JP Morgan: The Whale Wagging the Dog

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. We have coined this term to describe the current monetary and fiscal policies of the U.S. government, which involve unprecedented money printing. This is the official blog of the New York Investing meetup.

JP Morgan Chase revealed yesterday that one of its traders, Bruno Iksil (known as the London whale), was responsible for a $2 billion loss in the last six weeks. Apparently, little has changed since 2008, when the irresponsible activities of the big banks and trading houses almost brought down the world financial system.

Iksil's trading was hardly secret. His positions were well-known among traders and Bloomberg published an article about their high-risk nature on April 5th. Jamie Dimon, the CEO of JPMorgan Chase (JPM), dismissed the report as overblown. Amazingly, the massive losses took place in a portfolio that was supposed to hedge against risks. Because of this, the company claims that these trades would not have violated the Volcker Rule — designed to curtail risky trading by banks and prevent just such occurrences. The Volcker Rule is not scheduled to be enforced by the Federal Reserve until 2014 as is. Jamie Dimon has been one of its major critics.

Jamie Dimon does as he pleases as is. He jumped the gun on the Fed's stress test announcements in March by announcing JPMorgan Chase had passed. The Fed was then forced to release the rest of the information early. Communication's problems were cited for the foul-up. Apparently, Dimon didn't read the memo about the announcement schedule. He sits on the board of the New York Fed (for a list of directors, see: http://www.newyorkfed.org/aboutthefed/org_nydirectors.html). All of the Fed's regional boards have three representatives from the banks they "regulate".

JP Morgan was quick to point out that no laws were broken by the activities that led to the $2 billion trading loss ($2 billion so far that is). The public should be very worried about this. When banks are considered "too big to fail" and expect bailouts when they screw up, the public is the one that pays. The liquidity that JP Morgan Chase and all the other big banks are trading with comes directly from the Fed, supported by its zero interest rate policies (free money) and quantitative easing (fake money). Even though the trading loss indicates serious problems in the financial system, the U.S. stock market was up minutes after it opened. And why not?  It knows the Federal Reserve will make up the losses one way or the other and if that's not enough, it expects more government bailout money for the banks. 

The Fed followed the same strategy in 2008 and still a major collapse took place. Central banks do not have unlimited resources and when the rot builds up too much in the system, everything falls apart. The public today is also not likely to put up with another massive bank bailout. In 1998, it took only one overleveraged hedge fund — Long-Term Capital — to almost bring down the financial system. Today, there are potentially any number of banks and hedge funds that represent major risks.  JP Morgan's trading losses indicate little has been done since 2008 to prevent the next market meltdown. 

Disclosure: None

Daryl Montgomery
Author: "Inflation Investing - A Guide for the 2010s"
Organizer, New York Investing meetup
http://investing.meetup.com/21

This posting is editorial opinion. There is no intention to endorse the purchase or sale of any security.

Greece's Statistical Lies - Are the Numbers Any Better in the U.S.?

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. We have coined this term to describe the current monetary and fiscal policies of the U.S. government, which involve unprecedented money printing. This is the official blog of the New York Investing meetup.


The only difference between Greece's blatant manipulation and falsification of its government statistics and what takes place in a number of other countries is that Greece got caught.

Greece's phony numbers have finally blown up in its face and this has led to the current crisis in the euro zone and an approximate 10% sell off in the euro since early December. There were obvious problems with the numbers from the earliest days when Greece joined the European currency union, but these were brushed aside. The economic and budget numbers aren't much more reliable in the U.S. and even though this is an open secret, it is also generally ignored.

The rules of the euro zone require a maximum annual budget deficit of 3% and a maximum debt to GDP ratio of 60%. Greece managed to 'hide' that its budget deficit was above the acceptable limit in the early 2000s by engaging in at least 12 currency swaps with Goldman Sachs between 1998 and 2001. Greece also seems to have done business with Credit Suisse. Italy, one small step behind Greece in the budget mess race, reportedly engaged in similar activity, but its business was first done with the infamous Long Term Capital Management. Goldman earned $4.95 billion last quarter and has been super-profitable in the aftermath of the 2008 Credit Crisis blowup (how exactly has it been earning all of that money?) The transactions with Greece were covered by RISK Magazine (an appropriately named platform to say the least) at the time. Even before the current brouhaha, there seems to have been a Wikipedia article on the subject. Not exactly a well-kept secret, but apparently the EU's central office wasn't exactly working day and night to ferret out the truth.

Currency swaps were just part of Greece's attempt to finagle its way around EU regulations. In 2004, it was revealed that Greece's budget didn't exactly reveal all of its expenditures. It turned out that it hadn't reported a large share of its military expenditures and this was used to reduce its budget deficit considerably. The EU decided the Greek budget deficit still met its criteria however. It didn't seem to occur to anyone that a government that was less than honest about one set of numbers would easily lie about another. For those who are unaware of it, the U.S. has funded its operations in Iraq and Afghanistan mostly through supplementary spending bills and this has kept the costs, estimated to be around a trillion dollars so far, out of the military budget.

More recently, Greece's problems with its reported budget deficit numbers occurred when it revised its 2009 deficit from 3.7% to 12.7%. The crack sleuths at EU central were not the ones to catch this rather gaping error. Greece elected a new government toward the end of 2009 and the correction to the blatantly ridiculous figures was politically motivated. The new government didn't want to wind up being blamed for the mess the previous government left behind. The 'excessive optimism' of the previous government was blamed for the discrepancy in the numbers. In January 2010, an EU report saw the situation differently and lambasted Greece for significant weakness related to data gathering, submission of incorrect data, disregard of accounting rules and a lack of timeliness of providing the numbers. U.S. government numbers also suffer from all of these problems.

U.S. budget figures don't look particularly good at the moment. There will be as much as a $1.6 trillion dollar deficit in fiscal year 2010, which ends on September 30th. The official national debt could easily reach $14 trillion by the end of the year, almost as much as the claimed GDP. The U.S. has a lot of potential off-balance sheet items however. These include obligations from Fannie Mae, Freddie Mac, Ginnie Mae, the Federal Home Loan Bank, the FHA, the FDIC and the Federal Reserve. Together these obligations are potentially well over $10 trillion. At its current rate of spending, the FDIC is likely to run out of money before the end of 2010. Obligations for future social security and Medicare payments, which GAAP (generally accepted accounting principles) would require a company to report, are somewhere between 50 to 100 trillion dollars. The U.S. government does not follow the rules that it insists are necessary for honest accounting from from its companies however.

The economic soundness of the state is not just dependent on government expenditures, but on the strength of a country's GDP. Only the most naive would assume that even though the budget numbers have been fudged, the GDP figures are honest. Once it exists, dishonesty motivated by self-interest tends to become pervasive in government reporting.

There are at least two major problems with U.S. GDP figures. First, there could be as much as $2 trillion, if not more, in illusory economic activity included in the calculations. Secondly, the numbers are adjusted for inflation, but the inflation numbers are grossly understated. This makes the final GDP number larger. Regardless of the sources of overstatement, the overstatement itself is obvious. The U.S. originally reported GDP numbers indicating close to a decent 3% growth rate in 2008, even though the economy was in the worst decline since the Great Depression (the numbers were subsequently revised down to a growth rate just above zero) . A declining economy means there should be a negative change in GDP. Where was the outrage from the economic community and the press when these impossible numbers were released? There was none. Just as in the case of Greece, the problems will not be generally acknowledged until there is some big blow up. Investors should stay tuned.

Disclosure: No positions.

NEXT: New York State Comptroller's Wall Street Bonus Update

Daryl Montgomery
Organizer,New York Investing meetup
http://investing.meetup.com/21

This posting is editorial opinion. Like all other postings for this blog, there is no intention to endorse the purchase or sale of any security.

Is It 1998 All Over Again?

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. In addition to the term helicopter economics, we have also coined the term, helicopternomics, to describe the current monetary and fiscal policies of the U.S. government and to update the old-fashioned term wheelbarrow economics.

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In some ways the market reminds me of 1998. Energy prices had hit a low in the spring and rebounded, but then dropped off again in the summer. Stocks were deteriorating into the summer, but rallied strongly in July for no really good reason. Low prices caused energy production to be curtailed and this eventually led to higher prices for the next 10 years. That scenario is quite likely to repeat itself. Whether or not the stock market collapses in August as it did in 1998 remains to be seen. Is there a contemporary version of Long-Term Capital out there?

The future of oil and natural gas prices is clearly laid out in Schlumberger's earnings report today. Like Halliburton earlier this week, Schlumberger said a sharp drop in natural-gas drilling in North America caused an earnings decline. Drilling in the U.S. and Canada reached a five-year low in recent months and no rebound is likely to take place in the foreseeable future. The reduction in drilling activity has also effected oil and has done so globally. While energy companies have scaled back oilfield activities worldwide, the number of rigs operating in the U.S. oil patch is off roughly 55 percent from last summer. If you also consider that a number of large-scale multi-year projects to increase productivity from declining fields (many of the world's biggest producers) were cancelled when oil prices were at lows in the winter, the future becomes easy to predict. There will be shortages of oil in a year or two. The U.S. is particularly vulnerable to these shortages because our energy production is dropping precipitously. The authorities will be surprised when this happens and they will blame greedy speculators and scheming by foreign producers for causing energy prices to skyrocket when these shortages appear.

As for the stock market, it has been going up no matter what. There has been a 10-day rally as of yesterday - a long time for an uninterupted rally. There was a big move up yesterday on fairly heavy volume. The Nasdaq has also just closed a gap on the weekly charts made last September. On the daily charts the RSI is about to hit the max. According to the mainstream media all of this is taking place because of good earnings. Even a cursory analysis of the earnings reports indicates that earnings are actually in very bad shape however. The earnings news out last night was uniformly bearish, but the European markets still rallied and U.S. stock futures were up this morning. So, it looks like the market goes up no matter what. This only happens when large amounts of liquidity are being poured into the financial system by the authorities. Why are they doing this now is a good question.

Reports have started to appear about how the Credit Crisis is over and the U.S. housing market is recovering. The worst of the Credit Crisis is indeed over, but this however doesn't mean recovery is taking place, nor that the economy is getting better - it isn't. As for housing recovering, this really strains credulity. Once a bubble collapses, it needs to have a long and severe drop to correct the excesses and housing has not gotten anywhere near that point yet. British GDP statistics were out overnight and the economy there shrank 5.6 percent year over year, the biggest drop since quarterly records began. Yeah, things are getting better all right.

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Daryl Montgomery
Organizer,New York Investing meetup
http://investing.meetup.com/21


This posting is editorial opinion. Like all other postings for this blog, there is no intention to endorse the purchase or sale of any security.