Analysis of Greece’s “Trichet Plan” Restructuring

By Global Macro Monitor

We’ve done some quick analysis of Greece’s commercial bank “Trichet Plan” restructuring announced late last night (click here for term sheet) by the Institute of International Finance (IIF). The IIF is a consortium of the world’s largest banks.

Interestingly, the plan looks very similar to the one presented on this blog in late April. The structure uses the Brady Plan framework from late 1980’s and early ‘90’s and is really the first step to deal with bond maturities coming do over the next few years.

The realized debt and debt service relief to Greece will not be known until the final deal is closed. It is a beginning and huge step in the right direction as it finally addresses the structural problem of Greek’s debt overhang.

The table below shows that assuming a Greek sovereign yield of 15 percent, just about 100 bps below its current 10-year yield, the three options will trade in the secondary market from 59 percent to 68 percent of face value, much higher than the current price of Greece debt. The authorities who negotiated the deal tried to make the options in the menu equivalent based on a Greek sovereign yield of 9 percent. They state in the term sheet “all instruments will be priced to be economically equivalent at 21 NPV discount at a discount rate of 9%.”

This doesn’t mean that it will provide Greece with a 21 percent haircut, but that the bonds will trade at 21 percent discount in the secondary market if Greek sovereign yields are 9 percent. Like many other issues, including contributions to public pensions or estimating the cost of global warming, it all comes down to the discount rate assumption. The Mexico Brady Plan Bank Advisory Committee spent several weeks debating the discount rate, which had a large impact on the final structure of Mexico’s deal.

Many will dismiss this deal as it does not solve and provides only limited relief to Greece’s debt overhang, but it’s a start and makes Greece’s debt problem much more manageable over the short-term. There will be many positive externalities from the deal not to mention the increase in confidence and higher bond prices, which will strengthen the balance of sheet of Greece’s bank creditors. Furthermore, at a 15 percent yield, which still incorporates a relatively high probability of default, more than half of the market value of the Par Bond, for example is the AAA zero coupon collateral.

At the end of the day, the Brady Plan did not provide much net debt relief to the participating countries and was even initially criticized as so by the IMF. Its success was really the result of the positive externalities generated from reducing debt rather than increasing it. In addition, Greece will have more time to reduce its debt through buybacks and debt swaps, such as debt-for-equity, debt-for-environment, and debt-for-education swaps.

There are still many issues unanswered, including how to deal with the free rider problem as no doubt vulture funds have and will be buying Greek bonds in the secondary in the hope of being paid in full. However, many of the largest European banks and largest creditors to Greece have already signed onto to the deal, including Deutsche Bank, BNP Paribas, Société Générale, Commerzbank, and ING. Step by step. No magic solutions.

Our sense is that shorts are going to be reaching for the KY. Godspeed, Greece.

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Kicking the Can Down the Road One More Time

By John Mauldin

Kicking the Can Yet Again
It’s Not Just Greece
Who is Going to Buy that Debt?
You Have to Admire the Commitment
The Problem with US Employment
Washington DC, Vancouver, NYC, Maine, and now Europe

This week we start with the latest version of the solution to the European Crisis, the details of which are now coming out. Then we look at the global economy, and some signs that seem to point to a softening. And then there’s some data on US employment from a friend who has some thoughts about what we really need to do to get unemployment to come down. There is a lot to cover.

But first, we have posted the latest of our Conversations with John Mauldin on the website. It is with Dylan Grice of Societe Generale in London, and he is just brilliant. Subscribers will love it. Basically, Conversations with John Mauldin is my subscription service where you can “listen in” on my conversations with my friends from around the world talking about the topics of the day. Subscribers give it rave reviews, and of course we do transcriptions. You can go to http://www.johnmauldin.com/conversations/ and type in CONV as the code to get a $50 discount off the $199 price. And, of course, you’ll get the past conversations as well, with all sorts of well-known analysts. To learn more just click on the link. And now, let’s turn to Europe.

 

Kicking the Can Yet Again

My friends at GaveKal point out that this is “… the sixth time in 18 months European leaders have announced a definitive solution to the Euro crisis. Should this version of the final bailout be taken any more seriously than the first and second solutions to the Greek crisis in May and September 2010 or the Irish bailout of December 2010 or the Portuguese rescue package of March 2011 or the breakthrough vote in the Greek parliament of last month? The supposedly good news for markets was that the -21% haircuts to be imposed on Greek creditors (as estimated by banker groups) were less than half those suggested a few days ago.”

A 21% haircut is a bad joke. If you assume that Greece can afford to spend 10% of their revenues just to pay the interest, which is what they will need to be able to do to get out of their crisis, then the haircuts look more like 75-80%. Sean Egan, the most credible credit analyst in the country, estimated this week that the eventual haircuts on the Greek debt will be 90%.

You can read the release from the EU leaders in its entirety, if you like, at http://www.foxbusiness.com/markets/2011/07/21/read-eu-leaders-full-statement-on-greek-bailout/. I really have no idea what you should drink as you read it.

Here is what it really says: We are going to keep throwing good money after bad and work as hard as we can to transfer the debt that is on the banks to the ECB and European taxpayers as long as the voters will let us. This first tranche will be another €109 billion. That will last a few years, and Greece will only have to pay about 3.5% on that debt and the rollover debt, and people who expected to be repaid in that period will see payment extended to either 15 or 30 years.

You can call this what you like, and they call it “selective default,” but it is a default. There will be government guarantees on the debt, so the ECB can take it from the banks.

Let’s see what the “voluntary” debt rollovers will look like and what the likely debt destruction will be. This is from Global Macro Monitor.

First, notice that the plan claims haircuts will only be 21%. But that assumes you can sell the new bonds at a 9% interest rate. If the interests rate demanded by the market are 15%, which is closer to reality, the haircuts are closer to 67%, after what appears to be an initial 20% cut. Will any institution not immediately try and get those bonds into the hands of the ECB? This is just ugly.

I have to quote what may be the most laughable part of the whole document:

“4. We call for a comprehensive strategy for growth and investment in Greece. We welcome the Commission’s decision to create a Task Force which will work with the Greek authorities to target the structural funds on competitiveness and growth, job creation and training. We will mobilise EU funds and institutions such as the EIB towards this goal and relaunch the Greek economy. Member States and the Commission will immediately mobilize all resources necessary in order to provide exceptional technical assistance to help Greece implement its reforms. The Commission will report on progress in this respect in October.”

Ok, the Greek economy is in a depression, so let’s fire up a jobs program. Run by socialists and bureaucrats. The entire Eurozone is slipping into a slow-growth recession, and these guys are just focusing on Greece.

 

It’s Not Just Greece

And that’s the problem with this latest patchwork fix. It assumes that Greece is the problem and if we solve Greece everything else will get solved. The document analyzed above promises that bondholders of other nations will not suffer any haircuts. It does say that the Irish will get lower rates. But why won’t the Irish ask for haircuts? And it is my contention that the Irish will eventually reject the ECB loans they took on for their banks. And that will be a 100% haircut for the ECB. Not to mention that the Irish can point out that they didn’t do anything wrong or cheat to get into the Eurozone. They just built too many houses and ran up huge bank losses.

It’s just simple math. The Irish can’t afford to pay that debt. It should have never been taken on to begin with, and Irish voters threw the government that did it out of power. It cannot be lost on the leaders in Ireland that when the Greek prime minister called the EU’s bluff, the EU blinked. Trichet agreed to take on Greek debt after saying “non” for months, but with guarantees, kind of, sort of. Merkel caved. Ireland has to be paying attention. (By the way, I am going to go to Ireland in late September on a fact-finding mission. More below.)

Is Portugal any better off this week than last? Italy? Spain? Italy and Spain have barely any nominal growth in GDP, and the nominal growth of both these countries is below their debt-service growth. That is basically Ponzi-level finance. They have to issue new debt just to finance the old debt. And that is why interest rates are rising in both countries. Spanish banks have huge holes in their balance sheets from real estate loans that simply have not been written down. If Spain were forced to underwrite their banks, they would quickly be insolvent. To be sure, Italy introduced a new budget that, if followed, will make real headway on their deficit; but it also means a slower-growth economy for the next year.

To get an idea of the relative size of the problem, Germany has a GDP of about €2.5 trillion. The Italians have issued DEBT of €1.9 trillion. Italy’s debt-to-GDP ratio is approaching 120% (if it’s not already there) and is the second highest in Europe, following Greece. There is not enough money in Europe to help Italy, should the markets start to really run up their interest rates, as they must roll over debt. And higher rates mean that the debt costs and interest payments will be even larger. Their latest budget deficit was 4.6% of GDP, which means they need to borrow rather large sums of money

Italy does have a few things going for it. Much of its debt is of longer duration, so they have some room to maneuver for a few years if interest rates can remain kind, but they must find a way to increase growth or they too will become a Eurozone problem. The latest budget and austerity measures may give them a surplus, which they can use to pay down debt; and that would placate the markets.

And don’t forget France. The French may talk a good game, but their budget is in a shambles and their entitlements are unsustainable. There is a French day of reckoning coming.

 

Who is Going to Buy that Debt?

I had a conversation with my good friend Lord Bridport, who runs a major bond trading house in Geneva, selling bonds to pension and insurance funds in Europe. The plan is for the Eurozone to issue eurobonds and sell them into the private market to back the various bailout schemes. I asked him whether he thought his clients would buy. He said very clearly he would recommend they do not buy until it is quite clear who and what will back them. Otherwise, buy German and other solvent-country bonds. This is going to be a tough sell in Europe, gentle reader, if Alex is saying “no”; and he is not alone.

 

You Have to Admire the Commitment

You simply have to admire the commitment of European leaders to ignore common sense, simple arithmetic, and their voters in pursuit of the goal of a United Europe at all costs. It is really quite astounding.

I would remind my American readers that if you go back and read the history of the 1780s and our original Constitutional Convention (1787), it was the same determination on the part of our founding fathers that gave us a constitution. The convention was originally just supposed to be for amending the Articles of Confederation. Alexander Hamilton and James Madison never had any such intentions and argued forcefully for a full-blown change, with George Washington presiding. They got their way. There was no great clamor among the people for a United States of America and the loss of sovereignty of the 13 original states, which happened over time, by the way. The founding fathers would be aghast at the lack of state sovereignty today.

Can Europe do something along these lines? Possibly. They will need to move toward more fiscal consolidation, acknowledge that the European Central Bank is going to have to take on at least €1 trillion in debt by printing money, and that governments will have to run balanced budgets, much like our states; but the transition will be costly. And it will take time. And the obstacles are many, and not just monetary.

We at least had just one language (more or less) and the shared experience of a successful revolution. Plus a growing economy and plenty of opportunity and relatively free land in the west for pioneers, as well as some real visionaries as leaders.

John F. Kennedy once held a dinner in the White House for a group of the brightest minds in the nation at that time. He made this statement: “This is perhaps the assembly of the most intelligence ever to gather at one time in the White House, with the exception of when Thomas Jefferson dined alone.”

Who commanded the respect of the nation like Washington, or Adams or Hamilton or Madison? Would that we had such leaders today. We can’t even agree on cutting the deficit when almost everyone says we need to. Well, except for Paul Krugman.

I hope Europe pulls it off. I really do. They have done the US a huge favor by adopting this latest plan, as it keeps their banking system from imploding; because their banks are essentially insolvent with all the sovereign debt on their books. Such a banking crisis, which would be worse than 2008, in my opinion, would no doubt plunge a world already slowing down back into recession and pull our own slow-growth economy down into recession with them.

How long can they kick the can down the road? My guess is that it will be longer than we suspect. Will European voters go along with the continual lurching from crisis to crisis and piling more and more debt onto taxpayers? Will Germany allow the ECB to destroy its balance sheet and the euro with it? Can they keep their Bundesbank mentality in check and put to rest the ghost of the Weimar Republic?

I continue to predict the euro is going to parity against the dollar if it survives with all the current members intact. Parity may be optimistic. Stay tuned. I will follow this closely, gentle reader, and keep you updated.

 

The Problem of US Employment

I wrote about a year ago about how difficult it was going to be to really bring unemployment down. Rather than go back and replay that piece, I am going to pass on a note that my friend Barry Habib sent me today, which is quite sobering, and then add my thoughts. Quoting:

“A healthy employment market is the key to a strong economy. The housing market, along with many other important sectors of our economy, is highly dependent on people feeling confident in their ability to find work. But with the rate of unemployment above 9% and the economy sputtering to recover, everyone is asking how and when will the employment situation improve? This economic lynchpin is a very hot topic, which is also a critical element of many political, economic proposals. But while promising or estimating a decline in the unemployment rate may sound good, when the actual numbers are looked at more closely, realistically, and held to the light of historical performance, the forecasted declines may be far more difficult to achieve.

“For almost 40 years, the average rate of unemployment was below 6%. But the latest recession has pushed the rate far above what had been considered “normal”. So will we get back to the “normal” levels we have been accustomed to? I don’t see that happening for at least a long while. Let’s look at some data.

“There are about 311 Million people in the US. Our natural population growth rate, which compares births to deaths, is 0.6% per year. Our overall growth rate, which adds in migration, is 0.9% per year. There is currently a little less than half of the total population in the workforce, or about 153 Million people. So a 10% rate of unemployment would amount to about 15.3 million people wanting to find work. These factors create the need for job creations that will keep pace with the growing workforce so that the rate of unemployment can at least remain stable. How many jobs need to be created to absorb the growing workforce? About 115,000 per month. This calculation takes the current work force and overall growth rate into account. Therefore, the US must create 115,000 jobs each month just to keep pace!

“These numbers also tell us that if we want to reduce the rate of unemployment by 1%, there must be about 1.53 million jobs created. But remember that our population is also growing. That means young men and women are entering the workforce every day. And the positive migration causes more people seeking employment. During the last decade, there have been two stock market tumbles and a housing crash. This has adversely changed many previous plans to retire, and causing individuals to remain in the workforce longer than they may have originally planned. And if we want to see a reduction in the unemployment rate, we will need to see job creations over and above 115,000 per month. Therefore, targeting or projecting a 1% decline in the rate of unemployment requires 1.53 million jobs created plus 115,000 jobs per month for as long as it takes to achieve the target.

“In order to calculate this correctly, we need to factor in the time frame that this target is being projected over. For example, if the target is one year, then the 1.53 million jobs would be divided by 12 months, or about 125,000 per month. We then add this to the 115,000 needed to keep pace, which brings the total to a lofty 240,000 jobs per month for 12 months average. If the target is for a drop in unemployment by 2% in three years, the total jobs needed to be created are 3.06 Million, divided by 36 months – or about 85,000 jobs per month, plus the 115,000 needed to keep pace with population growth. This means we would have to add and average of 200,000 jobs per month for 3 years. And when we start to look at historical performance, we begin to see just how hard it is to accomplish this.

“For the record, I understand that demographics from 50 years ago are different, as well as different circumstances and moving targets. It’s true we can’t create an exact duplicate set of conditions. And I also understand that as the population grows, the 115,000 jobs needed each month will compound over time. That said, I am keeping it a bit simple so we can illustrate the concept.

“I went back 50-years on the BLS site and found some very interesting data. The best year for job gains was 1978, when the US added an average of 356,000 per month. Best decade was the 1990’s, with 181,000 average monthly gains During the past 50-years the average gains per month were only 124,000. The worst decade was the 2000’s, which actually saw monthly job losses that averaged 10,000 per month.

“We often hear projections on reaching a lower level of unemployment within a certain time frame. Let’s look at a chart to see how many jobs it would take to reduce the current 9.2% rate to a lower level over some different periods of time.

“The colors on the chart help us see how likely this scenario may be. For example, the numbers in the red boxes indicate that this has never been done before during the time frame desired. Green boxes indicate that this is close to a historical average. Blue boxes are an optimistic, but achievable goal. Grey boxes have numbers that have been reached in the past, but very rarely. The yellow box indicates that this has happened only once before – and that is over 50 years of data…meaning a very slim 2% chance.

“We often hear of a return to a 6% unemployment rate. Well if the goal is to do this in 4 years, then the US would need to create just under 250,000 jobs per month on average during this period. There are 47 rolling 4 year periods during the past 50 years. For example 1961 – 1964 is one. Then 1962 – 1965 is the next, and so on. During this time, a level above 250,000 jobs per month average for a 4 year rolling period only happened three times. There were a few more times when the numbers were close, but the chance of this happening was less than 10%. If history is a guide, the promises and projections we have been hearing, will have a very low probability of becoming a reality.

“History tells us that bringing unemployment down to 8% over 4 years is just about 50/50. This is very worrisome. And back to our earlier example of bringing the rate down 2% in 3 years – The 200,000 monthly job gains needed during a 3 year period of time has about a one in three chance of happening, according to the historic data.

“Let’s look at the total needed to get to 7% unemployment in 5 years, or about 171,000 jobs per month average. There are 46 rolling 5 year periods during the past 50 years. There were 17 times where the creations were above the number needed to reach the goal. That is just a little better than a one in three chance. Not very good odds, and worse – this is what many projections are based upon. “Job creations need to be the central focus of our leaders. Small Businesses create so many of these jobs and should be given the tools to help them do this.”

OK, John here. The times Barry talks about, of large job creation, were during periods of either high innovation or significant home and infrastructure building and increasing leverage. That is just not in the cards now. It requires an economy rocking and rolling north of 4% GDP growth. We are barely at 2%. In May, total state payrolls (the data came out today) were down 64,000; in June they were up 65,200, averaging out to +1,200 for the two months combined.

We keep hearing about what the government should do to create jobs. And the reality is that it can do precious little. Private businesses create jobs, and nearly all net new jobs for the last two decades have come from start-up businesses. What government can do is create an environment that encourages new businesses, get rid of red tape (especially in biotech, where the FDA is mired in the 1980s!), stop creating even more rules that make it costly for new businesses to hire, and so on. I could go on, but the fact is, we are in for a rather long period of higher-than-comfortable unemployment. And that means lower tax revenues and a more difficult economy.

 

Washington DC, Vancouver, NYC, Maine, and now Europe

I am making a last-minute trip to Washington, DC on Sunday, at the invitation of some Senators and Congressmen. Monday morning I will be meeting with Congressmen, then have lunch with some chiefs of staff of Senators (evidently, some of them actually read me – who knew?), and then have meetings with a growing group of Senators, some of whom seem to have read my book, Endgame.

I have not pushed my book for some months, but the response has been very good. Great reviews, along the lines of “the best explanation of the crisis we face.” The book is not just about the US, but the entire developed world. I hope I can add something to the political conversation on Monday. I know there is a desire to cut the deficit all at once; but we have to realize, this must be a long process, unless we want to engender a true depression. It is going to be tough enough to cut a few hundred billion a year.

The Republicans have put up two plans. The House passed one. Obama is criticizing them for not compromising, but he has offered no concrete plan, just vague ideas about cuts of the “player-to-be-named-later” variety. You can’t compromise when you don’t have anything on the table to compromise with. The budget Obama submitted last February was rejected by the Senate 97-0. Not one Democrat voted for it. We must raise the debt ceiling, but we must also get serious deficit reduction into the process. I am not against tax reform (indeed, I am all for a lot of tax ideas), but we can’t pass any tax increases without guaranteed cuts that are much larger than the increases. And we need to recognize that tax increases will not make it any easier for new businesses to start up.

I fly back late Monday night and get up early to fly to Vancouver for two nights, then back Thursday and write Friday. I leave the followingTuesday with son Trey for two nights in NYC and then on to Maine, about which more next week. And I’ll have a report on my DC trip. I expect to learn more than I impart, but I will try to offer up a few ideas. Wish me luck!

In September, I will be going to London, Malta (for a day), back to London, and then spend four days in Ireland and a few days in Geneva before I head home. I am really looking to meet people in Ireland. Have a great week; I know I will. Dinners on Tuesday and Wednesday with so many friends – Bill Bonner, Pat Cox, Keith Fitzgerald, Frank Holmes, David Tice, Mike West of Biotime, Rick Rule, et al. – what a wonderful time. And then Thursday with my Canadian partner, John Nicola, in a seminar, before heading back. Enjoy your week.

Your curious as to what Monday holds analyst,

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Unthinkable?

by Economist

BEN BERNANKE reckons it would be “a huge financial calamity”. Bond markets remain sanguine about a possible failure to raise America’s debt ceiling by August 2nd, and the subsequent potential for a technical default. But it pays to plan ahead, just in case the politicians lose the last of their marbles.

SIFMA, a trade group for large banks and fund managers, recently gathered members together to discuss issues like how to rewire their systems to pass IOUs rather than actual interest payments to investors, should a default occur. “It’s one of those Murphy’s Law things. If we do it, it won’t prove necessary. If we don’t, we’ll be scrambling like crazy with a day to go,” says one participant.

But the moneymen hardly have all the bases covered. “I really thought I understood this market, until I tried to map all of the possible consequences of a breakdown,” sighs a bond-market veteran. That is hardly surprising, given that Treasury prices are used as the reference rate for most other credit markets. Moreover, some $4 trillion of Treasury debt—nearly half of the total—is used as collateral in futures, over-the-counter derivatives and the repurchase (repo) markets, a crucial source of short-term loans for financial firms, according to analysts at JPMorgan Chase.

Some fear that a default could cause a 2008-style crunch in repo markets, with the raising of “haircuts” on Treasuries leading to margin calls. The reality would be more complicated. For one thing, it’s not clear that there is a viable alternative as the “risk-free” benchmark. One banker jokes that AAA-rated Johnson & Johnson is “not quite as liquid”. In a flight to safety triggered by a default, much of the money bailing out of risky assets could end up in Treasury debt. Increased demand for collateral to secure loans could even push up its price.

Then there is the impact of a ratings downgrade. Money-market funds, which hold $684 billion of government and agency securities, are allowed to hold government paper that has been downgraded a notch. Other investors, such as some insurers, can only hold top-rated securities but their investment boards are likely to approve requests to rewrite their covenants, especially if a lower rating looks temporary. “It would be a full-employment act for lawyers,” says Lou Crandall of Wrightson ICAP, a research firm. There’s a surprise.

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The paper currency that everyone seems to like

by Economist

PAPER currencies have not been very popular of late—witness gold’s surge to a record high against the dollar, sterling, the euro and the yen on July 18th. Near-zero interest rates and debt crises on both sides of the Atlantic make investors both risk-averse and nervous that governments might try to inflate their way out of the debt problem.

But there is one exception to the rule: the Swiss franc. As the chart shows, the franc is even stronger in trade-weighted terms than it was in the 1970s, a period when Switzerland imposed negative interest rates in an attempt to discourage foreigners from opening bank accounts.

Mansoor Mohi-uddin, a strategist at UBS, reckons that the franc, along with the Australian and Canadian dollars, has become part of a group of “shadow currencies” that are used by traders and investors to hedge their views on the global economy. Investors who are worried about the impact of America’s fiscal and monetary problems on the dollar but want to bet on its economy, which is closely linked to Canada’s, buy the loonie instead. Australia’s commodity-rich economy makes its dollar attractive to those who would like to bet on China’s economy without taking the political and corporate-governance risks of investing directly in the People’s Republic.

The Swiss franc represents, in UBS’s view, the modern equivalent of the old D-mark. Switzerland has many attractions for the risk-averse investor. It has an inflation rate of less than 1% and a current-account surplus that has reached 15% of GDP. Despite the strength of the franc, exports have performed well and the economy is forecast to grow by more than 2% in both 2011 and 2012. The IMF expects the government to run a small budget surplus this year, and gross government debt is 53% of GDP, well below that of most of its European neighbours.

One potential weakness of Switzerland, in the mind of many investors, has been its banking sector. Given that the banks’ assets are many times the size of Swiss GDP, would the country have the financial strength to bail them out? But Geoffrey Kendrick, a currency analyst at Nomura, says the banks may have contributed to the recent strength of the franc. The process of contracting their balance-sheets has caused them to shift assets back home.

The Swiss have tried in the past to resist upward pressure on their currency. The Swiss National Bank (SNB) intervened to try to drive down the franc in 2009. ABB, one of Switzerland’s largest companies, recently described the franc’s strength as a headache. For Novartis, a pharmaceuticals giant, a 9% earnings gain in dollar terms during the first half of 2011 turned into a 16% loss in Swiss-franc terms. These problems have naturally led to speculation that the SNB might be tempted to take action once again, especially as Thomas Jordan, its vice-president, recently expressed concern on the issue.

But the previous round of intervention failed to stop the Swiss franc from rising and Mr Kendrick reckons the SNB may have lost Sfr38 billion ($46.3 billion) as a result. That matters because the SNB pays an annual dividend of Sfr2.5 billion to the country’s cantons; last year, that payment had to be made out of the bank’s reserves because of its foreign-exchange losses. Further losses would probably be politically unacceptable.

Nor has the Swiss economy been sufficiently damaged by the franc’s strength to suggest intervention is worth the risk. The core measure of inflation has admittedly turned negative but the headline figure is still positive; back in 2009, prices were deflating by 1% a year. Switzerland’s close ties to the German economic powerhouse are boosting growth. There is even talk that the SNB might increase interest rates later this year (they are currently just 0.25%), something that would be bound to increase the franc’s attractions.

Are investors being rational? On the OECD’s calculations of purchasing-power parity (a measure that adjusts for relative prices), the franc is 42% overvalued against the euro and 44% against the dollar. If the markets were suddenly to become more optimistic about the outlook for the global economy, or if Europe’s politicians solved their debt crisis, the Swiss franc would be vulnerable to a fall.

On the other hand, it seems sensible for investors to have an alternative bolthole to gold, an asset that delivers no yield at all, is very difficult to value, has risen sixfold from its 2001 low and which attracts the kind of public enthusiasm that has marked bubbles in other assets. The Swiss may not like the strong franc, but they could be stuck with it for a while.

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Corporate profits off to strong start for 2Q

By DAVE CARPENTER

So much for fears that U.S. companies might stall out in the economy's soft patch.

Corporate profits are coming in better than expected so far in second-quarter earnings season despite concerns about the potential for trouble ahead.

Strong showings from blue-chip companies such as Apple, Coca-Cola and McDonald's have put the quarter on track to set a new record for operating earnings.

"The corporate sector's in great shape," says Joseph LaVorgna, chief U.S. economist at Deutsche Bank. "The economy is a little healthier than we thought it was."

Aside from companies' continuing stubbornness about hiring more workers, the early results are good news for investors and anyone worried that the debt-limit standoff in Washington or the financial crisis in Europe could inflict serious damage.

Consumers' willingness to spend on fast food, electronic gadgets and other items has helped fuel better-than-expected quarterly results. Among the standouts:

• Apple Inc. more than doubled its profit to $7.31 billion on an 82 percent jump in revenue, further testimony to the runaway popularity of the iPhone and iPad.

• Coca-Cola Co. more than tripled net income to $5.77 billion as the world's largest drink maker increased its strength in emerging markets, such as Latin America, India and China, while sales held stable in the U.S. and Europe.

• Harley-Davidson Inc. more than doubled its profit to $191 million, posting an increase in U.S. motorcycle sales for the first time since 2006 and expanding its market share overseas.

• McDonald's Corp. increased net income 15 percent to $1.4 billion on a 16 percent jump in revenue, attracting more customers for its broadening menu and array of coffee drinks even as it raised prices.

Companies in several other industries also blew past Wall Street's expectations this week, including credit card issuer American Express Co., toy maker Hasbro Inc., oil services company Halliburton Co., computer company IBM Corp., chipmaker Intel Corp. and health insurer UnitedHealth Group Inc.

All told, 148 companies in the Standard & Poor's 500 index have reported earnings and 73 percent have beaten the expectations of Wall Street. That's somewhat ahead of the typical pace of two-thirds that surpass estimates.

Companies that had reported as of Friday had $24.52 per share in operating earnings — profits before subtracting interest and tax expenses — according to S&P senior index analyst Howard Silverblatt. The record of $24.06 per share was set in the second quarter of 2007.

Wall Street analysts forecast the next two quarters to be even better at $25.30 per share in the third quarter and $26.47 per share in the fourth. That's assuming the economy isn't dragged down by the deficit-reduction impasse or another problem.

Coming out of the recession, corporations first reported explosive earnings growth early last year. The pace has slowed, but it's still going. At the current rate, second-quarter earnings would be 17 percent better than a year ago.

It hasn't all been smooth going, as Caterpillar Inc.'s big earnings shortfall Friday underscored. The world's largest maker of construction and mining equipment took a hit because of the earthquake and tsunami disaster in Japan.

Other stumbles this week came from drugmaker Johnson & Johnson, appliance maker Whirlpool Corp. and big airline companies weighed down by higher fuel costs: AMR Corp. and US Airways Group Inc.

CEOs and chief financial executives also have been notably cautious in their comments about coming quarters, according to Quincy Krosby, financial market strategist with Prudential Financial.

"A little bit of uncertainty has crept into companies' guidance," Krosby says. ""You're hearing a lot of `It's challenging,' `It's difficult,' `We think we're going to do well but we're not sure.'" That hedging language, she says, has to do with the possibility for further trouble to develop from the ongoing economic and political dramas in Europe and Washington.

Yet the stock market itself hasn't shown much sign of concern. The S&P 500 rose 2.2 percent this week after having been down 2 percent during the previous two weeks.

That shows that investors aren't viewing companies' positive showings skeptically, says Rob Stein, founder and senior portfolio manager for Chicago-based Astor Asset Management.

"Earnings season has been at the higher end of expectations," he says. "More importantly, it's been well-received by the Street."

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