IBD gets the facts right, but misses the point

A recent editorial from the Investor's Business Daily argues:

The greatest impediment to oil discovery and recovery is government. Great swaths of onshore and offshore oil resources have been placed off-limits by our government. We don't even really know what we have — and what we know is there, we can't get at.

This just shows it is possible to get all the details right and still draw an absurd conclusion.

National oil companies may be inefficient piñatas but there is no way this is going to change. The potent mix of nationalism, populism and patronage is a near unbreakable iron triangle. Mexico should be the test case. They seem willing to turn into net importers of petroleum products rather than go to market mechanisms with foreign investment.

The green phobias of the US urban electorate may similarly be irrational but they are a political fact of life. If a Republican President with Republican majorities in both the House and Senate couldn't open up the North Slope, what other set of political facts will do the trick? If California going de facto bankrupt couldn't get production restarted in the Santa Barbara Channel, what will?

So while there theoretically may be more oil, the issue of whether there will be effective supply in 10-20 years is quite real.

To Sell or Not to Sell in May

These are all from Bloomberg.

August 4, with the headline, "'Sell in May' Fails as MSCI World Rallies 19%"

Global equity investors who follow the Wall Street axiom to “sell in May and go away” are missing out on the biggest gains in at least four decades.

May 1, with the headline, "'Sell in May' Strategy in U.S. Stocks Seen as Prudent This Year":

"Sell in May and go away'' became a Wall Street axiom two decades ago, thanks to the Stock Trader's Almanac. The strategy may be more compelling than usual for U.S. stock investors this year, according to its editor.

May 4, with the headline, "'Sell in May, Go Away' Unwise This Year, UBS Says":

U.S. investors should stick with stocks and ignore the axiom of “sell in May and go away,” according to David Bianco, UBS AG’s chief equity strategist.

No Arbit commentary is needed.

CNN: Chasing Mythic Inflation

Central banking historian Allan Meltzer's latest piece on the CNN Money website raises the specter of inflation, arguing that the Fed must act now lest it become too late to save us. Please.

Dr. Meltzer writes:

The Fed has to remove most of the remaining $700 billion increase in bank reserves that it supplied in the past year before the banks use them to increase money growth.

Postulating money creation here totally ignores the overall wealth destruction we have seen. Given securitization and financial engineering, are other forms of wealth not near money these days?

The professor continues:

Once the economy recovers, banks will start to lend to their customers and attract new ones. The Fed must be willing to let lending and bond rates rise as banks reduce their reserves.

Postulating massive new loan growth once this supposed recovery happens ignores the giant debt overhang we already face. It also ignores the extremely weak balance sheets at the banks -- most are in no position to make large-scale loans -- and the lack of credit-worthy borrowers -- again, debt overhang plus massive overcapacity in everything except petroleum, high-quality medical care, and certain minerals.

Finally:

This problem repeats the experience of 1966-67, 1969-70, 1973-75, and other times. Outside pressures on the Fed increased when the unemployment rate reached about 6.5% or 7%, well below its current or prospective level. That ended the anti-inflation commitment.

There is only one exception: the Volcker disinflation of 1979-82. Paul Volcker was the most independent chairman in the Fed's modern history.

Using the Volcker example without comparing the inflation level at that time compared with other recessions. There was a veritable tsunami of built-in inflationary expectations after the debacle of the 1970s. Right now you have the reverse: no one has pricing power and everyone knows it. Plus, many of the big players are East Asians who go for market share regardless of lack of profit.

New York Times Confused: Cheap Money is NOT Easy Money

The New York Times should probably stay away from financial journalism, better suited as it is to provide fashionable Manhattan elites with bathroom reading. Among their latest sins is conflating cheap money with easy money.

Cheap money means low interest rates. The lower the rate, the less you pay for the loan; ergo cheap money. Easy money means loans are easily available. The more credit available and the more willing lenders are to loan, the easier it is to obtain a loan.

We have cheap money. We do not have easy money. We did for a bit during the second term of President Bush -- liar loans, massive financial debt without the usual restrictive convenants, etc. -- but that is the past. Lending institutions are insisting on proper vetting, proper security and convenants, etc. As a result, macro loan figures are falling.

Low interest rates allow the institutions to make easy profits -- rebuilding their capital base -- and keep floating rates from resetting, triggering massive new rounds of defaults on mortgages and similar.

The supposed inflationary effects simply do not exist in the real economy, a fact that the NYT article thankfully recognizes:

The huge sums of money that the Fed has injected are potentially inflationary as a recovery takes hold. Slack utilization, however, is an offset. With millions of people unemployed or underemployed, and factories operating well below capacity, there is plenty of room, in theory at least, to step up output and avoid inflationary shortages as demand rises.

Too much capacity, too little demand -- this is a worldwide problem and unlikely to end soon.

What the article misses is the potential for new asset bubbles as the money chases a better return than T bills. Every time the players feel a bit safe from systemic implosion, they start selling T bills chasing yield. Yet the supposed economic recovery simply isn' there in the real economy. Depending on how you read it, things have either bottomed or are getting worse much more slowly.

CIT won't be rescued; CIT has been rescued

There was no way the FT or anyone else could've predicted the rescue, which is kind of the point.

Financial Times, "CIT on the brink after bail-out talks fail," July 17:

Shares in CIT, the US small business lender, fell more than 70 per cent yesterday after the failure of government bail-out talks prompted growing fears of a bankruptcy filing.

The company was yesterday scrambling to obtain last-minute financing commitments from lenders that could help CIT persuade the Federal Deposit Insurance Corporation to allow it to transfer assets to its banking subsidiary, said people close to the situation.

However, chances of success were slim, these people said, and the company was also engaged in talks with lenders about financing that would allow the business to keep operating while in bankruptcy.

Financial Times, "CIT board approves $3bn rescue package," July 20:

CIT’s board on Monday approved a two-year, $3bn rescue package with a group of lenders enabling the troubled US finance group to avoid a bankruptcy filing, after round-the-clock weekend talks.

Bloomberg on the ECB vs. the Fed

Bloomberg is frequently among the best in business journalism, but this July 17 article by columnist Mark Gilbert, entitled "Keynes Arouses Fed as ECB Looks for Monetary Exit," misses the mark on a few critical points.

Essentially, Gilbert lays out a framework for understanding monetary policy options for the European Union and the United States:

The battle lines are being drawn. On the Keynesian side of the equation is the Fed (with an acknowledgment that these are strange days indeed when the U.S. seems more left-leaning than mainland Europe), under a new president who has no qualms about spending public money to either prop up or appropriate private companies, much as John Maynard Keynes might have advocated...On the other is the ECB, sired as it was by a Bundesbank inculcated with memories of German hyperinflation in the 1920s, and much more in tune with Milton Friedman’s warnings that inflation is always and everywhere a monetary phenomenon.

In short, the Americans are tempted to be soft on inflation (cut or keep rates low) and the Europeans are tempted to be hard on inflation (raise rates). Fair enough, but the Weimar Republic's hyperinflation has little to do with it. Some thoughts:

1. The Federal Reserve is an established institution with nearly a century of political capital to shield it from second guessing. The European Central Bank, conversely, is a new institution and none of the major EU nations are comfortable allowing it to manage policy on a supranational basis. The result is an ECB that must work much harder to prove to the market that it is independent, while the Fed finds it easier to shrug off congressional grandstanding for easy money.
2. Weimar inflation of the 1920's, while undoubtedly an important historical example of what can happen, occurred before most people alive today were born. The near collapse of the German mark after World war II, plus the endless inflationary decades from the Latin Europeans into the 1980’s, are within the memory of most European policy makers and many European voters.
3. European's structural rigidites -- labor markets, enormous government sector, high levels of regulation, etc. -- mean the upside to growth is lower than in the US. This, again, favors the hard money position.
4. Europe shows a much more balanced trade picture than the US, so there is less of a push by the world to get its consumers spending again. This is a pressure at the margin, but a serious one. To an unhealthy extent, the world economy turns on the US as consumer of last resort.

From the Bloomberg piece:

“We’re not going to repeat the classic mistake that the U.S. made in the 1930s and that governments around the world have made in financial crises, by at the first sign of hope putting the brakes on prematurely,” U.S. Treasury Secretary Timothy Geithner said this week...Those are scary words for the growing crowd who expect money supply -- that economic relic we all used to scrutinize in the bygone years before central-bank minutes and inflation targeting -- to come back into fashion with a vengeance.

This misses a critical point. The US monetized, directly or indirectly, a great deal more wealth via credit lines on real estate and such. The asset wealth destruction of the past three years more directly cuts our money supply than Europe's or Asia's. So, even if one is a monetarist the question becomes: what money supply definition do you use? It is commonly agreed a great deal of thepseudo-boom in the US was fueled by using housing and stock market wealth as ATM machines. This vanished. So US money supply may be down far more than most figures show. In reverse, a fair portion of the US growth of national debt goes off to East Asian treasuries, where it is for now sequestered and out of the money supply of all concerned.

Granted, this is not a workable long term situation, but it is a reasonable description of current and near future reality. The US imports based on magic money with no concept by the East Asians that the US is ever to run a surplus to repay the "debt." This is destabilizing in many ways, but in monetarist terms it is simply outside the Milton Friedmanite definitions of money.

One last point. From the piece:

It may mean, though, that investors have a clear choice. Buy dollars, on the basis that preemptive ECB action will strangle the European economy and you don’t want to own the currency of a region in trouble. Or buy euros, on the grounds that higher ECB rates will deliver a higher return at a time when the U.S. is willing to debase its currency and risk blowing bubbles. Either way, sitting on the fence waiting for Goldilocks doesn’t seem like an option.

The currency bet is a no-brainer. In the short term, it is always better to bet interest rates over fundamentals. There are massive other factors at work, but fundamentals play little real role in currencies these days.

Terror in Indonesia, Oil Drops; Unrest in Iran, Oil Rises

Bloomberg News and the Associated Press can't seem to agree on whether a fragile security situation is good or bad for oil prices. Oil dropped overnight before markets opened on Friday last week, but then surged the rest of the day. Bloomberg partly attributed the fall in prices to the terrorist attacks in Indonesia, while the AP partly attributed the rise in prices to unrest in Iran.

In other words, whatever's happening in the world is the cause of whatever happens to oil--but only partly, in case we need some wiggle room, right?

From the morning of Friday, July 17:

Crude oil fell in New York for the first time in three days as the dollar rose against the euro, limiting the appeal of commodities as an investment.

The dollar climbed as investors sought safer assets amid speculation that CIT Group Inc. will file for bankruptcy, and after two explosions hit hotels in the Indonesian capital of Jakarta...

Investors sought safer assets after the blasts including the dollar and the yen. The U.S. currency gained to $1.4064 per euro from $1.4148.

Then later from the AP that same day:

Oil prices surged through the week, rising above $63 a barrel Friday as China reported faster economic growth and political turmoil in Iran raised concerns about future oil supplies.

Nevermind that the "turmoil in Iran" has been going on for a month now, but whatever.

And to top it off, Bloomberg reported early Saturday morning:

The dollar and the yen posted the biggest declines against the euro since May as corporate earnings topped forecasts and U.S. reports showing gains in housing and a slower decline in industrial production...The U.S. currency fell 1.2 percent to $1.4102 per euro yesterday, from $1.3936 on July 10.

But wait -- didn't they just tell us less than 24 hours earlier that the dollar was appreciating as a result of the terrorist attacks?