Where the Wild Things Are

By: Alan Brugler

It was another great week to be a livestock feeder, with grain prices showing nothing but red ink, while exports and July 4 demand boosted both present and future prices for cattle and hogs. While prices might have gone hog wild in those pits, they had no claim on the wildest price action. Crude oil futures saw an early week rally snuffed out by the IEA, which coordinated a plan to flood the world market with 60 million barrels of strategic reserve oil. While representing just a few hours of global use, the action was widely viewed as a warning shot to crude oil longs about further potential intervention if prices don’t come down. Currencies were also wild, with Papandreou surviving a confidence vote in Greece, and striking an austerity deal with the EU and IMF. Now he just has to get Parliament to pass it and Greece gets a little more time to fix the bigger problems.

Corn futures dropped 30 cents per bushel for the week, which was a relief because it wasn’t the 87 cent loss of the week before. The new crop December was down 28 cents. The main story continued to be long liquidation in the July contract. As of a couple weeks ago there were still over 2 billion bushels of futures contracts open. There just isn’t that much corn available, and the exchange has rules for maintaining an orderly market. Longs were forced to reduce their ownership. Ethanol production increased thanks to the cheaper corn costs, and export bookings also picked up. Livestock margins improved dramatically, which will make it hard to cut feed use estimates. Low prices cure low prices, but one can also argue that low wheat prices are curing high corn prices via substitution buying.

Soybeans dropped less than 1% for the week. The Census Crush report was bull friendly, showing more grind and smaller ending stocks than the trade expected. However, the export market remains soft, and China again deferred more 2010/11 old crop purchases into new crop 2011/12 shipping slots. That has a number of analysts expecting USDA to show higher ending stocks in July unless the June 30 Grain Stocks report shows that the bushels are already gone via some other means.

Wheat showed all the characteristics of a bear market, dropping hard on bearish news and pretty much ignoring bullish items like the strong weekly export sales report on Thursday and the report that 5 to 5.5 million acres of North Dakota crops would not be planted due to wet conditions. Up to 2 million of those acres are believed to be wheat. The bear news included better than expected yields for US HRW and SRW wheat, upward revisions for German and French production, and low ball pricing of Russian wheat in a Tunisian tender. The EU wheat futures dropped 7.5% in a single day due to currency issues and this low price competition.

Cotton saw divergent paths for old crop (there isn’t any) and new crop (the crop won’t be as large as originally expected but neither is likely global consumption). Nearby July was up 13.8% in a week as mills fixed on call purchases ahead of first notice day. Cert stocks are tight, so the bears didn’t have much leverage and may still be vulnerable to a short squeeze. US export sales continue to be dismal in both old crop and new crop slots. December was down 1.7% for the week. Cotton crop insurance claims are already at an all time high according to Texas sources.

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Here are the Friday night closes for the past four weeks, along with the net change for this week vs. the previous week:

	Commodity					Weekly	Weekly
Month		06/03/11	06/10/11	06/17/11	06/24/11	Change	% Change
July	Corn	7.54	7.87	7.0025	6.7	0.3025	4.32%
July	CBOT Wheat	7.7375	7.5925	6.7225	6.3575	0.3650	5.43%
July	KCBT Wheat	9.1425	8.68	8.045	7.485	0.5600	6.96%
July	MGEX Wheat	10.605	10	8.9725	8.26	0.7125	7.94%
July	Soybeans	14.145	13.8725	13.33	13.2025	0.1275	0.96%
July	Soybean Meal	368.4	373.3	349	339.9	9.1000	2.61%
July	Soybean Oil	58.73	56.85	55.92	55.22	0.7000	1.25%
June	Live Cattle	104.175	102.725	109.75	113.05	3.3000	3.01%
Aug	Feeder Cattle	124.25	123.625	132.65	138.6	5.9500	4.49%
July	Lean Hogs	87.85	93.225	95.65	96	0.3500	0.37%
July	Cotton	161.63	150.03	145.18	165.22	20.0400	13.80%
July	Oats	3.78	3.955	3.515	3.355	0.1600	4.55%
July	Rice	14.475	14.895	13.965	13.45	0.5150	3.69%

Cattle futures rose 3% for the week. Cash cattle trade was slow to develop, but came at higher money. It should, with the wholesale prices up more than $5.00 per hundred pounds. Actually, June futures matched the choice cutout value, which was up 3% on a Friday/Friday basis. Estimated beef production for the week was up 2.1% over the same week in 2010, but down 0.2% from the prior week. One big story for the week was the surge in US beef export sales, which was behind the rise in the product value. USDA reported net weekly sales for the week ending June 16 at 23,070 MT. That was the largest weekly sale since February 17. The Year to date shipments total of 350,900 MT wasn’t met until Labor Day in 2010.

Lean Hogs were the second strongest commodity on our list after cotton, gaining 4.49% for the week. The cutout value of a hog set an all time high on Thursday at $99.27/cwt, and so did cash hog prices. The cutout value was up 3.44% for the week. Pork production YTD is up 1% from last year, but was down an estimated 2.2% this week vs. the previous week. Average carcass weight continues to run about 4 pounds above last year, allowing the extra pork tonnage despite smaller overall slaughter. Hog producers are showing just a whiff of expansion, with Friday’s Hogs & Pigs report showing the breeding herd at 100.3% of last year. The number of market hogs in the pipeline was 0.6% larger than last year. On the other hand, June-August farrowing intentions are smaller than the trade had expected.

Market Watch: We start the coming week with USDA export inspections and the well followed weekly Crop Progress and condition reports. Some grain traders will also be wrestling with surprise futures positions acquired via options exercises on Friday. THE news of the week for grains will be made on Thursday morning, when USDA releases the Planted Acreage and Grain Stocks reports. The former will not be complete by any stretch of the imagination, since there were big chunks of farmland unplanted in the first week of June. It should give us a better handle on how much the big WCB states exceeded their March intentions, but could overstate acres in the problem areas. The Grain Stocks report will be the final Ending Stocks number for wheat for 2010/11, and will tell corn and soybean users how much additional price rationing is required for June-August in order to make it to new crop supplies that will hopefully be ready by September.

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Weekly Risk Technical Analysis

by Tyler Durden

In the last week of trading, the only variable that mattered was the EURUSD, much more so than at any time in 2011, as the correlation between the FX pair and the SPX hit a near all time high. Which is why it is not surprising that China is now the de facto saviour not so much of Europe (as discussed earlier), but of America's wealthiest, as the only Central Planner mandate continues to be to keep the Russell artificially high for as long as possible while the oligarchy converts paper wealth into hard assets (yes, Comex physical silver just dropped to a new all time low on Friday). And with technicals mattering far more in FX than in stocks, we once again present John Noyce's weekly technical compendium and podcast, as all the major risk indices continue to be at key inflection points. This is particularly true of the GBPUSD, commodities (CRB), the Shanghai Composite (which just closed below the October 2008 primary updtrend, slide 13), Spanish 10 Years, also Irish and Portuguese bonds, the AUDUSD, but most importantly the EURUSD, which is at 2 standard deviations above fair value which is at about 1.15. Should it revert to that level, the S&P would find itself at about 900 if not lower.

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Greece Debt Crisis Long-term Solution E.U. Unification Under One Leader?

By: James_Loong

As Papandreou, Greek PM, plans to put together another austerity package worth more than €6.5 billion ($9.3 billion) by the end of the month, the protesters outside the parliament building, unwilling to accept the prime minister’s course of action, shouted: “Thieves, traitors. What happened to our money?”

Euro zone members on Monday gave the green light to a permanent system to prop up ailing euro-zone economies after 2013. The new measure will take effect in mid-2013, replacing the current temporary bailout fund. The approved fund, called the Europe Stability Mechanism (ESM), will total some €500 billion ($713 billion). It was initially approved at an EU summit in March this year. Jean-Claude Juncker, euro-group head, said the decision reflected the bloc’s determination to shore up the currency’s stability. The euro-bloc countries will, according to the plan, guarantee more than €620 billion and member states will pay €80 billion directly. Of that, Germany must pay almost €22 billion, payable in five annual installments of €4.3 billion starting in 2013.

A quick check on the Greek maturing debt schedule shows that nearly 200 bn euros need to be returned till 2015 with more than 74 bn of them be paid in the last year. And yet this only accounts for 58% of the overall leverage in the Greece economy.

Greece and Ireland has seen 57% and 85% increase in its Debt/GDP ratio while even frugal Germany has seen its debt increasing to its GDP by 14%. The Greece crisis has been spurred not just by Debt but also by a contracting GDP which has worsened the situation. Greece Industrial production has fallen 16% between 2005-2010 as noted below, a period during which China and India grew 8% and 9% CAGR growth.

Greece economy simply stagnated while it accumulated debt. The question to ask is what was Moody and Fitch doing while debt was being loaded? How did Greece maintain its AAA rating all through 2008,2009.

And no wonder German banks have reduced their exposure to Greece bonds. Since the beginning of 2010, they have reduced their total exposure from €34.8 billion to €17.3 billion, not including debt held by the state-owned development bank KfW. Insurance companies have reduced their investment in Greek bonds from €5.8 billion to only €2.8 billion in the last year.

In Germany, it is state-owned banks who have the greatest exposure to Greek debt. Commerzbank, a quarter of which is owned by the federal government, holds €2.9 billion in Greek bonds. The state-owned regional banks known as Landesbanken and their so-called bad banks hold additional risks of more than €4 billion.

On May 2, the euro countries and the International Monetary Fund (IMF) approved a €110 billion bailout package for the beleaguered country. Although the German portion of the loans was coming from the government-owned development bank KfW and not the budget, the federal government still served as guarantor. Every euro the Greeks do not repay will constitute a burden on the German taxpayer.

The Greece story from 2010 has been one of lost opportunity and lapses. The Greece story has completely exposed the loosely knit EU framework based on monetary union rather than regulatory frameworks based on political union. Greece was the first lapse for EU, the first violation of the European treaties, which categorically rule out aid payments to needy euro countries. This so-called no-bailout clause was intended to guarantee that the monetary union didn’t become a transfer union, and that the strong wouldn’t have to pay for the weak. It was crucial to the acceptance of the treaty by the national parliaments; without it the German parliament, the Bundestag, would not have agreed to the monetary union.

The second lapse occurred soon afterwards. On May 9, 2010, the first euro bailout fund was launched. Although the volume of €440 billion alone made it clear that the opposite was the case, Merkel and Finance Minister Wolfgang Schäuble tried to downplay the importance of the European Financial Stability Fund (EFSF). They insisted that the fund was purely a precaution, would not be used and, most of all, was temporary.

“An extension of the current bailout funds will not happen on Germany’s watch,” Merkel said in Brussels on Sept. 16, 2010. This promise, too, lasted only a few months. On March 25, 2011, the leaders of the euro zone approved a new, constant crisis mechanism. Although it has a different name, the European Stability Mechanism (ESM), it will function on the basis of the same principle as its predecessor fund, the EFSF, beginning in mid-2013. The euro countries want to pry loose €700 billion for the fund, which will include a cash contribution for the first time. The Germans will be asked to pay at least €22 billion. To do so, Germany would have to take on additional debt.

Since May 2010, the ECB has spent €75 billion purchasing government bonds from ailing euro countries. Its goal was to bring calm to the markets and prevent the risk premiums for the bonds from skyrocketing. But many used the opportunity to unload the risky securities on the central bank. The ECB is believed to have spent €40-50 billion to date on Greek government bonds. In addition, as of the end of April it had refinanced Greek banks to the tune of €90 billion.

Will Greece lead to Euro Bonds 

If nothing else works, ECB will simply have to be offered bonds that satisfy its requirements. A 10-member “Greece Task Force” at the German Finance Ministry has worked out how this could function. The experts propose that the Greek government, in addition to the €90 billion-€120 billion in fresh cash it may receive from the euro-zone countries and the IMF as part of a second bailout, also be given access to bonds issued by the EFSF, the euro rescue fund. It could pass on these securities, which have the rating agencies’ highest rating of AAA, to Greek banks, which in turn could use them as collateral to obtain liquidity from the ECB.

The problem is that this measure would make the new bailout package significantly more expensive. To ensure that the EFSF had sufficient funds for the operation, its financial scope would have to be increased so that it could really make €440 billion available, as it was originally intended to do. To achieve this, the member states would have to double the scope of their respective guarantees. Germany, for example, would be liable for €246 billion in the future, instead of the current €123 billion.

The would-be euro rescuers are also considering accessing the so-called Hellenic Financial Stability Fund. This fund, set up as part of the first Greek bailout package in May 2010, contains €10 billion, which could be used to boost the capital of Greek banks in an emergency. The fund hasn’t been touched yet.

Long term solution: EU Unification under one leader?

Make no mistake: If Greece defaults, the story of EU is over! To prevent this from happening, many politicians specializing in financial and economic affairs recommend bringing about the political union of Europe as quickly as possible, a union with a strong central government. They argue that if the nations in the euro zone formed a closer union, they could coordinate their financial systems more effectively, thus providing the common currency with a political foundation.

This would make it easier to implement reforms in the recipient countries and improve their competitiveness. Just recently, ECB President Jean-Claude Trichet proposed installing a European finance ministry equipped with the right to intervene in the individual member states.

German Reunification: The role model?

But it isn’t quite that easy. More integration doesn’t necessarily mean that economic imbalances would disappear as a result. No one understands this better than the Germans, who had similar experiences with the monetary union between the two Germanys about 20 years ago. Effective July 1, 1990, the deutschmark became the official currency of East Germany. It was largely exchanged for the former East German mark at a ratio of one-to-one. The East German states joined the Federal Republic of Germany only three months later. It was the model case of a monetary union that was accompanied by a political union.

But anyone who believed that rapid unification would lessen the economic shock of the monetary union between the two Germanys was soon disappointed. In fact, the economic imbalances in reunified Germany became entrenched after that. Thousands of companies in the former East Germany went out of business, because they were unable to bring productivity up to Western standards.

The unemployment figures exploded, and financial transfers between the two parts of the country soon exceeded the trillion mark. To this day, the former East German states still lag behind the former West German states in terms of economic strength, productivity and income.

German reunification did nothing to change this. It merely helped to financially cushion the negative consequences of the monetary union. The states of the former East Germany were incorporated into the West German inter-state fiscal adjustment system (under which money is transferred from richer to poorer states) under favorable terms, and the former East Germans were suddenly given access to the blessings of the generous West German social system.

Such a model would in any case be incompatible with the European treaties. New agreements would have to be negotiated and ratified by all national parliaments, and perhaps even approved in referendums. It is a compromise or a necessity that EU will ultimately have to live with.

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Stock Market Correction Continues

By: Tony_Caldaro

Another volatile week that ended about where it started. Economic reports were light and mixed: 5 negative/4 positive. On the negative side: existing/new home sales fell, as did the M1-multiplier and the WLEI. Weekly jobless claims ticked up. On the positive side: Q1 GDP was revised upward, durable good orders rose, along with the monetary base and the FHFA housing index. For the week the SPX/DOW were -0.40%, and the NDX/NAZ were +1.25%.

Asian markets rallied 2.4%, while European markets fell 1.7%. The Commodity equity group lost 0.2%, and the DJ World index slipped 0.1%. The eastern markets are now displaying some strength while western markets remain weak. This is exactly the opposite of what occurred when this downtrend began. Next week will be highlighted by PCE prices, the Case-Shiller housing index and the Chicago PMI.

LONG TERM: bull market

We continue to count this long term uptrend as an ongoing bull market from the March 2009 SPX 667 low. While this market has run into some resistance in the SPX 1300′s, it’s not unusual after a doubling in just under two years. Even the 2002-2007 bull market got off to a strong start, then ran into resistance in the SPX 1200′s during 2005 before breaking out to complete its pattern. We see similar activity in this market this year. The indicators we track on the weekly chart are still positive and even oversold: MACD heading towards neutral, and RSI oversold.

The OEW count we have been tracking remains bullish. Primary waves I and II completed in April and July 2010, and Primary wave III has been underway ever since. Primary I divided into five Major waves and Primary III appears to be doing the same, with a slight variation. After this correction concludes Major wave 3 should be underway.

MEDIUM TERM: downtrend low SPX 1258

After the February SPX 1344 uptrend high we had a simple 7.1% zigzag correction into the March SPX 1249 downtrend low. The market appeared to be ready to kickoff Major wave 3 of Primary III. The uptrend certainly started with those intentions. A quick rally to SPX 1339 in about three weeks, a two week pullback to 1295, then a two week rally to 1371. After three waves up, commodities sold off in the first week of May and there was weakness in eastern markets, then the uptrend appeared to breakdown. Since we’re in a bull market we continued to give the uptrend the benefit of doubt. But after the OEW downtrend confirmation we knew the market was heading lower.

With the three wave decline Feb-Mar, then the three wave advance Mar-May, the obvious count would be an irregular flat – a double bottom with the March low at SPX 1249. At first we expected an irregular complex correction (3-3-3) with the potential low at SPX 1258. After a swift rally to SPX 1299, the best rally of the downtrend, the market rolled over yet again to finish the week at 1268. Since the rally appears corrective we decided to upgrade the count from an ABC downtrend to a five wave downtrend. This five waves would complete an irregular (3-3-5) flat, likely around the March SPX 1249 low.

SHORT TERM

Support for the SPX remains at 1261 and then 1240, with resistance at 1291 and then 1303. Short term momentum ended the week heading toward oversold after a brief pop over neutral on thursday. The short term pattern suggests the market is currently in Minor wave 5 of Intermediate wave C of an irregular Major wave 2 correction. Since nothing like this has occurred before, during this two plus year bull market, it has been a bit difficult to track. The obvious short term count continues to evolve into another count. Such was the situation during the Mar-May uptrend, and now the May-Jun downtrend. Anticipate-monitor-adjust.

The key levels to watch going forward are the OEW 1261 and 1240 pivots on the downside, and the OEW 1303 and 1313 pivots on the upside. The area of heavy resistance on the upside has been the OEW 1291 pivot for the entire month of June. This pivot was also suport for the A wave during the Feb-Mar ABC downtrend, and the B wave support for the Mar-May ABC uptrend. It is now resistance for this apparently five wave downtrend.

When this downtred does make its low, which will probably be in the next week or so. We would expect a sharp spike up rally clearing the OEW 1291 pivot and the 1303/1313 pivots as well. Some positive divergences on the daily and lesser timeframe charts, to accompany the oversold weekly chart, would be fitting. Best to your trading!

FOREIGN MARKETS

Asian markets were all higher on the week for a net gain of 2.4%. Most have bounced off their recent lows but none have confirmed uptrends yet.

European markets were all lower on the week for a net loss of 1.7%. All remain in downtrends here as well.

The Commodity equity group was mixed on the week for a net loss of only 0.2%.

The downtrending DJ World index lost only 0.1%.

COMMODITIES

Bonds continue their uptrend gaining 0.7% on the week. The 10YR yield closed under 2.9%, and the 1YR is at a record low 0.15%. The FED certainly has control of this market.

Crude ended the week quite well considering the move by the DOE to increase supply in the US. 

Downtrending Crude lost 1.3% on the week and has entered our $85-$93 support zone.

Gold looks like it’s rolling over again, after a choppy uptrend, losing 2.4% on the week.

The USD continues to uptrend gaining 0.9% on the week. It’s entering our resistance zone of DXY 77-79.

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Hyperinflationary Depression Inevitable, Banking Sector Breaking Down, Gold and Silver Volatility

By: Clive_Maund

As Stockcharts no longer see fit to run usable charts for gold and various other commodities - line charts are only suitable for schoolkids or journalists doing projects on the markets, not for serious analysis - we are going to use the chart for SPDR Gold Trust (GLD) as a stand in for gold. It is a very accurate proxy, and should continue to be, unless of course, the markets were suddenly to discover that they don't have the gold in their vaults that they say they have.

Our 4-year chart for GLD shows that holders of this ETF, and therefore of gold, have not really had anything to worry about for 2 years now, as the steady uptrend in gold has continued. Rather astonishingly, despite the recent severe deterioration in the charts of other commodities and markets, including PM stocks, gold has continued to hold up very well, although it did break sharply lower late last week which we will now look at in more detail on the 1-year chart. 

On the 1-year chart for GLD we can see that after peaking at the end of April it fell sharply early in May at the time that silver plunged and then recovered well in a triangular pattern that formed above the 50-day moving average. After looking like it was breaking out upside on Wednesday, it gapped down on high volume on Thursday before breaking down from the Triangle and below its 50-day moving average on Friday. This was bearish action and puts us on the defensive, despite the longer-term uptrend remaining intact. While long-term investors need not be unduly perturbed by this and may only want to consider either trimming positions or hedging in the event that the long-term uptrend shown on the 4-year chart fails, traders have a variety of tactics at their disposal and may want to cut back positions here with a view to getting back in either on the price dropping back to the supporting trendline (with a close stop) or conversely on a break above $152. The point to grasp is that while the long-term charts for gold and GLD still look solid at this point, they could still take a hit if we get a 2008 style market meltdown shortly, and as this is considered very likely, we are going to take a look at the charts for the broad stockmarket and banking and oil sectors in this update. Here we should note that as we are much deeper into the debt crisis endgame than we were in 2008, gold may prove to be much more resilient than it was then, as it will be "one of the only games in town", and ultimately, once the inevitable hyperinflation kicks in, it will go through the roof. 

Now we will veer off to see what is going on in the broad stockmarket and the banking sectors, because of the major implications for everything, especially commodities including gold and silver, and because of the potential for massive collateral damage to be inflicted again on Precious Metals stocks, the outlook for which we will examine towards the end of this update with a look at the HUI index. 

Many observers have been wondering what kind of pattern is forming in the broad market, as quite clearly it has been losing traction and rounding over for months. What has been going on is that the market has been trapped beneath the confines of a large Distribution Dome that is drawn on the 1-year chart for the $&P500 index shown below. This is not some abstract academic notion, this is a VERY REAL delineation of an organized and orchestrated program of distribution from Smart Money to Dumb Money and the accuracy and importance of this Dome should be apparent from the fact that the index has reacted back after contacting it no less than 8 times already. Right now the market is churning, after having fallen quite sharply for many weeks back to a zone of strong support near to its rising 200-day moving average, and the only open question now is whether we get some sort of rally back up to the Dome boundary before the market throws in the towel and collapses - for once this key support fails we can expect a possibly brutal plunge. If we do see such a final last gasp rally it will serve to mark out the Right Shoulder of a potential Head-and-Shoulders top that is completing in the index, and here we should note that this rally could be very stunted - Right Shoulders often are - and it could even have occurred already with the one-day wonder rally we saw in the middle of last week. Could the index break above the Dome and abort its bearish implications? - it could, anything is possible in markets, but the chances of this happening are rated as low. 

We have now deduced that a hyperinflationary depression is inevitable. There is no real recovery - they talk about growth of 2% or 3% but let's face it, any idiot could create growth of this magnitude by exploding the money supply as they have, and the fact that growth has not been greater, and this is taking their massaged figures at face value, and that no jobs have been created and the property market continues to weaken is an indication of how desperately sick the economy really is. The sort of austerity measures being inflicted on the Greeks are planned for everybody else as the lower and middle classes of countries around the world are being targeted to pick up the tab for the greed and incompetance and sheer recklessness of the banks, either via such austerity measures or by the Grand Larceny of rampant inflation and probably both, but what The Powers That Be haven't reckoned on, or maybe have, is that if the purchasing power of the lower and middle classes is ravaged, then corporate profitability overall will collapse, since an economy cannot be bouyed up solely by the purchases made by elite bankers and Wall St financiers of the products of Ferrari, Gucci, Lobb (shoes), Versace etc. This is why stockmarkets look set to tank regardless of how much money they print and shovel out to speculators. Perhaps those who talk about them wanting to engineer a total collapse so that can introduce a world government are right after all. 

Oil stocks have been slavishly moving almost point for point with the broad market indices, which is made dramatically clear by our 1-year chart for the OIX oil index, on which an almost identical Dome pattern can be identified. This shows that this market is being driven by the same speculative flows as the stockmarket as a whole. 

We know that many banks are in deep trouble, and it is only a combination of bailouts and fiddling the books to make things look much better than they really are that maintains the illusion amongst the masses that they are functioning normally - if they knew the truth there would be an instant global run on the banks. Our chart for the banking index shows that after the bear market rally of 2009, a large Head-and-Shoulders top has been forming that is now very close to completion. Once the neckline shown at the bottom of this pattern fails, and especially the support level shown below that, they are likely to go into freefall. 

The relative chart for the banks, which shows the banking index relative to the S&P500 index, looks even more alarming. This chart shows a completed Head-and-Shoulders top with very bearishly aligned moving averages, and right now it appears to be "hanging on by its fingernails". It could go into freefall anytime, and the MACD reading which almost at neatrility, certainly allows for such a drop. 

There are many who believe that gold and silver and PM stocks will move contra-cyclically, i.e. in the opposite direction, to the broad market if it caves in. As we know that was not the case in 2008, so how about now? While gold still looks pretty solid and in better shape than it did prior to the 2008 crash, silver looks a lot more vulnerable after its recent speculative blowout (see Silver Market update) - so what about PM stocks? Unfortunately for those who entertain the belief that it will be "different this time round", our 1-year chart for the HUI index shows that, in addition to underperforming gold horribly in recent months, it is rounding over beneath a Distribution Dome of similar duration to those that we have observed in the broad market and the OIX oil index, that has likewise forced it down to a key support level. So if the broad market caves in it can be expected to take down PM stocks with it. With the Dome already pressing down on the index it looks set to crash the key support level soon which could lead to a plunge. To abort this scenario the index must soon break above the Dome, which does not look likely at this point. 

Even more ominously a larger Dome can be seen to have formed on the 4-year HUI index chart which is also bearing down on the index and looking set to force it lower. 485 - 490 is the key level to watch - if that fails, watch out below. 

Let's end by recapping briefly on why there is now no way to avoid a hyperinflationary depression. The point of no return with regards to straightening out the world's debt problems was passed a long time ago so that any serious attempt to do so now would result in an immediate collapse into a deep depression, with unforeseeable political and social consequences, yet this collapse is now inevitable and the longer it is put off the worse it is going to be. This collapse will result in such anarchy and chaos that the world's business and political leaders simply cannot face it, so the name of the game is to put it off for as long as possible - to "kick the can down the road" an expression which you can now find in innumerable articles. The methods employed to do this are to print money in ever greater quantities to patch up the creaking system and stomp interest rates down to near zero for as long as possible. The artificial suppression of interest rates is having various undesirable consequences including the misallocation of capital into rampant leveraged speculation, which is what has fuelled the recent commodity boom, and is a powerful disincentive to saving and capital formation. There is a popular argument that printing money in the direction of hyperinflation and holding interest rates to zero will keep markets rising in perpuity as there will always be more money to play with, even if it is becoming increasingly worthless, but as we are already seeing in the US they are pushing on a piece of string. Despite the trillions of dollars manufactured over the past several years, there is no real recovery - house prices are still falling and there are virtually no new jobs. This newly created money has not found its way into the hands of the people, but rather has been used to bail out banks and Wall St and to line the pockets of their senior executives, and to finance leveraged speculation and much more seriously much of it is disappearing into a black hole to service burgeoning deficits and government spending, despite the ridiculously low interest rates, due to the sheer magnitude of these deficits and spending. The middle and lower classes are getting poorer and poorer, caught in a vice - squeezed by static or contracting incomes on one side and rising prices caused by the ballooning money supply on the other, and spending less, which means that corporate profitability is set to dwindle. With the prospect of declining corporate profits, the stockmarket must drop. When the stockmarket drops the mood of gloom will deepen and consumers will spend even less, and corporate profits will shrink even more - you get the picture - a downward spiral. 

What the world needs is a "reset", and it's going to get it regardless of how much the powers that be resist it. In an ideal world the best way to handle it would be to simply declare all debts globally null and void, including and especially derivatives, and let the pieces fall where they will. If you are a creditor tough luck - you shouldn't have lent so much out in the first place and are guilty of attempted or actual usury. This approach would cause massive shock and awe and create anarchy and chaos for a while of course, and might even return the world to The Stone Age. For this reason business leaders and politicians understandably cannot countenance it, so the only way to get a handle on the careening out of control deficits that have run so amok that they cannot even be reined in by near zero interest rates, is to outpace and overrun them with massive inflation, and in effect inflate them into oblivion. This is the course that has now been adopted and while the hyperinflation that will be required to achieve this goal will have terrible consequences of course, it will not have the massive shock impact of a global default. The ordinary citizen will be expected to graciously cooperate in tackling the deficits by surrendering to savage austerity measures, which combined with rampant inflation will collapse living standards - it will be interesting to observe the the extent to which he or she will go along with this.

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Why Is the Chinese Economy Sputtering?

By Washingtons Blog

 

Is the Chinese Economy Sputtering for the Same Reasons as the American Economy?

It was tempting to believe that China was different.

With its command and control economy with some of the trappings of free market capitalism, trillions in reserves, and abundant natural resources, many thought that China would “decouple” from the Western world’s problems and sail into a prosperous future.

However, despite its long history, exotic names and seemingly strong position, China cannot avoid the rules of economics which have applied to all countries throughout history.

Corruption and Phony Bookkeeping

Corruption and the failure to follow the rule of law is one of the main factors which has dragged down the American economy.

The fact that – according to the Chinese central bank – Chinese officials stole $120 billion and fled the country does not auger well for China.

Scandals among various Chinese companies are not helping, either.

And then there are the made up statistics. As Warren Hatch of Catalpa Capital Advisors notes:

As Li Keqiang, the vice premier and heir-apparent to Wen Jiabao, laconically remarked to the US ambassador a few years ago, most of the statistics in China are “for reference only.”

And Charles Hugh Smith argues:

Despite their many differences, the economies of China and the U.S. share a number of key traits: both are corrupt, rigged, crony-Capitalist, rely on phony statistics and propaganda and operate with two sets of rules: one for the Elites, and another for the masses.

Despite their many differences, the economies of China and the U.S. share a number of key traits: both are corrupt, rigged, crony-Capitalist, rely on phony statistics and propaganda and operate with two sets of rules: one for the Elites, and another for the masses.

Can We Trust You?

The credit crisis hit in 2008 largely because American banks lost trust in one another. Specifically, top economists say that each bank had so much bad debt on its books (in the form of mortgage backed securities and derivatives which worth the paper they were written on) which made them essentially insolvent that they assumed that all of the other banks must be in a similar situation … so they stopped lending to each other.

This drove the price which banks charged each other for loans (libor) skyrocket, and the whole credit market froze up.

The same thing is now happening in China. As ZeroHedge reports, Chinese interbank lending is freezing up and “shibor” – the prize which Chinese banks charge each other for loans – is skyrocketing.

Bloomberg notes:

China’s money-market rate climbed to the highest level in more than three years as a worsening cash crunch prompted the central bank to suspend a bill sale.

The seven-day repurchase rate, which measures interbank funding availability, has more than doubled since June 14, when the People’s Bank of China ordered lenders to set aside more money as reserves for a sixth time this year. The central bank suspended a sale of bills tomorrow, according to a statement on its website today.

“Banks have to hoard cash to meet the regulator’s capital or loan-to-deposit requirements by the end of every quarter,” said Liu Junyu, a bond analyst at China Merchants Bank Co., the nation’s sixth-largest lender. “So we won’t see the shortage easing.”

(Admittedly, there may have been temporary factors leading to the rise in shibor, which might be smoothed out in the future. But the point is that China is not immune from credit squeezes.)

Less Bang for the Buck

Each dollar of debt incurred by the American government creates less and less benefit. For example, Jim Welsh points out:

Since 1966, each dollar of additional debt has given the economy less of a boost. In 1966, $1 dollar of debt boosted GDP by $.93. But by 2007, $1 dollar of debt lifted GDP by less than $.20.

Karl Denninger notes:

What is this chart? Why, the history of our idiocy. It’s quite simple; this is the multiple that each dollar of debt (anywhere in the economy) has returned in GDP looked at on a quarter-on-quarter basis, net of the debt increase itself. That is, if the multiple is “1″ then for each dollar of debt added to the economy there was one dollar of output in the form of GDP added as well during the same period of time. If it’s “0″ then the debt itself produced no additional output, but did fund itself. If it’s negative, well, into the black hole you go. Since this is a quarterly number it’s quite noisy but there’s no mistaking what it tells you.

If you pay attention you’ll note that since 1980 this has never been positive – not even for one quarter – and it was only rarely positive before that time!

Similarly, Martin Wolf of notes

:

Dwight Perkins of Harvard argued at the China Development Forum that the “incremental capital output ratio” – the amount of capital needed for an extra unit of GDP – rose from 3.7 to one in the 1990s to 4.25 to one in the 2000s. This also suggests that returns have been falling at the margin.
***
The thesis advanced by Prof Pettis is that a forced investment strategy will normally end with such a bump. The question is when. In China, it might be earlier in the growth process than in Japan because investment is so high. Much of the investment now undertaken would be unprofitable without the artificial support provided, he argues. One indicator, he suggests, is rapid growth of credit. George Magnus of UBS also noted in the FT of May 3 2011 that the credit-intensity of Chinese growth has increased sharply. This, too, is reminiscent of Japan as late as the 1980s, when the attempt to sustain growth in investment-led domestic demand led to a ruinous credit expansion.

As growth slows, the demand for investment is sure to shrink. At growth of 7 per cent, the needed rate of investment could fall by up to 15 per cent of GDP. But the attempt to shift income to households could force a yet bigger decline. From being an growth engine, investment could become a source of stagnation.

And if you think that bailouts as an attempt at stimulus are solely a Western game, think again.

China is bailing out local governments, giving cash for clunkers, and trying just about every possible type of bailout.

Consumer Spending Declines

Consumer frugality is obviously slowing the American economy. But the Chinese consumers are picking up the slack, right?

Actually, Bloomberg reports that consumer spending is down:

At the Haiyang Zhuangshi Co. hardware store in Beijing, sales of paint and aluminum window frames are slowing, one sign of a diminished role for consumer spending in China that’s foiling government objectives.
***
Hu’s loss underlines the dilemma for Premier Wen Jiabao: his campaign to control inflation is undermining attempts to make consumers a bigger driver of the world’s second-largest economy. Failure to lessen dependence on exports and investment spending leaves the nation more vulnerable to swings in external demand and subject to asset booms and busts.
Government data this week showed retail sales growth slowed to 16.9 percent in May, less than the average of the past five years and a figure that’s inflated by soaring prices for food. By contrast, spending on fixed assets such as factories and property climbed 26 percent, excluding rural households, in the first five months, the fastest pace in almost a year.

Analysts at Capital Economics, a London-based research group, estimate that private consumption may have fallen to 34 percent of gross domestic product last year, the lowest level since China began opening its economy to market mechanisms more than three decades ago. Just 10 years ago, the share was 46 percent, Capital Economics calculates.

“Just at a time when the government in China and a lot of people elsewhere are hoping to see Chinese consumers step up to the plate, actually they’ve been staying away from shops,” said Mark Williams, an economist in London with Capital Economics and a former adviser on China to the U.K. Treasury. “The trend over the past couple of years has been relentlessly downward.”

All Bubbles Eventually Burst

I noted in July 2009:

One of the top experts on China’s economy – Michael Pettis – has a[n] essay arguing that China is blowing a giant credit bubble to avoid the global downturn.

Pettis documents reports and statistics from modern China, of course. But he ends with a must-read comparison to ancient Rome:

Let me post here a portion of Chapter 15 from Will Durant’s History of Roman Civilization and of Christianity from their beginnings to AD 325
The famous “panic” of A.D. 33 illustrates the development and complex interdependence of banks and commerce in the Empire. Augustus had coined and spent money lavishly, on the theory that its increased circulation, low interest rates, and rising prices would stimulate business. They did; but as the process could not go on forever, a reaction set in as early as 10 B.C., when this flush minting ceased. Tiberius rebounded to the opposite theory that the most economical economy is the best. He severely limited the governmental expenditures, sharply restricted new issues of currency, and hoarded 2,700,000,000 sesterces in the Treasury.

The resulting dearth of circulating medium was made worse by the drain of money eastward in exchange for luxuries. Prices fell, interest rates rose, creditors foreclosed on debtors, debtors sued usurers, and money-lending almost ceased. The Senate tried to check the export of capital by requiring a high percentage of every senator’s fortune to be invested in Italian land; senators thereupon called in loans and foreclosed mortgages to raise cash, and the crisis rose. When the senator Publius Spinther notified the bank of Balbus and Ollius that he must withdraw 30,000,000 sesterces to comply with the new law, the firm announced its bankruptcy.

At the same time the failure of an Alexandrian firm, Seuthes and Son due to their loss of three ships laden with costly spices and the collapse of the great dyeing concern of Malchus at Tyre, led to rumors that the Roman banking house of Maximus and Vibo would be broken by their extensive loans to these firms. When its depositors began a “run” on this bank it shut its doors, and later on that day a larger bank, of the Brothers Pettius, also suspended payment. Almost simultaneously came news that great banking establishments had failed in Lyons, Carthage, Corinth, and Byzantium. One after another the banks of Rome closed. Money could be borrowed only at rates far above the legal limit. Tiberius finally met the crisis by suspending the land-investment act and distributing 100,000,000 sesterces to the banks, to be lent without interest for three years on the security of realty. Private lenders were thereby constrained to lower their interest rates, money came out of hiding, and confidence slowly re-turned.

Except for the exotic names … and the spice-bearing ships, this story has a remarkably contemporary ring to it, as do nearly all historical accounts of financial crisis, by the way. This story is not totally relevant to China today except to the extent that it indicates how difficult it is for banking systems flush with cash to avoid speculative lending, and how the very fact of their speculative lending then creates the conditions that can bring the whole thing crashing down. Hyman Minsky told us all about this kind of thing. There has never been a political or economic system in history that has been able to avoid the consequences of excessive liquidity within the banking system. Even the Romans learned this, and they learned it the hard way, as we always do.

America’s easy credit bubble started in 2001. Rome’s prior to 10 BC. We know the results of both.

Is China now blowing a huge credit bubble which will lead to a giant crash down the line?
Pettis thinks so, and every Austrian economist in the world would agree.

I noted in September of that year:

Lou Jiwei – the chairman of China’s sovereign wealth fund – recently told a forum organized by the Brookings Institution and the Chinese Economists 50 Forum, a Beijing think-tank:

Both China and America are addressing bubbles by creating more bubbles and we’re just taking advantage of that.

While Americans are focused on the bursting of the American housing bubble, the bubble in residential and commercial real estate was global, including China.

Where Did the Surplus Go?

I wrote the same month:

China’s official daily newspaper – China Daily – writes that China will probably run a trade DEFICIT in March …

It shows that the entire environment everyone assumes we are operating in – China as the giant net exporter with huge trade surpluses – might not continue for much longer. In other words, “Chimerica” is starting to break up.

And those huge Chinese purchase of U.S. treasuries are no longer guaranteed.

Indeed, Warren Hatch of Catalpa Capital Advisors claims:

After hitting record highs in 2009, China’s global trade balance is well below where it used to be and ticked up only modestly in the latest data. However, the headline number can be misleading: the trade surplus with the US continues to hit new highs while China is running massive trade deficits with the rest of the world.
***
When all the math is done, without the US, China is running a trade deficit with the rest of the world (the red line).
***
The renewed strengthening of the yuan against the dollar, however, has lagged the global surge in commodity prices. Because China is paying more for its commodity imports, the deficit with its non-US trade partners continues to grow. China has been buying US Treasuries for many years to finance its trade surplus with the US. China may need to continue doing so for some time to come to offset its trade deficit with the world ex-US and keep its overall trade balance stable.

Debt … In China?

Westerners are also familiar with the debt problems of Western countries like Greece, Spain and the U.S.

But as CNN Money noted in 2009:

On the surface, China presents a fiscal study in contrast with the United States, keeping a remarkably low ceiling on debt even as it spends its way out of the financial crisis.

***The trouble is that excludes local government borrowing, the current surge in loans backstopped by Beijing and bad assets cleared from the banking system but still floating about.
When all are thrown into the pot, analysts estimate that China’s debt may be closer to 60% of GDP, putting it in virtually the same league as the United States, which was at 70% at the end of 2008 before it launched its massive economic stimulus program.

To be sure, Washington is now set on a path of exploding debt that Beijing will largely avoid. [And China is somewhat more shielded from derivatives than the U.S.] The United States budgeted for a federal deficit of 12.9% of GDP this year, whereas China is aiming for just 2.9%. [And to the extent that China practices more public banking than the U.S., it might be able to create more credit without having to pay high interest rates to its private banks in the process.]
But China’s finances are deteriorating more quickly than the government expected, fueling a rise in the stock of both explicit and disguised debt that will constrict its wriggle room.

“It is serious because, one, much of it is hidden and, two, local governments are currently doubling down on their bets,” said Stephen Green, economist at Standard Chartered Bank in Shanghai. “As with all fiscal deficits, it limits space for further stimulus.”…

Above and beyond that are 400 billion yuan in bad loans in banks’ hands and at least 1 trillion yuan in non-performing debt hived off their books and assigned to asset management companies. The buck stops with Beijing on all of these.

The record surge in bank lending this year means that its sum of liabilities is about to swell in size.

MarketWatch noted in May 2010:

China’s economy is teetering on the edge of a major slowdown … according to a noted China strategist.

David Roche, an economic and political analyst who manages the Hong Kong-based hedge fund Independent Strategy, says the world’s third-largest economy is now on the brink, faced with the inevitable reckoning that follows an extended bank-lending binge.

“We’ve got the beginnings of a credit-bubble collapse in China,” said Roche, predicting the economy will likely cool from its stellar double-digit growth rate to a 6% annual expansion as a result.

While that may not sound bad, Roche believes the collateral damage from the cooling will be anything but mild, as the banking sector comes under pressure from cumulative years of bad investment and mispriced capital.

***
As Northwestern University’s Victor Shih points out, the Chinese government will slowly reveal more and more of the true ratio of bad loans to good loans, and raise its figures for local government debt. Shih says that recapitalizing Chinese banks to cover losses for the bad loans will eat up more and more of China’s reserves.

The Telegraph noted last June:

China’s chief auditor has warned that high levels of local government debt could derail the country’s economy, with some observers suggesting that a number of Chinese provinces are even more fiscally-troubled than Greece.

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