Indeed, as we indicated earlier, the Citigroup style of rogue financial behemoths should have been put out of their misery by the FDIC when they failed in 2008. But their screaming insolvency—including that of Goldman, Morgan Stanley, Bank of America and others—was covered up by multitrillion-dollar bailouts from the Fed’s alphabet soup of liquidity infusions and TARP.
Indeed, Washington’s desperate thrashing around in the bailout arena resulted in the worst of all worlds. The problem caused by too-big-to-manage government-enabled financial conglomerates was made far bigger by Washington-sanctioned and directed megamergers. These included the shotgun marriage of Bank of America and Merrill Lynch, the federally subsidized takeovers of Bear Stearns and Washington Mutual by JPMorgan and the rescue of Wachovia by Wells Fargo.
These mergers were outright madness. As shown in the chart below, we now have five federally subsidized and underwritten behemoths that control $7 trillion of assets and nearly 50% of the banking market. And these figures do not include Goldman Sachs and Morgan Stanley, which also have bank charters, and would add another $1.7 trillion of assets and bring the concentration level to upward of 60%.
By contrast, before the age of Bubble Finance really got underway in 1990, the combined balance sheet footings of the five largest U.S. banks were only $400 billion or barely 5% of today’s level; and their collective market share was just 10%.
Again, this is not about bigness per se or anti-trust populism, but about dangerous financial conglomerates that would not even exist without the dispensations of government, and would not persist if they did not hire half of the K Street lobby complex to protect their privileges.
At the end of the day, the destructive form of central banking carried out by the Fed, ECB, BOJ and other major central banks needs to be eliminated entirely. But in the interim, bringing the worst excesses of Wall Street to heel under a Super Glass-Steagall regime would go a long way toward preventing another financial meltdown like that of September 2008.
And that gets us to the 2016 campaign. By embracing this kind of Super Glass-Steagall, Donald Trump would consolidate his base in Flyover America and reel in some of the Bernie Sanders throng too.
The latter will never forgive Clinton for her Goldman Sachs speech whoring. And that’s to say nothing of her full-throated support for the 2008 bank bailouts and the Fed’s subsequent giant gifts of QE and ZIRP to the Wall Street gamblers.
To be sure, the big Wall Street banks will whine that they face unfair competition from giant foreign banks that are protected, subsidized and privileged by their governments. But there is a simple answer to that straw man.
If the free market does not reward giant financial conglomerates for the risk-reward equations buried in their derivatives books or opaque holdings of junk bonds, OTC bilateral trades or the maturity mismatches in their funding accounts, then they do not add to efficient economic production or wealth creation.
So let foreign banks pursue this wasteful folly until the cows come home. And foreign socialist governments are more than welcome to bear the losses, even as their crony capitalist banksters scalp the windfall profits.
CHAPTER 14
Bubbles in Bond Land—It’s a Central Bank-Made Mania
SOMETIMES AN APT JUXTAPOSITION IS WORTH A THOUSAND WORDS, and here’s one that surely fits the bill.
Last year Japan lost another 272,000 of its population as it marched resolutely toward its destiny as the world’s first bankrupt old-age colony. At the same time, the return on Japan’s 40-year bond during the first six months of 2016 has been an astonishing 48%.
That’s right!
We aren’t talking Tesla, the biotech index or Facebook. To the contrary, like the rest of the Japanese yield curve, this bond has no yield and no prospect of repayment.
But that doesn’t matter because it’s not really a sovereign bond anymore. These Japanese government bonds (JGBs) have actually morphed into risk-free gambling chips.
Front-running speculators are scooping up whatever odds and sots of JGBs remain on the market and are selling them to the Bank of Japan (BOJ) at higher and higher and higher prices
At the same time, these punters face virtually no risk. The BOJ already owns 426 trillion yen of JGBs, which is nearly half of the outstandings. And that’s saying something, given that Japan has more than one quadrillion yen of government debt, which amounts to 230% of GDP.
Moreover, it is scarfing up the rest at a rate of 80 trillion yen per year under current policy, while giving every indication of sharply stepping up its purchase rate as it segues to outright helicopter money.
It can therefore be well and truly said that the BOJ is the ultimate roach motel. At length, virtually every scrap of Japan’s gargantuan public debt will go marching into its vaults never to return, and at “whatever it takes” in terms of bond prices to meet the BOJ’s lunatic quotas.
THE BIG FAT BID OF THE WORLD’S CENTRAL BANKS
Surely, BOJ Governor Kuroda will go down in history as the most foolish central banker of all time. But in the interim the man is contributing—along with Draghi, Yellen and the rest of the central bankers’ guild—to absolute mayhem in the global fixed-income market.
The effect of their massive bond purchases, or so-called QE policies, has been to radically inflate sovereign-bond prices. The big fat bid of central bankers in the benchmark government-securities sector, in turn, has caused drastic mispricing to migrate into the balance of the fixed-income spectrum via spread pricing off the benchmarks, and from there into markets for converts, equities and everything else.
Above all else, the QE-driven falsification of bond prices means that central banks have supplanted real money savers as the marginal source of demand in the government bond markets. But by their very ideology and function, central bankers are rigidly and even fiercely price inelastic.
For example, the madman Draghi will pay any price—absolutely any price—to acquire his $90 billion per month QE quota. He sets the price on the margin, and at present that happens to be a yield no lower than negative 0.4% for a Eurozone government security of any maturity. Presumably that would include a 500-year bond if the Portuguese were alert enough to issue one.
Needless to say, no rational saver anywhere on the planet would “invest” in the German 10-year bund at its recent negative 20 bps of yield. The operational word here is “saver” as distinguished from the hordes of leveraged speculators (on repo) who are more than happy to buy radically overpriced German bunds today.
After all, they know the madmen at the ECB stand ready to buy them back at an even-higher price tomorrow.
Yet when you replace savers with central bankers at the very heart of the financial price-discovery process in the benchmark bond markets, the system eventually goes tilt. You go upside-down.
THE FISCAL EQUIVALENT OF A UNICORN—“SCARCITY” IN SOVEREIGN-DEBT MARKETS
That condition was aptly described in a recent Wall Street Journal piece about a new development in sovereign-debt markets that absolutely defies human nature and the fundamental dynamics of modern welfare-state democracies.
To wit, modern governments can seemingly never issue enough debt. This is due to the cost of their massive entitlement constituencies, special-interest racketeers of every stripe and the prevalence of Keynesian-style rationalizations for not extracting from taxpayers the full measure of what politicians are inclined to spend.
Notwithstanding that endemic condition, however, there is now a rapidly growing “scarcity” of government debt—the equivalent of a fiscal unicorn. As the WSJ noted:
A buying spree by central banks is reducing the availability of government debt for other buyers and intensifying the bidding wars that break out when investors get jittery, driving prices higher and yields lower. The yield on the benchmark 10-year Treasury note hit a record low Wednesday.
“The scarcity factor is there but it really becomes palpable during periods of stress when yields immediately collapse,” he sa
id. “You may be shut out of the bond market just when you need it the most.’’
Owing to this utterly insensible “scarcity,” central banks and speculators together have driven the yield on nearly $13 trillion of government debt—or nearly 30% of total outstandings on the planet—into the subzero zone. This includes more than $1 trillion each of German and French government debt and nearly $8 trillion of Japanese government debt.
Nor is that the extent of the subzero lunacy. The Swiss yield curve is negative all the way out to 48 years, where recently the bond actually traded at -0.0082%.
So we do mean that the systematic falsification of financial prices is the sum and substance of what contemporary central banks do.
Forty years from now, for example, Japan’s retirement colony will be bigger than its labor force, and its fiscal and monetary system will have crashed long before. Yet the 10-year JCB traded at negative 27 bps recently while the 40-year bond yielded a scant 6 basis points!
When it comes to government debt, therefore, it can be well and truly said that “price discovery” is dead and gone. Japan is only the leading edge, but the trend is absolutely clear. The price of sovereign debt is where central banks peg it, not even remotely where real money savers and investors would buy it.
Still, that’s only half the story, and not even the most destructive part. The truth of the matter is that the overwhelming share of government debt is no longer owned by real money savers at all. It is owned by central banks, sovereign wealth funds and leveraged speculators.
As to the speculators, do not mistake the repo-style funding deployed by speculators with genuine savings. To the contrary, their purchasing power comes purely from credit (repo) extracted from the value of bond collateral, which, in turn, is being driven ever higher by the big fat bid of central banks.
What this means is that real money savings—which must have a positive nominal yield—are being driven to the far end of the sovereign yield curve in search of returns, but most especially ever deeper into the corporate-credit risk zone in quest of the same.
THE PURE LUNACY OF MARIO DRAGHI
Nowhere is the irrational stampede for yield more evident than in the European bond markets. After $90 billion per month of QE purchases by the ECB, European bond markets have been reduced to a heap of raging financial-market lunacy.
It seems that Ireland has now broken into the negative-interest-rate club, investment-grade multinationals are flocking to issue 1% debt on the euro-bond markets and, if yield is your thing, you can get all of 3.50% on the Merrill Lynch euro junk-bond index.
That’s right. You can stick your head into a veritable financial meat grinder and what you get for the hazard is essentially pocket change after inflation and taxes.
Remember, the average maturity for junk bonds is in the range of seven to eight years. During the last 10 years Europe’s CPI averaged 2.0%, and even during the last three, deflationary years the CPI excluding energy averaged 1.2%.
So unless you think oil prices will be going down forever or that the money printers of the world have abolished inflation once and for all, the real after-tax return on euro junk has now been reduced to something less than a whole number. It might be wondered, therefore, whether the reckless stretch for “yield” has come down to return-free risk.
Well, not exactly. Yield is apparently for desperate bond managers and other suckers.
In fact, among the speculators who wear big-boy pants, the bond markets are all about capital gains and playing momo games. It’s why euro junk debt—along with every other kind of sovereign- and investment-grade debt—is soaring. In a word, bond prices are going up because bond prices are going up. It’s an utterly irrational speculative mania that would make the Dutch tulip-bulb punters proud.
In the days shortly before Draghi issued his “whatever it takes” ukase, for instance, the Merrill Lynch euro high-yield index was trading at 11.5%. So speculators who bought the index then have made a cool 230% gain if they were old-fashioned enough to actually buy the bonds with cash.
And they have been laughing all the way to their estates in the South of France if their friendly prime broker arranged to hock the bonds in the repo market even before payment was due. In that case, they’re in the 1,000% club and just plain giddy.
Does Mario Draghi have a clue that he is destroying price discovery completely? Do the purported adults who run the ECB not see that the entire $20 trillion European bond market is flying blind without any heed to honest price signals and risk considerations at all?
Worse still, do they have an inkling that the soaring price of debt securities has absolutely nothing to do with their macroeconomic mumbo jumbo about “deflation” and “low-flation”? Or that they are in the midst of a financial mania, not a “weak rate environment” due to the allegedly “slack” demand for credit in the business and household sectors?
In fact, European financial markets are being stampeded by a herd of front-runners who listen to Draghi reassure them on a regular basis that come hell or high water, the ECB will buy every qualifying bond in sight at a rate of $90 billion per month until March 2017. Full stop.
Never before has an agency of the state so baldly promised speculators literally trillions in windfall gains by the simple act of buying today what Draghi promises he will be buying tomorrow.
And that will be some tomorrow. As more and more sovereign debt sinks into the netherworld of negative yield and falls below the ECB’s floor (-0.4%), there will be less supply eligible for purchase from the outstanding debt of each nation in the ECB’s capital key.
This is price fixing with a vengeance. It is no wonder that repo rates recently have plunged into negative territory.
But here’s the thing. The geniuses at the ECB are not cornering the market; they are being cornered by the speculators who are recklessly front-running the central bank with their trigger finger on the sell button.
Everything in the European fixed-income market—sovereign and corporate—is now so wildly overpriced and disconnected from reality that the clueless fools in Frankfurt dare not stop. They dare not even evince a nuance of a doubt.
So this is a house of cards like no other. Greece remains a hair from the ejection seat, yet everything is priced as if there is no “redenomination” risk.
Likewise, with the European economies still dead in the water, and notwithstanding some short-term data squiggles in the sub-basement of historic trends, the debt of Europe’s mostly bankrupt states is priced as if there is no credit risk anywhere on the Continent outside of Greece.
Well, then, just consider three fundamentals that scream out danger ahead. Namely, public-debt ratios continue to rise, GDP continues to flat-line, and the Eurozone superstate in Brussels continues to kick the can and bury its member states in bailout commitments that would instantly result in political insurrection in Germany, France and every other major European polity were they ever to be called.
WHY THE EUROZONE IS A FINANCIAL POWDER KEG
In short, Europe is a financial and political powder keg. The ECB is bluffing a $40 trillion debt market (including bank loans), and the Brussels apparatchiks are bluffing 300 million voters.
The only problem is that the true facts of life are so blindly obvious that it’s only a matter of time before these bluffs are called. And then the furies will break loose.
In the first place, the EU-19 is marching toward the fiscal wall, and even Germany’s surpluses cannot hide the obvious. During the last six years, the collective debt-to-GDP ratio among the Eurozone nations has gone from 66% to 91% of GDP. The sheer drift of current policy momentum will take the ratio over the 100% mark long before the end of the decade.
Secondly, notwithstanding the ebb and flow of short-term indicators, there is no evidence whatsoever that Europe is escaping its no-growth rut. Indeed, euro-area industrial output has continued to flat-line, and remains 10% below the precrisis peak, and even below the level achieved way back in 2002.
You can’t grow your way out of debt on the basis of a profile like that shown in the next graph. Even then, the underlying truth is more daunting because the picture is flattered by Germany’s exports to China and the emerging markets that are fast coming to a halt.
Thirdly, the state sector in Europe has gotten so big that politics are paralyzed. Accordingly, it is virtually impossible that the true barrier to growth—crushing taxes and interventionist dirigisme—can be eliminated.
Check out recent promarket policy actions in Italy, France or Spain. There have been none that amount to anything—unless you consider the newly conferred right of French shopkeepers to be open 12 Sundays per year rather than 5 to be anything other than symbolism.
In fact, since the financial crisis the state sector in the Eurozone has continued to envelop more and more of the GDP, rising from 45% of output in the EU-19 in 2007 to nearly 50% today.
So with no growth and rising debt, how long can the Brussels bureaucrats continue to bluff? Yet here is a breakdown of the 331 billion euros that each of the Eurozone nations owe on Greece alone.
Importantly, the next table includes each country’s so-called Target2 liabilities at the ECB, which has actually loaned 110 billion euros to Greece against “collateral” provided by the Greek national bank. That collateral, of course, is the massive unpayable debt of the Greek government!
Is it possible that France could absorb its $70 billion share and see its 10-year bond remain at today’s 20 bps? Is it likely that Italy’s paralyzed government would last even a day if its $60 billion of Greek guarantees were called or that its 10-year bond would trade for even a nanosecond longer at today’s 1.20%?
Trumped! A Nation on the Brink of Ruin... And How to Bring It Back Page 26
