interbank lending during that period it actually never actually fell, in fact what really happened was the interest rate on the commercial paper shot up because banks didn't know who was solvent, it wasn't a matter of banks not having money. Therefore throwing more money at the system doesn't fix the real problem of why 2008 happened.

 

Yes it was not a run on normal retail banks. Basically the commercial paper is issued by investment banks to fund their operations but the commercial paper is held by retail banks, money market funds, etc. Essentially all the derivative transactions, a large amount of credit, financing for corporations etc are done by investment banks like Goldman Sachs, Morgan Stanley etc. So the basic scenario we were looking at is:

 

1) First Bear Stearns and Lehman fail,

2) then interest rates increase on commercial paper and people start doubting that banks like Merrill Lynch can make it

3) Then a Money Market Fund breaks the buck because most MM funds basically hold commercial paper from the investment banks. Nearly every MM fund out there has huge exposure to a very small number of issuers: Deutch, GS, JPMorgan, Merrill, Citigroup.

4) In response to this there is a run on the MM fund that broke the buck. Then of course MM funds avoid commercial paper from issuers

5) Then Merrill fails. In response, 99% of MM funds don't break the buck...they fucking obliterate the buck. There are a number of large prominent MM funds that would be down by over 50% if just Merrill failed e.g. Pimco. In fact I doubt there is a single MM fund in existence that would not be down over 25% if their largest issuer failed...and mostly around 2008 their largest issuers were investment banks.

 

At this point the market for commercial paper is dead, people are scared shitless, every single person out there is trying to take their money out of Money Market funds as quickly as possible, the derivative market is dead, derivative consumers like pension funds, corporations etc are in a state of panic. Now of course this will also hit retail banking because old fashioned banks hold commercial paper and invest in MM funds.

 

To me this scenario is not a theoretical construct. I think with certainty this would have happened if the FED had not intervened. I used to know exactly what MM funds held. I knew their top concentrations by issuer....I automated the stress tests demanded by SEC 2a-7 in 2010. Their biggest risks are one of their top issuers defaulting.

 

Why we still have this problem is we never dealt with the instruments that caused the confusion among banks, so whose to say we don't have another so called liquidity problem when the next recession happens?

 

Your right we haven't solved the problem and this will re-occur as soon as we become complacent which we definitely will.

 

The job of the Fed is to lend to solvent banks having liquidity issues, they clearly broke this rule.

 

You are wrong about the FEDs job...as I stated in my post, the Fed now has a triple mandate which I would say its succeeding spectacularly at fulfilling. Inflation is low, unemployment is low, interest rates are low. You can disagree with what the FED job should be but the basic fact is the FED has done exactly and precisely what Congress told it to do.

 

I think we have already become complacent we placed to much emphasis on lending standards rather than the products that created the panic, like derivatives.

Also I never said that Fed shouldn't have intervened. I'm saying the added liquidity that we have had was not needed since the issue was insolvency, fix insolvency and liquidity returns.

Bernanke just so happened to study the Great Depression, was a follower of Milton Friedman and Anna Schwartz and felt that the Great Depression would have never happened if the fed increased the money supply through QE, and it just so happens the first crisis that Bernanke is faced with he does QE? Maybe a coincidence I don't know.

 

I'll let the woman that Bernanke based his economic framework after answer that question:

"Last year, when the credit market became dysfunctional and normal channels for borrowing broke down, the Fed misread the situation. It persisted in believing that the market needed more liquidity, even though this was not a solution to the market disturbances. The real problem was that because of the mysterious new instruments that investors had acquired, no one knew which firms were solvent or what assets were worth. At the same time, these new instruments were being repriced in the market. The firms that owned them then needed to restore their depleted capital"

 

Since you worked on the stress tests, I'm curious to know how the model includes the 1.2 quadrillion in nominal derivatives.

 

In terms of inflation being low, I agree in terms of actual goods prices, this isn't true when it comes to financial assets as I said, the high home prices and tight lending standards post crisis have decreased home ownership.

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Since you worked on the stress tests, I'm curious to know how the model includes the 1.2 quadrillion in nominal derivates.

 

I edited out that part later from my post.

 

You mean nominal derivative exposure. MM funds don't hold derivatives. So it never came up in stress tests for MMs. The nominal derivative thing  though is very deceptive. I can't really speak to derivatives clearing but I know that traders often will not cancel trades...they just layer them on top of each other.

 

So for instance this may happen:

 

Trader X has 20 million invested in Austrailia in equities and he wants to do a full currency hedge. He sell AUD short in the futures market with nominal 20 million.

 

The next day his AUD equities decrease by 5 million. In response the trader goes long AUD futures by 5 million

 

the next day his equities go up by X aud dollars...trader buy/sells futures in opposite direction to cancel out exposure.

 

As the trader is doing this the nominal value of his futures keep increasing because he never cancels his original derivative trades....he just keeps adding new ones. After 3 months the forward contracts expire and his nominal value of AUD futures goes to zero.

 

I used to run a risk system. Our risk system would keep slowing down as the month dragged on. Immediately after the rollover of the forward contracts our risk system would speed up again. We realized that the reason for this is that the number of positions in our system would increase from 10000 positions to something like 30000 positions because of all these FX forward contracts. In many case I don't even think the trader would book contracts based on net difference I think they used book a trade that would completely cancel the effect of original forward and then another in the opposite direction....

 

e.g. if my original fx forward trade is for 30 million and my exposure decreases by 5 million I would book a 30 million fx forward trade in opposite direction to cancel the original and then another long 25 to provide the exposure I want.

 

Thus the nominal value is hugely hugely misleading..especially since we typically would only be booking these through a small number of brokers and so the same broker would register the 30, then -30 and the long 25 and so he would know then net exposure is really only 25 and not the absolute nominal value of 25+30+30=85.

 

Also in addition to all this hedging by individual traders on their portfolios....there was top of the house hedging. A trader might want zero fx exposure but top of the house they might decide they wanted to negate that and have the exposure. And this is all happening in a SINGLE institution...in my case a large pension fund. So you could see huge nominal derivative exposures because of all this layering.

 

To get an idea of magnitude lets say each institution book two trades each day equivalent to their main exposure which I would get is equal to their AUM. One trade to cancel yesterdays trade and another to create the exposure they want. So for a 100 billion dollar fund, each day they would book two derivative trades with absolute nominal value of 100 billion and they would do this 250 days a year. Then consider a 18 trillion dollar economy like the US and you get 18 trillion * 250 days * 2 trades a day = 9 quadrillion in nominal derivative exposure. I might divide this by 4 since the trades rollover every quarter....and I get 2.25 quadrillion in exposure.

 

But ultimately all this is really just an issue of derivative backoffice settlements and booking. Its more of an accounting issue than a financial issue.

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I think we have already become complacent we placed to much emphasis on lending standards rather than the products that created the panic, like derivates.

 

I think the derivative issue has two components:

1) OTC's vs central clearing

2) opaque derivatives vs transparent ones.

 

To me you don't really have any problems with derivatives as long as 1) they are centrally cleared and 2) they are relatively transparent. Think Chicago Board of Trade like commodity futures. These derivative markets have been in operation for decades with basically no problems. The reason is that prices are readily available, there are markets and central clearing. Counterparty risk is basically mostly eliminated with central clearing.

 

Where you start getting problems is when you have OTC derivatives because then you have linkages between institutions that are non-transparent.

 

And second when you have non-transparent derivatives where the underlying is not really understood which was the case with products like CDO squareds where nobody knew which mortgages were part of the underlying.

 

The government did push banks away from OTC derivatives and towards central clearing but I can't really say how much because I don't really know much about these regulations.

https://en.wikipedia.org/wiki/Central_counterparty_clearing

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Guest Cameron

I think we have already become complacent we placed to much emphasis on lending standards rather than the products that created the panic, like derivates.

 

I think the derivative issue has two components:

1) OTC's vs central clearing

2) opaque derivatives vs transparent ones.

 

To me you don't really have any problems with derivatives as long as 1) they are centrally cleared and 2) they are relatively transparent. Think Chicago Board of Trade like commodity futures. These derivative markets have been in operation for decades with basically no problems. The reason is that prices are readily available, there are markets and central clearing. Counterparty risk is basically mostly eliminated with central clearing.

 

Where you start getting problems is when you have OTC derivatives because then you have linkages between institutions that are non-transparent.

 

And second when you have non-transparent derivatives where the underlying is not really understood which was the case with products like CDO squareds where nobody knew which mortgages were part of the underlying.

 

The government did push banks away from OTC derivatives and towards central clearing but I can't really say how much because I don't really know much about these regulations.

https://en.wikipedia.org/wiki/Central_counterparty_clearing

 

The easy credit mixed with derivatives gives me pause.

 

Assets have increased in sympathy and they can fall just as quick in sympathy. 

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2) It was a CONFIDENCE problem, that triggered a liquidity collapse. Liquidity is just money flow PLUS confidence in the conduit (pipe) you're flowing that money through; with the vast majority of money flowing through a very limited number of pipes. If a pipe blocks, money flows back up in front of it - & you get a liquidity collapse at its exit. At that point, simply questioning the other pipes is enough to block them to - and bring on widespread collapse. The money was there, it just wasn't getting through.

 

3 & 4) Demographic bias. Boomers are no longer building assets - they are also not content to simply live on investment returns, & are liquidating to fund retirement. Borrow against the McMansion for X years, downsize to something smaller - repeat, downsize to a nursing home - & die. And with every downsize they give stuff away, & don't buy new (using commodities to make that new product). 

 

3 & 4) Industry disruption. Financial services is built on 1) wealth never being spent, and 2) THE VAST MAJORITY of that wealth being passed on to future generations. Boomers spending their wealth means less domestic AUM & fees, and more foreign AUM & fees as they buy the assets being sold. A very new experience for NA industry.         

 

Raise the temperature slowly, and you will eat very well on cooked frogs;

raise it too quickly and dinner just jumps out

 

SD

       

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The easy credit mixed with derivatives gives me pause.

 

Assets have increased in sympathy and they can fall just as quick in sympathy.

 

This is the reason I think macro adds little. In the end in come down to vague impressions and prejudices that don't have strong predictive value. 

 

The most brilliant Macro argument I have ever seen in my life is this one:

http://www.gutenberg.org/files/15776/15776-h/15776-h.htm

 

So its possible if your brilliant. We need numbers and arguments based on numbers with a reasonably connected supporting story. Without that all we have are vague intuitions.

 

I guess what I am looking for is something like:

"The average American consumer is indebted to level X. Interest rates are level Y. This implies debt servicing costs of Q. These costs are unsustainable because....etc"

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Guest Cameron

The easy credit mixed with derivatives gives me pause.

 

Assets have increased in sympathy and they can fall just as quick in sympathy.

 

This is the reason I think macro adds little. In the end in come down to vague impressions and prejudices that don't have strong predictive value. 

 

The most brilliant Macro argument I have ever seen in my life is this one:

http://www.gutenberg.org/files/15776/15776-h/15776-h.htm

 

So its possible if your brilliant. We need numbers and arguments based on numbers with a reasonably connected supporting story. Without that all we have are vague intuitions.

 

I guess what I am looking for is something like:

"The average American consumer is indebted to level X. Interest rates are level Y. This implies debt servicing costs of Q. These costs are unsustainable because....etc"

 

That was provided in my original post, I have no problem creating a report if that would make my argument more valid.

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"Whose the economy working well for today? "

 

Rising asset prices benefit those have assets. The more the better and more and more so. Isn't this the objective (the so called wealth effect)?

 

https://realinvestmentadvice.com/fed-study-the-bottom-90-the-failure-of-prosperity/

 

That's assuming that there won't be a populist backlash against the establishment. ???

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"The most brilliant Macro argument I have ever seen in my life is this one:

http://www.gutenberg.org/files/15776/15776-h/15776-h.htm"

 

So this refers to Keynes work on the economic consequences of peace. Indeed brilliant. Some numbers but a lot of common sense.

Words that should have been heeded?

 

Keynes was a complex man and his opinions have evolved, sometimes even coming full circle.

His 1919 paper dealt among others about the dangers of currency debasement.

I understand that he subsequently advised FDR against an expansive monetary policy because hoping to get the economy going this way was like trying to get fat by buying a larger belt.

Isn't the velocity curve graph these days supporting this loose belt hypothesis?

 

Also interesting to note that Keynes, the great mind, apparently did not do so well with macro investing. My understanding is that his record became much better after the 1929-32 debacle when he used a value-based framework. Food for thought.

 

Yeah, a lot of this is based on intuitions and impressions. In 1919, Keynes felt "dreadful anticipations". The sad thing is that he was right.

Cameron, please keep the numbers coming.

 

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Was wondering if I could get any opinions as this has been a topic on my mind for recently.

 

1. The Fed caring more about consumption inflation rather than asset inflation. Have people been being lulled into thinking they are a lot more wealthy then they really are. This is what the Fed wanted to happen, raise asset prices, people will feel rich therefore they spend more but that means nothing because debt service payments happen at some point regardless of how rich you feel. But at some point that has to get overextended. Also on the topic of people being lulled, if you feel that the only reason stocks are high in relation to fundamentals is because of low interest rates than couldn't that be considered a type of overoptimism. i.e you starting loosening your investing standards because you can use interest rates as an excuse to buy a certain stock you otherwise wouldn't.

You are right that the Fed cares more about consumption inflation rather than asset price inflation. Because that is their job. They have a price stability mandate and no asset price stability mandate. They keep an eye on asset markets for sure as a part of the whole system for sure but it's not nowhere near the top of their concerns. They also don't have the tools, nor the authority to regulate asset prices.

 

Fed's monetary focus had more to do with demand side of the economy. At some point you may get a wealth effect but that's more of a feedback/bonus rather than the goal.

 

2. Was 2008 a liquidity or solvency problem, if the former is true than QE was really necessary, if the latter than it wasn't. The reason I bring this up is during the middle of the Great Depression when QE was implemented we didn't see this mass increase in asset values like we do today. i.e inflation adjusted home prices not going up at all during the years of Great Depression QE but today they are at 2005 levels. Also commercial real estate on an inflation adjusted basis is above pre-crisis levels.

2008 was both a liquidity crisis and a solvency crisis. Of course at that point no one wanted to say the S word because you don't want to add fuel to the fire. In 2008 I was working for a large and well capitalized bank. We were way better than most institutions because we had shitloads of deposits financing us. But we also had repo and interbank financing. When the crisis hit repo just disappeared and overnight lending went to 7%. That's a big liquidity problem. We may have been ok because of our deposits but not many banks can survive when they have to borrow overnight at 700 bps.

 

Now on the other hand AIG, Citi, and a number of other institutions were insolvent. AIG or Citi alone were big enough to brick the entire system if they went tits up. Both and a number of others doing it at the same time would have been unbelievably destructive. So that was the solvency crisis.

 

But the QE was not implemented to deal with the liquidity or the solvency crisis. The QE was applied to deal with the collapse in demand that followed the initial shock.

 

The 1932 QE was actually quite successful. It brought yields down a lot which is what it was intended to do. You also can't really superimpose impose the Great Depression over the Great Recession very cleanly because it was a vastly different world back then. For example if I take away Fannie and Freddie I think the recent experience with home prices would have been very different indeed.

 

3. The household in the United States is increasingly adding consumer debt, while rolling over auto loans into negative equity. Household debt deleveraged after the spike in household debt leading up to the crisis but only to 80% of GDP back to its historic trend while service payments have stayed flat at around 10% of DI since 2012. To add home ownership is at 1960s levels so this report doesn't take into account rent expenditures. Corporate debt has doubled since 2008 from around $3 trillion to $6 trillion with this mostly going into share buybacks, while this may be great for the shareholder in the short term I look at this the same way as if someone uses a credit card to buy consumer goods. Meaning they are taking on debt that isn't being used to create cash flows to pay off that debt. At some point this becomes unsustainable.

I'm not exactly sure what you're trying to say here. Nominal debt doesn't really matter that much. It will increase ever forward. It's part of the story GDP grows nominal debt will grow. Yes households have delevered back to 80% to GDP. I can't really tell if that's good or more should be done. It seemed to have stopped here for now so maybe households are fairly comfortable at this level. The economy seems to get some traction here which is good. But investment and inflation remain subdued which still indicate a fairly weak demand situation. You don't really want to force deleveraging in such a place. Once the economy improves further you can go for it.

 

The home ownership rate is something people like to play bullshit games with. For example, the home ownership rate currently is 63.7%. So come and say: "that's the lowest home ownership rate since the 60s". Well actually it isn't really. It's pretty much the lowest home ownership rate since 1994 when home ownership was at 63.8%. After 94 home ownership took off like a rocket and peaked at 69 right before GFC. We know now that at that point people it was excessive and a lot of people that had no business owning homes did. For most of US history home ownership has been below 65%.

 

I don't know what the "right" home ownership rate should be but we're probably not far from it. I also don't expect a big pop in the ownership rate. The current generation that should be buying homes already carries a lot of debt from student loans. It also went through a majour traumatic event - the GFC. Also rents in the US are mostly decent. This environment won't endear them to buy homes. Also why focus on home ownership rate. We just went through an event that showed us that a high home ownership rate is not exactly a good thing.

 

In regards to corporate debt and buybacks. Corporate debt reached 3T in 2004. It was higher in 2008. Now you're right it's about 6T. But corporate profits also doubled from 2004 to present. So really it's not that surprising. Corps target debt to earnings ratios. The fact that a lot of money went to buybacks isn't surprising either. The fact that they faced weak demand means they faced a lack of economic investment opportunities. So they couldn't spend the money to create new cash flows as you put it. So they returned it to shareholders instead. Money went more towards buybacks than divvies because buybacks help with that stock options business too.

 

4. Lastly global commodity prices have collapsed 70% since 2014 while asset prices have increased, something that happened following the deflationary recession in 1919-1920. Also most Americans haven't participated in the recovery, much like in 1919-1920 where we had a farm land collapse.

 

I have put a couple charts at the bottom in relation to above. As I said any thoughts or opinions are more than welcome.

Yes commodity prices have collapsed. That's what commodities do. They go through super cycles and they had a super cycle. Did you really think that oil (or insert your commodity here) will continue to trade at 160 when it cost 40 or 50 per barrel to make? The reason why they have super cycles is because projects have long lead times. Supply gets tight and price runs up. The juicy price triggers investment. A lot of supply comes to market and prices collapse. It's an old story. The fact that asset prices rose is not so relevant. GOOGL investors don't really care what the price for iron ore is.

 

I would also posit that most Americans have participated in the recovery just to various degrees. But it's not like most Americans were wildly prosperous before the GFC and now that's gone. It was varying degrees then it's varying degrees now. Maybe more on that in a later post.

 

Lastly, from your subsequent posts you seem to want to draw a lot of lines. What about the Fed and asset prices, how about stock prices? What about the Fed and OTC derivatives. That view is wrong. The Fed's job has to do with the real economy, not the asset markets. And definitely not with OTC derivatives. The Fed has a few jobs to do though. To act as a lender of last resort. To stabilize prices - currently that means low and stable inflation. More specifically and inflation target of 2% not above, not below - I think 2% is too low but that's another story for another day. It's other mandate is to maximize employment - that actually doesn't mean it's driving toward maximum employment but actually towards NAIRU.

 

As you see nowhere in there is anything about asset markets. You and me are market participants and no one is forcing us to do a stupid deal and buy a security at an elevated price. OTC derivatives are largely unregulated. You want to do a dumb deal with Goldman Sacks - go right ahead. There's also no written rule that you or I have a divine right to earn X% on some security whatever that may be.

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If asset prices were to fall in sympathy for long enough then we would have a depression, this was the issue in 2015 when QE was halted by every major central bank so asset price stability, at this time, is the fed's job. Bernanke said he wanted to increase asset prices I'm not the one contending this. I think you fail to realize that the economy is being held up by asset prices, not real economic growth, that's the point of QE. As you can see below about 80% of Americans haven't participated, in other words 80% of Americans are still living in an economically depressed state.

 

I was using the commodities example as an analogous period 1919 was the end of a commodity super cycle as well.

 

I can tell you at this moment that the household debt being added is not good, especially auto debt, if you would like the data on that I have no problem supplying it. What you missed touching on is the savings rate falling, that means people are spending beyond their means. Also I think your downplaying household debt being at these levels, most of the "deleveraging" was mortgage write downs, not debt repayments. The majority of the debt being taken on by households are those who haven't had a wage increase in 20 years, debt can't increase more than income forever.

 

The economy is just as dependent on asset prices appreciating as it was before the housing crisis. I would even argue its far more dependent.

Screen_Shot_2017-10-28_at_10_13.31_PM.png.f4324dc5684feab46500fc6bdf7a2850.png

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I forgot to add, in regards to home ownership I agree we don't know what the true rate should be, but it adds to my point. Home prices have appreciated following 2012 largely because of private equity and hedge funds buying large amounts of single family homes. The increase in home prices has priced out those who can't buy at an above inflation rate, especially if their credit history was ruined following the crisis. and the poorest of previous home owners don't get to participate in the price appreciate, it was the wealthy. Blackstone was previously the largest landlord in the country.

 

Rents have increased 18% in five years.

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If asset prices were to fall in sympathy for long enough then we would have a depression, this was the issue in 2015 when QE was halted by every major central bank so asset price stability, at this time, is the fed's job. Bernanke said he wanted to increase asset prices I'm not the one contending this. I think you fail to realize that the economy is being held up by asset prices, not real economic growth, that's the point of QE. As you can see below about 80% of Americans haven't participated, in other words 80% of Americans are still living in an economically depressed state.

 

I was using the commodities example as an analogous period 1919 was the end of a commodity super cycle as well.

 

I can tell you at this moment that the household debt being added is not good, especially auto debt, if you would like the data on that I have no problem supplying it. What you missed touching on is the savings rate falling, that means people are spending beyond their means. Also I think your downplaying household debt being at these levels, most of the "deleveraging" was mortgage write downs, not debt repayments. The majority of the debt being taken on by households are those who haven't had a wage increase in 20 years, debt can't increase more than income forever.

I was gonna reply to cigarbutt on his post about participation, but I guess I can maybe kill 2 birds with one stone here. The thing that 80% of people have not participated is bullshit. You're referencing family net worth. But that's not an indication of participation. If before the recovery you had no job and were in danger of loosing your house/wife/kids/whatever and now you have a job - maybe not exactly the job you've hoped for - and now you can avoid all that then you've participated in the recovery big time.

 

If you're an affluent person like me who was got fully invested in the early naughts (in spite of all the bullshit about too much risk in the market, etc that ppl were spewing at the time) then oh yeah you've increased your net worth a lot. But the first cohort never had a chance of doing that so it's not really a fair comparison.

 

In addition, no the economy is not being held up by asset prices. It actually found a grip and getting some traction. You have that thing where that trucker has a job now and can finally take his baby girl to Disneyland on a holiday. That ensures jobs for the Disney ppl, who then buy other shit, etc, etc. If NFLX or FB stock takes a dive it won't change much of that.

 

The auto debt I will admit is a bit concerning. I haven't spent too much time looking at that so if you have detailed numbers go ahead and post them. From what I know I would say that the numbers may not be as bad as one would think. Post GFC you had big changes in terms for auto loans. Much longer terms (72 mo?) and a lack of used cars for a large number of years which pushed people into the subprime car market. I'm not saying it's good, just that it's probably less bad that you think.

 

Look, I'm not trying to say that things are great for the lower quintiles. They're not. But the problems they have did not arise from the GFC. They were screwed long before that. However, the measures that were taken did help them. Put yourself in the place of one of these men in the lower quintiles that doesn't have any financial assets because he doesn't and never really did have any money to buy any. Now he's got a job and can feed his family and the stock market is kinda bubbly. Before he didn't have a job, couldn't take care of his family, but assets were fairly (or under priced) priced at depressed levels. Which situation do you think he's rather be in?

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If asset prices were to fall in sympathy for long enough then we would have a depression, this was the issue in 2015 when QE was halted by every major central bank so asset price stability, at this time, is the fed's job. Bernanke said he wanted to increase asset prices I'm not the one contending this. I think you fail to realize that the economy is being held up by asset prices, not real economic growth, that's the point of QE. As you can see below about 80% of Americans haven't participated, in other words 80% of Americans are still living in an economically depressed state.

 

I was using the commodities example as an analogous period 1919 was the end of a commodity super cycle as well.

 

I can tell you at this moment that the household debt being added is not good, especially auto debt, if you would like the data on that I have no problem supplying it. What you missed touching on is the savings rate falling, that means people are spending beyond their means. Also I think your downplaying household debt being at these levels, most of the "deleveraging" was mortgage write downs, not debt repayments. The majority of the debt being taken on by households are those who haven't had a wage increase in 20 years, debt can't increase more than income forever.

I was gonna reply to cigarbutt on his post about participation, but I guess I can maybe kill 2 birds with one stone here. The thing that 80% of people have not participated is bullshit. You're referencing family net worth. But that's not an indication of participation. If before the recovery you had no job and were in danger of loosing your house/wife/kids/whatever and now you have a job - maybe not exactly the job you've hoped for - and now you can avoid all that then you've participated in the recovery big time.

 

If you're an affluent person like me who was got fully invested in the early naughts (in spite of all the bullshit about too much risk in the market, etc that ppl were spewing at the time) then oh yeah you've increased your net worth a lot. But the first cohort never had a chance of doing that so it's not really a fair comparison.

 

In addition, no the economy is not being held up by asset prices. It actually found a grip and getting some traction. You have that thing where that trucker has a job now and can finally take his baby girl to Disneyland on a holiday. That ensures jobs for the Disney ppl, who then buy other shit, etc, etc. If NFLX or FB stock takes a dive it won't change much of that.

 

The auto debt I will admit is a bit concerning. I haven't spent too much time looking at that so if you have detailed numbers go ahead and post them. From what I know I would say that the numbers may not be as bad as one would think. Post GFC you had big changes in terms for auto loans. Much longer terms (72 mo?) and a lack of used cars for a large number of years which pushed people into the subprime car market. I'm not saying it's good, just that it's probably less bad that you think.

 

Look, I'm not trying to say that things are great for the lower quintiles. They're not. But the problems they have did not arise from the GFC. They were screwed long before that. However, the measures that were taken did help them. Put yourself in the place of one of these men in the lower quintiles that doesn't have any financial assets because he doesn't and never really did have any money to buy any. Now he's got a job and can feed his family and the stock market is kinda bubbly. Before he didn't have a job, couldn't take care of his family, but assets were fairly (or under priced) priced at depressed levels. Which situation do you think he's rather be in?

 

I'm sorry but if we call someone having to spend all their income as a way to survive and not saving a better outcome then the alternative then we have a problem.

 

Not only is our economy being held up by asset prices so is the UK's. Capital gains are the cash out refi's of 2017

 

The file I was going to post for auto's is to large to post.

 

Screen_Shot_2017-10-28_at_11_26.41_PM.thumb.png.1d3ae005f140f07ce8f6becd10928ec6.png

Screen_Shot_2017-10-28_at_11_13.48_PM.png.cf5a7e8903f588c95b62c128b0ad704a.png

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I'm sorry but if we call someone having to spend all their income as a way to survive and not saving a better outcome then the alternative then we have a problem.

 

Not only is our economy being held up by asset prices so is the UK's. Capital gains are the cash out refi's of 2017

 

The file I was going to post for auto's is to large to post.

I'm not saying there is no problem. There is indeed a problem. Others may disagree but I think it's a big problem.

 

What I'm saying that your focus is wrong. The problem has nothing to do with the GFC or QE. The GFC (not its medicine) may have made it worse but it wasn't the cause of the problem. The problem started way before the GFC. If you're concerned about the problem you have to accurately diagnose it. If you have a gangrene on the foot you don't want to operate on the liver.

 

Sadly I'm not optimistic.

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I'm sorry but if we call someone having to spend all their income as a way to survive and not saving a better outcome then the alternative then we have a problem.

 

Not only is our economy being held up by asset prices so is the UK's. Capital gains are the cash out refi's of 2017

 

The file I was going to post for auto's is to large to post.

I'm not saying there is no problem. There is indeed a problem. Others may disagree but I think it's a big problem.

 

What I'm saying that your focus is wrong. The problem has nothing to do with the GFC or QE. The GFC (not its medicine) may have made it worse but it wasn't the cause of the problem. The problem started way before the GFC. If you're concerned about the problem you have to accurately diagnose it. If you have a gangrene on the foot you don't want to operate on the liver.

 

Sadly I'm not optimistic.

 

I think we both were at the same endpoint but have taken different paths to get there.

 

While I don't think GFC was the cause I think QE delayed the inevitable. Had the household deleveraged to the same levels we did following the Great Depression I firmly believe we would be in a immensely better position. It may have been more beneficial to let the fire burn in terms of asset prices, not firms failing, for QE to have the same impact it did in the Great Depression. I don't think we have learned anything and the next recession I feel will ultimately be brought on by some type of panic will just be a replaying of the GFC.

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"If you have a gangrene on the foot you don't want to operate on the liver."

I submit that giving antibiotics, although slightly less grotesque, will not improve the outcome.

Nobody likes to hurt.

Optimism and patience required but the rehab may take a while.

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I think we both were at the same endpoint but have taken different paths to get there.

 

While I don't think GFC was the cause I think QE delayed the inevitable. Had the household deleveraged to the same levels we did following the Great Depression I firmly believe we would be in a immensely better position. It may have been more beneficial to let the firm burn in terms of asset prices, not firms failing, for QE to have the same impact it did in the Great Depression. I don't think we have learned anything and the next recession I feel will ultimately be brought on by some type of panic will just be a replaying of the GFC.

I'm sorry that's just wrong.

 

Without a double blind controlled study it's hard to determine the exact efficacy of a policy. In economics we're not allowed to do that because it would be incredibly inhumane and just flat wrong. About delaying the inevitable I would posit this. Most people that get cancer die of cancer. The treatment and drugs just delay the inevitable. Should we not administer treatment and drugs? Yea I know it's not a fair comparison. But the Fed administers monetary policy -  QE is a monetary policy tool. The problems of income and wealth inequality preceded the GFC and were not caused by monetary policy. Monetary policy won't solve them. But like cancer medicine it may help the patient along.

 

Furthermore you say that if we had deleveraging like the Great Depression we'd be in a better place. That is absurd. That last thing you want to have is deleveraging in a depressed economy. That is disastrous. If you had deleveraging like the Great Depression we wouldn't be where we are. We'd be in 1933. Where we are may not be perfect but nobody would trade this for 1933. The firm would not be burning because of asset prices, the firm would be burning because it has no business. Hoping for a replay of the Great Depression to decrease income inequality while it would work mathematically is insane.

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"Hoping for a replay of the Great Depression to decrease income inequality while it would work mathematically is insane."

Mellon's recipe was definitely not very popular.

 

To figure this out, I think it is interesting to review what Richard Koo (the balance sheet recession "expert") said about this when he explained how "successful" Japan was in the 1990's when the government leveraged to balance private deleveraging. He often showed (around the early 2000's) a graph depicting how nominal GDP grew (muted but positive) and how GDP would have hypothetically cratered absent public "support".

But now he seems to say that Japan hasn't pulled the fiscal arrow enough (?). This has been going on for more than 25 years and it looks more and more like palliative care.

 

Question: If there is anybody insane, who is it?

 

To deliver chemotherapy, an informed consent is necessary.

Please show me the money.

Tell me where I'm going to die so I don't go there.

 

 

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