Sunday, September 25, 2011
A Greek Comedy
European officials are working on a grand plan to restore confidence in the single currency area that would involve a massive bank recapitalization, giving the bail-out fund several trillion euros of firepower, and a possible Greek default. – the Telegraph
As we start getting the first whisper details of the Grand Plan (my, what a fabulous byname), I am reminded of what great theater we have been privy to in watching the European version of our own summer stage/kabuki theater, “the Debt Ceiling” – a Comedy from Congress. And while the drama in Europe has been as thick and dark as Hades overture from the underworld, the pragmatic reality was very likely going to be another bailout – and a domestic equity market finale that was far more befitting of a comedy than a tragedy. Certainly, the pain and suffering, and more politically important – anger, is palpable from Barcelona to Berlin – but, the evermore important political achilles heel, appears to be getting wrapped in a soft cast, that both permits the wound(ed) to air their concerns and ignorance’s, while also reinforcing and healing the area of injury. Don’t let the headlines fool you with regards to Geithner’s trip abroad, he was likely publically flogged for the political purpose of swallowing the bitter pill that is now being formulated to a certain degree by the A.M.M.A (the American Monetary Medical Associations) policy guidelines.
And while the dislocations inflicted upon various markets by the European sovereign debt concerns, have been severe and apparent in derivative reflexes such as the currency and CDS markets, the larger solution (as hinted in the Telegraph story) was inevitably going to go a long way in ameliorating the systemic issues now being contrasted on a daily basis to the recent financial crisis in 2008. I described a key distinction between the two crises in a note in early August – Binary Outcome.
“The key difference here is in 2008 the banks had very little control in raising collateral to the mortgage-backed securities that were imploding the system from within. Today, with the sovereign debt concerns, the stronger EU members such as Germany and France will eventually play the remaining, yet powerful, existential card by bellying up to the plate and restructuring the debt in a manner that will preserve the system – or at least until the next inevitable crisis arises.”
This has primarily been the reason that I have not been overtly bearish on the long-term prospects of the equity markets, despite the considerable technical damage that was inflicted with the August crash. To a large degree I have been anticipating a dislocation such as this since January when I started noticing similarities in the gold/silver ratio and the momentum frenzy that was percolating in the equity markets. I mentioned this in my very first note in March – Fat Tails & The Gold/Silver Ratio. And although I was not certain where the dislocation catalyst would manifest and how broad the contagion would spread, the charts provided the first glimpse of what could be approaching.
And sure enough, we have the equity markets (1998 & 2011) breaking along very similar seasonal patterns and within proportions that are quite congruent to one another. With that said, the timing towards resolving the crisis appears to be running a month slower than in 1998.
“In a G20 communique issued on Friday, the world’s leading economies set themselves a six-week deadline to resolve the crisis – to unveil a solution by the G20 summit in Cannes on November 4.” – the Telegraph
The immediate concern would be that similar to 1998, the equity markets would have one additional leg lower, before the visible hand of our monetary handlers arrived to reboot confidence. The key difference to date has been that our equity markets have outperformed the European and global bourses – because unlike 1998 we have yet to sustain a domestic contagion issue such as LTCM. We have also benefited from the capital flight away from Europe and the breaking commodity complex that will inevitably favor the weakened consumer.
The questions for me at this point are:
1. Will the market buy the rumor here and preclude the second leg down? – and;
2. Will the crisis response actually see the light of day and go far enough to prevent 2008.20?
Based on the charts that I have been following, I am cautiously optimistic that Europe will be forced to swallow a crisis resolution that will restore confidence in the system. The extreme move higher in the gold/silver ratio last week also echos to the bottoming process of the 1998 decline.
As evident in the weekly chart below – the final spike higher in the ratio marked the bottom for the crisis.
And while the self-recurrent nature of the credit crisis remains apparent in the more fundamental approaches to weighing risks in the markets and the economy – I am more inclined to give greater weight to Soro’s theories on reflexivity here, because it has continued to explain the disconnect between what we would believe should logically unfold and what actually manifests in the markets.
It essence, it has been our monetary handlers modus operandi for restoring risk back into the capital markets during times of panic.
at 12:58 PM