JP Morgan's Commodities Trading Head Blythe Masters to Troops: "Don't Panic"

Note to Blythe Masters: Sorry to hear about your losses in the coal market because of a 'rookie error' in taking on overlarge positions. But an epic short squeeze is coming for your massive and untenable positions in silver and gold, and hell is coming with it.

And the vampire squid and its minions are going to wrap themselves around your neck, and inexorably suck the life from you, while the hedge funds lick your wounds. Your protectors in the government will not even return your calls, because they will be running for their own lives away from the disaster that you created, denying all knowledge of it, any of it.

And then, by all means, you may panic.

Bloomberg
JPMorgan's Masters Urges No `Panic' as Commodities Unit Slips
By Dawn Kopecki
Aug 03 2010

Blythe Masters, JPMorgan Chase & Co.’s head of commodities, sought to reassure her team on an internal conference call after “extremely difficult” dismissals, defections and a first half in which some results were as much as 20 percent below expectations.

“Don’t panic,” she said in summing up the 35-minute call, a recording of which was obtained by Bloomberg News. “No one’s going to get screwed. We’re not going to do crazy things on compensation at the end of the year.”

Masters, who was named to run the business in late 2006, said the bank began dismissals on July 21, a day before the call, to trim overlap after buying parts of RBS Sempra Commodities LLP. The bank cut less than 10 percent of the combined front office, even as the oil unit lost “key people” who needed to be replaced, she said. She was discussing results with top executives after “we made a bit of a rookie error” that left the firm “vulnerable to a squeeze,” she said.

The 41-year-old banker, who helped develop credit-default swaps while at JPMorgan in the 1990s (kharma, ain't it a bitch - Jesse), delivered her talk from a conference room in New York, where the bank is based, less than a month after the firm closed its $1.7 billion RBS Sempra purchase. The deal almost doubled the number of corporate clients the bank can serve for commodities, Jes Staley, Chief Executive Officer of JPMorgan’s investment bank, said in February....

...“You should think of this [the layoffs] as business as usual and definitely not a reaction to losses in coal, or anything like that,” she said. “It’s not because we are panicking. It is not because we are changing our minds, backing off, backing out, backing down, running away, none of the above.” (When an executive has to say this, they are indeed panicking, and ass-covering at the highest levels is already underway - Jesse)

Masters said had she spent the previous several days in meetings with Staley, Chief Executive Officer Jamie Dimon and the investment bank’s operating committee and was preparing a “deep dive” with JPMorgan’s board and Chief Financial Officer Doug Braunstein. (When the perfect metals storm hits their derivatives positions, Jamie is going to be throwing up in his wastebasket, and JPM's stock price is going to be doing a deep dive of its own as people realize that they are Lehman writ large. - Jesse)

“When you have a bad quarter or a bad year, you should expect to spend a lot of time with senior management explaining yourself,” she said. (ROFLMAO - Jesse) “I have worked very hard, number 1, to own responsibility for what went on and to acknowledge it and not excuse it. We made an error of judgment. Frankly, we made a bit of a rookie error. We got overexposed in the market and made ourselves vulnerable to a squeeze. (Their position losses in coal compared to their risk exposure in silver is like a broken pipe in the wall compared to the 2004 Indian Ocean tsunami - Jesse)

‘‘But if you take that out and recognize that we’re not going to allow that to happen to ourselves again, the rest of the story really ain’t that bad,” she said. “In fact, if you look through it all, it’s extraordinarily encouraging.” (The 12 steps start with Step One - overcoming denial - Jesse)

Coal derivatives trader Chan Bhima made an error of judgment, not of character, (lol, this sounds like Michael Scott excusing Dwight's fire drill fiasco at Dunder Mifflin - Jesse) in “taking a risk on our behalf,” she said. Coal prices plunged 24 percent from January through March and then surged 35 percent through June. Marchiony, the bank spokesman, said Bhima wasn’t available for comment.

The company took an oversized position both relative to their fledgling operation and relative to the market, Masters said. The error cost the company as much as $250 million, the New York Post reported June 8, without saying where it got the information...

In the meanwhile here is some light reading while you consider you options with those oversized short positions China Seeks To Widen Gold Market

Kinross Gold to Buy Red Back Mining for $7.1 Billion, a 17% Premium, Or Was It?

Consolidation and acquisitions of smaller exploring companies by more mature companies with strong cash flows will be a dominant trend in the precious metals industry for the next ten years at least.

The long bear market in gold and silver has left mining companies ill-equipped to meet the growing demand for the metal by industry and investors. The majors will have to buy ready supply from the mid caps and juniors with proven resources, but a shortage of capital to successfully extract it and bring it to market.

There are a number of mining companies sitting on very attractive proven reserves, with market caps that scarcely reflect what they are known to have in the ground. If the stock market remains inefficient, for whatever reason, the acquisition activity will rise to fill that void.

I would also expect more of the junior to enact 'shareholder rights' plans to prevent predatory takeover offers, given the penchant to naked shorting and the sport which the funds have with these thinly traded small cap stocks on the Canadian exchanges. There are many junior mining companies that are not worthwhile investments or acquisitions. It takes due diligence to discover the value, take a position, and wait for price and that value to converge.

None of the stories I have seen so far discuss the price per ounce of proven reserves that Kinross paid for Red Back, which is a key metric. Also, the "17% premium" over market paid for the stock at 29.80 per share is really nil because this is the market price of just a few weeks ago before this artificial smackdown in the price of gold and silver, and the miners. Still, the stock had an amazing ramp higher over the past year. Management seems to be well taken care of in this acquisition. I should like to see more data about price per proven reserves and also prospective reserves to see if shareholders were taken care of as well.

And I should caution you that hedge fund managers, analysts and major companies are notorious for 'talking their book' when stalking their prey, so as to not drive up the price while they are accumulating their positions. Often managers are talking down the sector, and even the market most often through 'professional intermediaries,' while they are privately buying their initial stakes in target companies. That is how this game is played.

Their are a lot of restless dollar reserves around the world parked in dollar bonds paying negative returns looking for hard asset investments. China Plans to Help Bullion Producers Expand Overseas

"China “will place heavy emphasis on supporting large-scale gold producers in their development and overseas expansion plans,” the central bank said in the statement."

There seems to be a new gold and silver rush just beginning, and it could become quite impressive once it gains momentum.

Bloomberg
Kinross Gold to Buy Red Back Mining for $7.1 Billion
By Laura Marcinek and Rebecca Keenan
Aug 2, 2010 7:32 PM

Kinross Gold Corp., Canada’s third- largest producer of the metal, said it agreed to buy the shares of Red Back Mining Inc. it doesn’t already own for about $7.1 billion to add mines in West Africa.

Red Back investors will get 1.778 Kinross common shares and 0.11 of a Kinross common share purchase warrant for each Red Back common share held, the companies said today in a statement. The value of the offer is C$30.50 ($29.80) a Red Back common share, they said, which represents a premium of about 17 percent over Red Back’s July 30 closing share price in Toronto. The city’s stock exchange is closed today for a public holiday.

The volume of gold-mining mergers and acquisitions is increasing as producers are discovering less metal while the bullion price has advanced each year since 2000. Gold-mining companies have been involved in about $32 billion of deals this year, compared with about $4.8 billion a year earlier, according to data compiled by Bloomberg...

Gold discovery rates have been dropping by 4 million ounces a year for the past three decades, Credit Suisse Group AG’s Michael Slifirski said in November, citing a presentation from Gold Fields Ltd. The price of the metal has increased 7.8 percent in London this year. Gold traded at a record $1,265.30 an ounce on June 21.

Red Back, based in Vancouver, operates the Tasiast mine in Mauritania and the Chirano mine in Ghana, and has exploration projects in both countries.

“It is a fashionable part of the gold world at the moment,” Craighead said. “Kinross is probably chasing Red Back specifically for its growth attributes.”

Marché de l'Or: Gold Daily Charts from Pierre and Jesse

Mon ami Pierre dit:

La correction mineure de l'or que nous attendions semble terminée et le support vers 1.157 USD l'once ne devrait pas être cassé à la baisse.

Nous avons donc repris pour nos clients des positions à la hausse sur l'or pour la moitie de notre capacité d'achat.

Que nous augmenterions pour le cas où l'or baisserait néanmoins vers 1.146 (moyenne mobile à 200 jours).

Une cassure à la hausse de la résistance vers 1.211 (moyenne mobile à 50 jours) propulserait l'or vers 1.340 d'ici fin 2010.

Cordialement. Pierre Leconte

The correction is probably now over with the low set at 1,157 and a position has been taken. He will increase this position if gold continues its correction down to the 200 DMA at 1,146.

Gold will go higher to challenge the important overhead resistance at the 50 DMA of 1,211 and if it breaks out he thinks this will set up its rally to a year end high of 1,340.

Gold Daily Chart: Le Café Américain



I am pleased that we both agree from different perspectives. There is a great deal of resistance to gold now in the New York and London markets, so the way higher will likely not be easy unless something happens. I think silver may break out first and lead gold higher but this I cannot say for sure. But a break in the silver cartel would certainly do the trick.

One difference from a technical perspective is that if the price of gold falls to the 200 DMA at 1146 and can 'stick it' (not intraday) this will violate the lower bound of the handle, and I will have to then look at the more boring chart formation of an inverse head and shoulders formation that has completed at the high, and is now retracing the rally.

And this from Richard Russell

"Now I want to reveal my latest thoughts, which have finally come together. The US has a national debt of $13 trillion (that's trillion, not billion). There's no way in God's name that the US can ever pay off that debt. Actually, if the US does nothing the interest on the debt will eat up the nation. Worse, aside from the national debt the US has over $50 trillion in unfunded liabilities.

To put it frankly, the US is facing a debt future that can not be solved by cutting back on expenses and raising taxes. Even if the US taxed away all the income and profits of individuals and all corporate profits, the government would still not be able pay off its debts.

In my opinion, the US MUST default on its debt. There are two ways to default. One is simply to renege on the debt. I don't think the US would ever do that. If the US did that, nobody would ever deal with the US again. The other way to default on the debt is to inflate it away. I'm absolutely convinced that this is the path that the US will take. If the US inflates enough, then over time (many years) the devalued dollar will tend of reduce the power of the debts…

Lastly, what about gold? Gold formed a head-and-shoulders pattern. The pattern broke down, and August gold sank to 1156. But there gold held. It was if a net closed under gold. The plunge scared many of the late gold-buyers out of the market. Since its July 27 low, gold has been quietly creeping higher.

My guess is that gold has bottomed. Too many investors and too many central banks are potential buyers of gold. And they are 'bottom-fishing."

As far as I'm concerned, the "word" is out. The US will default on its monster debts. The US will default via systematic inflation. This will gradually "kill" the dollar. The protection against declining purchasing power of the dollar (brought on by Fed inflation) is gold.

As this is recognized by the masses, gold will move higher. Ultimately, this will develop into the speculative third phase of the gold bull market. The Russell opinion -- this is the time for gold accumulation and patience, a lot of patience.

Question -- Russell, I see a few of the smartest hedge fund managers (Soros, John Paulsen) have been buying heavily into gold mining shares. So, gold bullion or gold mining shares, which should we buy?

Answer -- The fund managers don't want a "safe-haven" position in gold -- they want potential profits. I believe the fund managers who are stocking up on gold mining shares are thinking that a speculative third phase in gold lies somewhere ahead. They're thinking that if gold explodes on the upside, the gold mining shares will go nuts. The shares will go crazy because they have the leverage. It will not cost them any more to mine gold even if the price of gold advances (yes, but union labor may cost more, and there will be the problem of higher taxes.

So I'll admit it -- if gold goes nuts on the upside, fortunes will be made by those holding gold shares. But I still prefer the actual product -- bullion gold. It's a cleaner play, no worries about a mine running out of reserves, no worries about union wage-boosts, no worries about political back-lash or confiscation, just fewer worries. And I avoid worries whenever I can.

To wind it up, I don't care for the stock market's action, but I do like gold's action. Gold and cash, that's where I want to be. And I'd be happy if my subscribers would copy my position."

A Paired Trade in Precious Metals Options and Futures Was the Basic Setup for the Sell Off

This contribution from a trader I know made sense to me. It helps to explain how the trade was set up for a sell off into the metals expiration, although I have not dug down into the numbers to test the theory in detail.

I think the fact that it occurred in rollover week facilitated a sell off. For this to have 'worked' those writing the gold and silver puts had to have been 'set up.'

Since these are generally fairly sophisticated players I had not thought of it, although I am sure they were hedged as well. Sophisticated traders are rarely purely long or short and are often involving intra-market dependencies. Still, one has to wonder if one of the big bank trading desks found a way to set up some large institutions or hedge funds, are they are often wont to do.

"What happened prior to the week of expiration was a large build up of commercial long positions. They were purchased in pairs with with puts. It looked delta neutral.

The banks sold the futures carefully creating a bear flag and then sold the balance on the break. Meanwhile the puts were kept and they minted money.

When you see a build up in longs on the commercial side it is never good in my experience, for gold and silver only.

Regards, Sabre"

SP 500 and NDX September Futures Daily Charts

There was a big rally today that started last night with the futures. The demimonde had its media spokesmodels out cheerleading early on. They became almost apoplectic on a slightly better than expected ISM number that was still rather dismal, all things considered.

If one bothered to look beyond the headlines to the new orders and inventories, it was apparent that they portend a further decline in activity. But that sort of thing is not said when the rally monkeys are in heat.

Stocks ran up to overhead resistance levels, and continued to be led largely by the SP futures, with the broader market lagging the push higher.

Whenever this happens it is hard not to be skeptical of the character of the rally. The Jobs Report is on Friday, with the ADP report on Wednesday morning. Consensus for the Friday Jobs is a loss of 87,000, and for the ADP report expectations are for a gain of 25,000.

SP 500



NDX

US Treasuries On the Long End Are Looking Toppy

Treasuries are not something I like to go long or short unless they are part of a paired trade. The long end of the curve is starting to look like a viable trade, unless one anticipates a short term stock market event and a flight to safety.

Friday is the Jobs Report.

People who have been holding Treasuries as a long term trade have done well. That trade on the long end of the curve is now starting to look like dead money, but these things take time to develop, and the bull trend in Treasuries has been powerful.

Dollar LIBOR Normalizes and US Dollar Index Declines as Eurodollar Short Squeeze Ends

Dollar LIBOR, and the related TED spread, is the 'tell' for these dollar index spikes related to eurodollar short squeezes. As european banks scramble to obtain US dollars to satisfy customer demand, they drive the 'price' of the dollar higher. The cause of the squeeze in this case was the euro uncertainty based on ratings downgrades on Greece and a few other EU member countries, and the hedge funds determined selling of the euro, which created a sell off in euros and a flight to dollar assets. There is also continued deterioration in MBS and other instruments denominated in dollars and held in the euro banks on behalf of customers.



The US dollar index tracks the eurodollar LIBOR to a remarkable degree. When the BIS data comes out for this period in time I am sure we will see a repeat of the squeeze in eurodollar deposits that we had seen in the last two dollar rallies.

Why is this significant? Because it shows that there is no fundamental trend change in the US dollar, which is in a long sideways 'chop' and still likely to head lower.



Although I am sure the Fed swaplines were utilized, the Financial Times reports that some of the european banks have been trading their own customers' gold for BIS dollar reserves.

Net Asset Value of Certain Precious Metal Funds and Trusts

Canadian Stock Exchanges Closed Today

As a reminder the Canadian Stock Exchanges are closed today for their national holiday Civic Day.

So if your junior miners are not 'performing' today the fact that they are not trading on their primary exchange may very well be the reason.

Butler: JP Morgan "Covering Its Silver Shorts Like Crazy"

JP Morgan holds a massive short position in silver, some of which it is said to have inherited as a concentrated speculative position from Bear Stearns. Retreats from such overextended positions are never easy, and therefore never straightforward. Having such a position can be very profitable in the short term since it gives one remarkable control over the paper price of a commodity, paricularly if the regulators are willing to turn a blind eye to certain trading practices.

If it is indeed reducing its oversized short positions, JP Morgan will undoubtedly attempt to 'smack the price' on occasion even as it covers, to prevent the specs and hedge funds from taking too much leash to the long side. This will help to prevent them from provoking a disorderly rout and, God forbid, a 'short squeeze.' In these managed markets, the major players tend to respect each other's turf, so one has to wonder who might take them on.

The 'deadline' if any that they might face is prospective position limits to be imposed and more transparent reporting required by the CFTC. Given the past history, it is most likely that JPM will not be overly inconvenienced by them in the short term. Ted has always been the optimist with regard to regulatory reform and willingness to 'do the right thing.' I also believe this will happen, but slowly. Still, it does seem as though the darkest hour is always before the dawn, and the last few weeks have been disheartening for the metals bulls, as demonstrated in the sentiment indicators.

Let's see what happens in the market and take our cues from that.

"JP Morgan Chase, the big short in the silver market, is "covering like crazy," silver market analyst Ted Butler remarks in his weekly interview with Eric King of King World News.

Butler thinks that both silver and gold turned around this week and he wonders whether, in light of the new financial regulation law, MorganChase will ever come back to shorting silver so much.

Butler also is very encouraged by the comments of Commissioner Bart Chilton of the U.S. Commodity Futures Trading Commission and the promise of position limits in the precious metals markets." Chris Powell, GATA

You can listen to the interview with metals analyst Ted Butler at the King World News Internet site here.

The Committee to Defraud the World

"To say now that 'No one knew' or 'I was mistaken' or 'I was just doing as I was told' is another in a series of lies and deceptions that have supported one of the greatest frauds in the history of the world.

But this is not history. This episode of [MBS] fraud is still playing itself out now. And to fail to understand the depth and breadth of this madness is to place oneself in peril, and in the power of those who are twisting the Western economic and political system even now to satisfy their lust for wealth and power. You are only successful if you can keep what you kill.

This might have been an innocent policy error if it did not involve a transfer of wealth on a massive scale, followed by cover ups, denials, and a control fraud that exists even today.

But it also involved literally thousands of collaborators and enablers, from mainstream media people, economists, analysts, and other thought leaders to politicians and regulators who saw that it was to their advantage to at least passively support this scheme which they knew very well was a fairy tale, a fraud, class warfare by a new name, but were able to hide their own guilty consciences behind self-serving rationalization and the shield of plausible deniability.

History, and hopefully the justice system, will sort this all out. It is difficult, even now, to get one's mind around the enormity of it. This is its most powerful weapon. Who could be such monsters, so amoral, so destructively sociopathic? Future generations will regard it as an episode of madness, driven by a few people in a tight circle of self-reinforcing thought, people with remarkably similar cultural and educational backgrounds, driven by a consuming lust for power, that were able to dupe and delude an entire nation made vulnerable by propaganda, a co-opted press, and apathy.

In the meanwhile all the great mass of people can do is to watch, and wait, and seek to protect themselves from these ravening wolves grown increasingly desperate, as their arrogance comes to a tragic fall. They can vote out incumbents, but the parties choose the candidates, and too often they resemble competing crime families of special interests more than pillars of a representative government, saying one thing to get elected and doing another thing once in office.

It is difficult, even now, to get one's mind around the enormity of it.  This is its most powerful weapon.  Who could be such monsters, so amoral, so destructively sociopathic?  Future generations will regard it as an episode of madness, driven by a few people in a tight circle of self-reinforcing thought, people with remarkably similar cultural and educational backgrounds, driven by a consuming lust for power, that were able to dupe and delude an entire nation made vulnerable by propaganda, a co-opted press, and apathy.

This is when hubris is at its height, and the few feel they have everything to gain and nothing to lose, if only they can gain more power, and therefore become more ruthless. They are trapped in a cycle of fear and greed. The fear provokes the lies and the cover ups, but the greed promotes the extension of the fraud and the theft, requiring even more lies and cover ups. [cf. credibilty trap] 

The operative word is 'over reach,' in a classic late stage Ponzi scheme. This will undoubtedly add to the confusion as the truth is assaulted by the big lie. The last vestiges of polite society are often shed as the downfall reaches it final conclusion, at the end, when all is revealed, at last. And so there will be great danger."

The Committee To Save the World
John Hathaway
July 2010

Eleven years ago, the cover of Time Magazine (right) featured Alan Greenspan, Robert Rubin, and Lawrence Summers posing heroically over the headline: “The Committee to Save the World.”

The sidebar was: “The inside story of how the Three Marketeers have prevented a global meltdown—so far.” The reverent tone of the 2/15/99 article strikes a note of discord in the sour investment climate of today. The article gushed: “In the past six years the three have merged into a kind of brotherhood………What holds them together is a passion for thinking and an inextinguishable curiosity about a new economic order that is unfolding before them..” In today’s less exuberant world, the picture, the headlines, and the content of the article are laughable and mildly irritating.

The “brotherhood” perfected the recipe of papering over market crises with layers of
debt financeable only by negative real interest rates. Their passion for thinking about the new economic order gave birth to capital markets more akin to casinos than rational allocators of capital. In the words of Ambrose Evans Pierce: “Central banks were the ultimate authors of the credit crisis since it is they who set the price of credit too low, throwing the whole incentive structure of the capitalist system out of kilter, and more or less forcing banks to chase yield and engage in destructive behaviour.”

Subsequent iterations and mutations of world saving committees have become routine. The committee of Jean Claude Trichet, Angela Merkel and IMF Managing Director Strauss-Kahn attempted to rescue the euro, the euro zone, and by extension, the global financial system. Their effort came a scant two years after Henry Paulson, Timothy Geithner, and Ben Bernanke teamed up to rescue the mortgage market and the U.S. banking system. The price of these two bailouts alone exceeds $2.6 trillion and still counting.

In a December 23, 2007 Op-Ed piece penned for the NY Times, Harvard Professor Greg Mankiw wrote: “The truth is the current Fed governors, together with their crack staff of Ph.D. economists and market analysts, are as close to an economic dream team as we are ever likely to see.” Two years later, the number of those who still believe in the magical powers of policy making leadership has plummeted....

Read the rest here.

Five More Failed Banks Cost US Government an Additional $334 Million in Losses

The losses from the mortgage securities frauds and the subsequent bubble collapse continue to debilitate the US financial system, particularly the regional banks, in a slow bleed costing the US government additional millions each week. The public relations campaign promoting the idea that the bank bailouts are done and successful, and that the US made money on this egregious abuse of public monies is patently false, and probably can be described as corporatist propaganda.

The banks continue to mount a campaign to resist reform and regulation. They are taking advantage of the weakness of the Obama administration in failing to reform the banking system through liquidations and managed bankruptcies, including indictments and investigations as was seen in the Savings and Loan scandal.

It is difficult to continue to assume good intentions in this administration, or even mere incompetence. The objections put up by Geithner and Summers to the appointment of Elizabeth Warren as the head of the new consumer protection agency shows how reactionary they continue to be, and resistant to fundamental reforms.

American Banker
Failures on Two Coasts Stretch Toll for Year to 108
By Joe Adler
Friday, July 30, 2010

Five bank closures in four states Friday cost the federal government an additional $334 million in losses.

Regulators shuttered the $373 million-asset Coastal Community Bank in Panama City Beach, Fla., the $66 million-asset Bayside Savings Bank in Port Saint Joe, Fla., the $168 million-asset NorthWest Bank and Trust in Acworth, Ga., the $529 million-asset The Cowlitz Bank in Longview, Wash., and the $768-asset LibertyBank in Eugene, Ore. The failures brought the year's total to 108.

The hammered Southeast bore the brunt of the failure activity, as it has for so many Fridays since the financial crisis began. Twenty banks have been seized in Florida in 2010, while 11 have failed in Georgia so far this year.

The two Florida institutions that failed Friday went to one buyer: Centennial Bank in Conway, Ark. The acquirer agreed to take over Coastal Community's $363 million in deposits, Bayside Savings' $52 million in deposits and roughly all of the assets of both institutions.

The Federal Deposit Insurance Corp. agreed to share losses with Centennial on $303 million of Coastal Community's assets, and $48 million of Bayside Savings' assets. The two failures were estimated to cost the FDIC, respectively, $94 million and $16 million.

Meanwhile, the failure of NorthWest in Georgia was estimated to cost the agency nearly $40 million. The FDIC sold all of NorthWest's $159 million in deposits, and essentially all of its assets, to State Bank and Trust Co. in Macon. The acquirer agreed to share losses with the FDIC on about $107 million of the failed bank's assets.

Elsewhere, the FDIC sold all of The Cowlitz Bank's $514 million in deposits to Heritage Bank of Olympia, Wash., which paid a 1% premium. Heritage also acquired about $329 million of the failed bank's assets, and will share losses with the FDIC on about $161 million of those assets. The FDIC estimated the failure will cost $69 million.

Home Federal Bank in Nampa, Idaho, paid a 1% premium to assume all of LibertyBank's $718 million in deposits, and agreed to acquire $420 million of its assets. The FDIC and Home Federal will share losses on $300 million of those assets. The failure's cost was estimated at $115 million.

Guest Post: Inside the New GDP Numbers - Consumer Metrics Institute

"The 2010 contraction is now clearly worse than the "Great Recession" was at the same point in their respective time lines. And we don't see a bottom forming yet."

Consumer Metrics Insitute
Inside the New GDP Numbers
July 30, 2010

On July 30th the Bureau of Economic Analysis ('BEA') released its "advance" estimate of the annualized growth rate of the U.S. Gross Domestic Product ('GDP') during the 2nd quarter of 2010. Per their report, the GDP grew during the quarter at an annualized rate of 2.4%, down from 3.7% in the 1st quarter of 2010. Several points from the report merit comment:

► Readers familiar with prior GDP reports will be more surprised by the reported 1st quarter growth as by the new 2nd quarter number (which had been leaked by Mr. Bernanke last week), since only last month the Q1 of 2010 was supposedly growing at a 2.7% rate. Why did the Q1 number suddenly get altered upward by 1%? The BEA quietly revised the 1st quarter inventory adjustment up to a level that represents a 2.64% component within the revised 3.7% figure, with 1st quarter "real final sales of domestic product" now reported to be growing at a modestly improved 1.06% annualized clip, compared to the 0.9% number reported last month. In short, factories were piling on inventory at a substantially higher rate than previously thought, while the "real final sales" remained anemic.

► The 2.4% figure will garner all of the headlines, but the more important "real final sales of domestic product" continues to be weak, growing at a reported 1.3% annualized rate. The real cause for concern is that the reported inventory adjustments dropped from a 2.64% component in the revised 1st quarter to a 1.05% component during the 2nd quarter. If factories have begun to realize that end user demand remains anemic, the inventory adjustments could well go negative soon, pulling the reported total GDP down with it.

Chart 1




► The BEA revised much more than the first quarter of 2010. They revised down 2009, 2008 and 2007 as well. Apparently the "Great Recession" has been worse than our government has previously reported. And the recovery's brightest moment, Q4 2009, has been revised down from 5.6% to 5.0%. Similarly Q3 2009 dropped from 2.2% to 1.6%. And so on. The bottom of the recession was shifted back one quarter, with Q4 2008 now reported to have contracted at a -6.8% rate, revised down from the previously reported -5.4% rate. Most quarters of 2007, 2008 and 2009 have been revised down substantially, shifting the recession shown in the chart above back in time.

► The new GDP report shows that the current gap between the consumer demand that we measure and the BEA's reported number continues to grow as factories build their inventories in anticipation of a strong recovery. If factories curb their enthusiasm during the third quarter, the BEA's "advance" estimate for Q3 2010 might be brutal, just 4 days before the U.S. mid-term election.

► We understand that economists want to ultimately get the numbers right, even if it is three years after the fact. We applaud the BEA for their efforts. But we also understand people who are concerned about quiet governmental revisions to history.

Back to the real world: our Daily Growth Index has dropped to new recent lows, and it is now contracting at a -3.4% rate.

Chart 2



This contraction rate puts the trailing 'quarter' nearly into the 5th percentile among all quarters since 1947, meaning that only about 1 in 20 quarters officially recorded by the BEA since then has been worse. Our "Contraction Watch" places this movement into the perspective of the 2006 and 2008 contractions:

Chart 3



The 2010 contraction is now clearly worse than the "Great Recession" was at the same point in their respective time lines. And we don't see a bottom forming yet.

SP 500 September Daily Chart; Gold Daily and Weekly Charts; Silver Weekly Chart

SP futures failed at overhead resistance, but still have not yet taken out support, and the important pivot, to the downside.

Still it was a low volume weak ending to the month of July.



Gold held the all important support and came roaring back today, rallying as the selling for the option expiry and Comex contract rollover are done.

It is hanging around the important 1180 level, but taking out 1200 and sticking it is quite important.

So in summary, a very nice rally for the beleaguered bulls, but it is too soon to write home to mother about it.



Gold Weekly

Classic Bull Market



Silver Weekly Chart

Bull market but the trend is wider allowing for greater beta and a wilder ride.

Financial Times Says European Banks Lent Their Customer's Gold to the BIS

Although it does not appear until almost the end of this article in the Financial Times, BIS Gold Swaps Mystery Unravelled, the source of the gold provided in the dollar swaps with BIS is coming from customers of about 10 European banks who are holding their gold at the banks in 'unallocated accounts.'

"The gold used in the swaps came mainly from investors’ deposit accounts at the European commercial banks. Some investors prefer to deposit their gold in so-called “allocated accounts”, which restrict the custodian banks’ ability to use the gold in their market operations by assigning them specific bullion bars. But other investors prefer cheaper “unallocated accounts”, which give banks access to their bullion for their day-to-day operations.

The European Banks, including HSBC, Société Générale and BNP Paribas, were desperately in need of dollars because of a repeat of the eurodollar short squeeze which we had previously identified. Their customers were withdrawing dollars previously on deposit at the banks, which were unable to meet the demand because of the deterioration of the dollar assets they held, and because of the fractional reserve nature of their operations.

So the BIS stepped in, supplementing the swap lines the ECB has with the Fed, and swapped its dollar holdings directly for the some of the banks' customer's gold. Let us be clear about this. The gold is on deposit at the banks, in the same way that customer dollars had been on deposit. I do not wish to fuss too much about it, but at the time that the BIS swaps were revealed, a noted blogger pooh-poohed it with the toss off that 'everyone knows that the European commercial banks own quite a lot of gold.' Well, in this case, the ownership is greatly exaggerated. It is on deposit, owned by other people, but utilized as an asset by the bank. There is a difference.

In lending out the gold to BIS, they were relieved of their dollar short squeeze and were able to supply their customer demands. BIS obtained a fee of some sort in the swap, and so it is happy. But it should be noted that BIS had not done gold swaps for over forty years. So why now?

The question remains unanswered though. What is the duration of the swap, and does BIS intend to hold the gold or use it in other interbank operations?

A secondary question would be: why did the banks go directly to the BIS and swap their customer's gold, rather then to the ECB which is perfectly capable of managing swaplines for currency with the BIS and the Fed. Is the Fed running out of dollars? I have an open tab in my mind that the BIS was seeking gold to balance out demands from other banks for gold, not for dollars, and the eurodollar swaps were a convenient way to do it. This story that 'the BIS had lots of dollar lying around and were itching to use them' strikes me as being of the whole cloth.

Yes, the nice high level chart the FT includes shows the spike in gold holdings at the BIS, but does this mean that it is sitting there in their reserves unencumbered, or are they leasing any or all of it out, 'putting it to work' as they say? Central banks are notorious for making little distinction between unencumbered gold assets and real assets in the vault.

But it is nice to see verification in the mighty Financial Times that if you hold your bullion gold in an 'unallocated account' even with a prestigious bank, it may very well not be there when you wish to have it, and the prices will soar as the banks scurry to cover, just as has happened twice of late with their US dollar assets.

Or you may be asked to settle in cash if there is some clause in the contract, as in the case of the ETFs or the Comex.

Big Drop in Comex Gold Open Interest

The large drop in the August contract open interest (61,257) is to be expected since this is 'roll week' and those who are not standing for delivery will have to close their positions by Thursday night.

The new positions or 'rolls' into the October and December contracts totaled 40,372.

Recall that this was also an option expiration week.

Overall there was a net loss of 21,894 contracts.

It is too soon to tell if this was a capitulation that blew out the weak hands, but it looks as though it might have been one. The momentum traders will likely stand on the sidelines until gold can clear 1180, which was prior support. Traders have their eyes on the 200 DMA which is around 1145.

Comex Daily Bulletin #144

US Weekly Unemployment Claims

SP 500 September Futures; Gold Daily; Gold 200 DMA

SP 500 September Futures; Gold Daily; Gold Weekly

SP 500 Sept Futures

It will be interesting to see if they can keep taking this higher. The McClellan Osciallator is at a extreme reading. But volumes remain light, and while heavy selling is absent, prices on the margins can be lifted higher, in a manner similar to a ponzi scheme. But if selling appears again, particularly if it is driven by exogenous events, prices can therefore fall rather quickly, because of the lack of fundamental underpinnings for the price supported by investors with conviction, rather than the cheap tricks of convicted trading companies.



Gold Daily Chart

It's never easy. This will likely not be over until 'roll week' is finished on Thursday. This is a blatant fraud in my opinion, similar to the roll week frauds perpetrated on holders of ETF's. It is done with at least the passive approval of many traders, exchanges, the media, and investment companies, similar to the manner in which they enabled the mortgage backed securities frauds. The attitude is that investors are not human beings but 'dumb money' deserving of no consideration or protection, even if it is one's job to protect them from control frauds.



Gold Weekly

Important for maintaining perspective. Please notice the periodic severe corrections to trend. In eash case sentiment becomes rather pessimistic, and people tend to say silly, illogical and blatantly incorrect things. When the market turns up again they slink away, waiting for the next opportunity to crawl out of their deep wells of subjectivity. If the trend is decisively broken then we will adjust our trading to accommodate that change.

"Gottes Mühlen mahlen langsam, mahlen aber trefflich klein,
Ob aus Langmut er sich säumet, bringt mit Schärf' er alles ein."

Friedrich von Logau

Goldman's Derivatives Clearing Service: The Better To Cheat You With My Dear

Say, aren't Goldman the fellows that just pled to fraudulent dealing in financial instruments like MBS, and paid a fairly hefty 500+ million dollar fine? The company is starting a centralized clearing facility for derivatives, which may be among those mandated for use by market participants, in the US government mandated efforts to reform.

When one considers the information available to a central clearing facility, somewhat like an exchange, it does give one pause to have the owner of that facility as a somewhat notorious and aggressive market participant with a known penchant for exploiting information for its own ends.

Financial reform and change you can believe in. It pays to have friends in high places.

Economic Policy Journal
If Regulators Say Trade Through a Central Exchange...
By Robert Wenzel

...Goldman Sachs starts a central exchange.

Is it me, or does it just seem that whatever the rules or regulations, Goldman comes out on top and pretty much ends up running the show?

Regulators are preparing rules that will require the majority of privately traded derivatives be cleared through central counterparties.

Goldman Sachs announced today the launch of its Derivatives Clearing Services (DCS) business. The DCS will provide clients with a comprehensive global OTC clearing service for interest rates, credit, foreign exchange, equities and commodities, says Goldman.

“In partnership with our clients, regulators and multiple clearing venues, we are committed to improving market structure for derivatives,” said Michael Dawley, Managing Director and Co-Head of Futures and DCS, Goldman Sachs. “The DCS offering provides our clients with a host of value-added services and multi-product expertise to successfully navigate this dynamically changing environment.”

According to a press release,Goldman Sachs said it recognizes that clients will be faced with new reporting, connectivity, and regulatory requirements. The firm is committed to investing in innovative solutions to help clients address these changes.

“The move to central clearing for OTC derivatives is a significant turning point in the marketplace," said Jack McCabe, Managing Director and Co-Head of Futures and DCS at Goldman Sachs. “Our strong trading franchise, coupled with our market leading futures and prime brokerage services, enables us to provide our clients with the foundation they need to adapt to these important industry developments."