Living on the Edge

The S&P500 climbed 2 % last week, with virtually all of the net gain arriving on Friday.  Volume was still light, almost equal to the volume in the prior week when the S&P rose by a smaller percentage.  The VIX (or fear) index did not validate the price rise; it dipped only 1 %.  A much larger drop would have better supported the price move. 

The economic data were not strong.  The home builders’ index came in at the lowest level since March 2009.  Housing starts, although slightly better than expected, were still anemic.  What’s worse, the primary reason starts rose at all was due to a spike in apartment starts, not single family homes.  FHFA home prices fell more than expected, also supporting the claim that the double dip in the housing market has already begun.  Initial jobless claims were worse than expected.  Existing home sales were slightly better than expected; but they were still almost 20% BELOW August 2009 levels.  Leading economic indicators rose, but they are being distorted by the yield curve component, which is being massively distorted by the Fed.  Durable goods orders fell more than expected.  New home sales were unchanged from the prior month, and rotting at depression type lows.

Technically, the S&P has rapidly become overbought on a daily basis.  The VIX, and several momentum indicators are diverging, so that a pullback from these levels is becoming very overdue.

Last week, speaking at a conference hosted by the Federal Reserve Bank of Chicago, Paul Volcker made an eye-opening remark to his audience.  He said:

The financial system is broken. We can use that term in late 2008, and I think it’s fair to still use the term unfortunately. We know that parts of it are absolutely broken, like the mortgage market which only happens to be the most important part of our capital markets [and has] become a subsidiary of the U.S. government.

A couple of days later, the Wall Street Journal published a cover piece titled:  “On the Secret Committee to Save the Euro”  and in it, the authors described how, despite the formation and diligent work of “a small group of European leaders set up a secret task force—one so secret that they dubbed it ‘the group that doesn’t exist.'”, the “euro zone was on the verge of breaking apart” in May of this year.

Two years ago, after the implosion of Lehman Brothers, AIG, Fannie and Freddie in the US and many other financial behemoths in Europe, the world’s financial system almost melted down.  Literally, banks were hours away from forced closures; billions of people and businesses were on the verge of running out of money. 

In 1998, the Long Term Capital Management debacle prompted the creation of the “Committee to Save the World” according to Time Magazine.  Back then, the NY Fed intervened to avert a devastating financial crisis that would have blown up major commercial banks and investment banks in the US and Europe.

And today, after these (and several other!) near-death experiences, the question is–what’s changed?  What’s been done to improve this perilous condition of the global economy?

In a word:  NOTHING.

Shockingly, almost ALL of the conditions that led to the previous systemic meltdowns are in existence today.  The total (government, corporate and household) debt load, the poor regulation by regulators captured by the monied interests, the predatory and fraudulent practices of the banksters, suspension of accounting rules, bubble-enabling monetary policy by the Fed, fiscal irresponsibility by the government, a culture rooted in consumption, and many many others. 

What we’ve been hearing from our government leaders is nothing short of propaganda.  For over a year now, ever since Ben Bernanke and Barack Obama hatched the concept of Green Shoots, many folks on Main Street believed, in part, much of this hopeful message.  But today, this effect is wearing off.  It doesn’t take a PhD to figure out that Obama’s and Geithner’s Recovery Summer message was a bald-faced lie.  Folks on Main Street, average people with little advanced education, are getting it.  And they’re also getting angry.

So what’s the future going to look like? 

We WILL have another systemic crisis.  We WILL not be able to bounce back from it as easily.  We WILL be at serious risk of facing social and political unrest.

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