May Comes Early.....?

Monday, April 19, 2010

Well, well, well. When the Macro Man's away, the markets will play! Your author is back in front of screens this morning for the first time in a week and a half, though had his flight been scheduled a day later last week he'd still be stranded on the west side of the Atlantic. You know it's been interesting when a volcano shutting down all air traffic in Europe for more than half a week is pretty far down on the list of things to talk about.

Despite all the focus on Greek bailouts and Chinese revals (or the lack thereof), obviously the 800 pound gorilla in the market's living room is the SEC fraud case against Goldman. Now, Macro Man is no lawyer, nor does he play one on TV. But on the face of it, the particular case in question looks pretty damning, assuming that the SEC can prove that Paulson, rather than ACA, selected the turds for the Abacus CDO in question.

Of course, Macro Man vividly remembers that in the summer of 2007, Deutsche Bank was notable for a road show to investors demonstrating how to short various components of the subprime universe. He also recalls a Michael Lewis article referencing such road shows (though perhaps not the DB one in particular) wherein it was noted that short sellers actually created more product for eager greedy stupid willing investors to purchase. Somehow, Macro Man cannot help but think that there are more skeletons in this particular closet, and that no one will come out smelling particularly sweet.

What does it mean for GS? Who knows. The actual fine for this particular instance is unlikely to approach anything like the market cap wiped off of Goldman's share price on Friday. On the other hand, the SEC does not allege "fraud" lightly; being lumped in with the likes of Enron and Worldcom doesn't exactly suggest that GS's goodwill should emerge unscathed. Moreover, it would be entirely consistent for Goldman, if found guilty, to be banned from a number of different businesses, not all of which are extinct, which could impact future earnings streams.

All of this is supposition, of course. Perhaps the real shock factor is that GS, so widely perceived to be in bed with the government, has been cast back down to reside with mere mortals. Certainly, this is a gesture that will resonate with Main Street....for the time being at least. The real question, of course, is what it means for markets. From Macro Man's perch, it is pretty obviously a potential catalyst to reverse what has proven to be an astonishingly steady 15% straight-line rally. Futures have already broken the uptrend...
..even as cash flirted with the 61.8% Fibonacci retracement of the entire move from the '07 highs to "Satan's low" last year. (Of course, while the eye naturally concludes that the 61.8 level was hit, the index actually fell short of it by 18 points. But hey...close counts in horseshoes, hand grenades, and Fibonacci retracements.)

So for choice, Macro Man would look for a bit more downside from here. 'Twould be especially telling if today's early-sesh futures weakness is maintained during cash trading; the failure of Magic Monday to do its thing could well be a signal to punters that the market regime has changed, if only temporarily.

Of course, equity weakness should provide further support for bonds, which had already started performing decently during Macro Man's absence. One theory as to why (and indeed why bonds had traded so poorly previously) can be found in the Fannie Mae 4.5's, which traded dreadfully in late March/early April on fears of what the end of QE would mean, but have snapped back smartly since.
Macro Man was also gratified to see one serial Asian currency pegger revalue its domestic unit and commit to a path of steady appreciation moving forward. No, not the Big Kahuna; far from it! Macro Man refers, of course, to Singapore, whose TWI (proxied by DB) is shown below. Now, there has been some speculation that the MAS would not move as they did without some knowledge or view on China's attitude towards the RMB. Macro Man is personally sceptical of this view, if for no other reason than he made very good money two years ago being long SGD/short RMB even before the renminbi ground to a halt that summer.
Moreover, it may be the case that the Chin3ese prefer to assess the impact of their other tightening measures before moving on the currency. The new rules to curb property speculation appear to be having an impact; the Shanghai property index has made a new low for the year, helping to send the overall Shanghai index down close to its lows for the year.
Perhaps that's an environment in which the powers that be would adjust the FX regime, but somehow Macro Man thinks not. Indeed, we're only twelve days from a May, a month that typically ushers in a suboptimal seasonality for risk assets. And hey, perhaps thanks to Goldman, perhaps May has come early this year....

Posted by Macro Man at 7:59 AM  


Macroman – Interesting post. I don't doubt the dubious ethical nature of this transaction. But as "consenting adults” (aka qualified professional investors) isn't it the responsibility of the risk buyer to do the due diligence? As long as the portfolio of assets was known to the buyer prior to purchase surely it was their responsibility to value the risk and consequently set a price at which they would play.

Paulson and Goldman may have had a better handle on the underlying securities (with hindsight) but the information used to come to that view was public and hence isn't it your look out as a buyer?

We all know derivatives are a zero sum game, this story has a horrible smell about it but a lot of things do, the overriding sensation I am feeling is one of sour grapes from the people on the wrong side of this trade and are acting now with the benefit of hindsight. The fact that they possibly didn't understand what they were buying just says to me that they shouldn't have been on the playing field. It is not Goldman's responsibility to act as nanny to its clients.

Will said...
9:37 AM  

Will, fair enough on caveat emptor, but factually misrepresenting who compiles a portfolio (saying it's a specialist asset manager when it's actually a large short seller)does represent a fairly blatant misrepresentation of facts...particularly if one assumes that Paulson held off on shorting the stuff in question until they were bought up by the Abacus structure.

Macro Man said...
10:15 AM  

I'm just waiting for the ACA/Paulson emails to come out. If it really was Paulson putting it together that is seriously bad, if its Paulson saying: "yo man, you should hit this sh!t" New Jack City style and ACA is considered to be a sensible consenting adult then ACA just looks really, really stupid.

Apparently GS also dropped about $100m on the deal, so its hard to say that they benefited from it if they actually ended up being net long turds in the final analysis though nowhere near as much as others.

As a former DB employee, I can assure you all that GS is the tip of the iceberg here. DB, Citi, ML and every french bank were so deep into structured credit that they had no idea which was was up.

Nemo Incognito said...
10:43 AM  

I take the point macro man but as the structure was synthetic i don't see why both sides shouldn't be involved in the structuring process as both have the ultimate veto of non-participation. I think the press has got a little ahead of itself in claiming that Goldman stated that Paulson were taking a long equity stake. As much as one has to hold one's nose, from GS's statement it would appear that they merely stated that Paulson were involved in the transaction (herein lies the nub), who knows if the SEC will be able to dig up on concrete evidence to demonstrate that they did otherwise and outright lied. At the moment I still believe that the apparent statement (or words to the effect) that "Paulson is involved" counts as (in your words) caveat emptor and although ambiguous would not count as misleading by omission because it is not standard practise in synthetic product to name the other parties economic exposure (that i am aware of). I appreciate I am probably joining the GS gang and their lawyers in the 8th (fraud) and 9th (betrayal) layer of hell for saying this...

Will said...
11:01 AM  

Will, for me the point is that the documents specifically name ACA as the selector of the securities in the structure. If, in fact, the SEC can demonstrate that it was somebody else (let alone somebody else with an economic interest in the securities!), that would appear to be a prima facie case of fraudulent misrepresentation. Whether the buyers are guilty of stupidity (as they undoubtedly were) is irrelevant....

Macro Man said...
11:22 AM  

This is about perception, the links like this will keep coming...

Head Of Allegedly Swindled Goldman Buyer ACA Is Married To Goldman's Deputy General Counsel

Read more:

Right Field said...
11:37 AM  

I wonder whether people's 20/20 hindsight bias is at work here.

I suspect that if GS had disclosed that the list of cds's (rather than assets) had been picked by a shortseller at the height of the bubble in '07 whether it would have made the slightest bit of difference to the buyers ?

Whilst the CDO had bond like characteristics only the most naive of investors can have failed to spot that someone was going short against them. Clearly after his spectacular success the fact that it was JP is relevant, would it have been as relevant in '07 ?

Something tells me this is the first cockroach and as such a de-rating in P/E to reflect higher regulatory risk is more pertinent that the market cap.

Rossco said...
12:07 PM  

Rossco, I agree. I think so little has been done on financial reform that a lot of stuff (likely to be a mixed bag) is going to be done quickly which is going to lead to a lot more volatility from here.

Nemo Incognito said...
12:12 PM  

Consensus Is More Weakness...New Basis Risk

Bullish: JPM, BAC and C combined has reported 11+ billion in “clean” earnings. This is over half of the 20 billion asked for by real money this earnings season to return to a global neutral from underweight position and the rest of the sector has not even reported. This is a great start when looking towards SPX 2011 earnings and delivering $100 per share in earnings.

Bearish: The BKX corrected 32% from May-Oct 2002 during the 1.5 billion government-bank research settlement. The first stage traditionally begins with a lynch-mob mentality (GS), regardless of your stature to society or in capital markets the idea of accounting or fraud (Enron/Worldcom) charges are much more severe. Visibility is lacking not just in the named legal suit but as to who is next (BAC, DB, C, etc.) highlighting there will be more of a de-rating in PE’s to reflect higher regulatory risk. Point being, cash flows will be overlooked. Both Lobbyists and Republicans lost over the weekend, the acceleration of Financial reform now argues greater volatility in that sector and given the overweight professional long position the risk is more downside post earnings.

Consensus: This morning’s view is that the uniformity of stronger risk assets will diminishes as investor bases now separate in short term views. There is no change in market psychology from real money as inflows force buying of weakness, especially in underweight Europe. Conversely, the macro community was given their first chance to trade a catalyst from the short side and are implementing this view. China (Property Index -6.75%, Economic weakness related to the Volcanic disruption, Greece/Dubai over the weekend, peripheral weakness (global oil/fuel complex) and a new view that Thursday Claims data will break trend in US employment trend are just additional headwinds to help their view. This will split over into long/short hedge funds who are overweight Financials and equities.

Conclusion: The end result is that professionals increased their gross exposure and reduced their net long on Friday, going forward their portfolio will have less control due to new basis risks. The catalyst caught investors off guard but risk asset weakness should not be a surprise as market conditions already contained a significant amount of risk. In my opinion, the idea of buying weakness (SP Futures -2.5%) will fall on deaf ears as the exercise will be more about risk reduction until clarity evolves or earnings matter more. Credit is a new leading indicator for today.

Right Field said...
2:30 PM  

I exaggerate, but if the SEC can demonstrate that ACA effectively just Okayed Paulson's stock selection then surely this still will all be ACA's fault – as selection agent the buck stops with you. Goldman will have done “due diligence” on ACA’s "investment process". And consequently in a general sense they have fulfilled their duty to investors on the proviso that the due diligence was done to a reasonable standard.

Consequently to demonstrate that there is misrepresentation occurring, the SEC will have to show that GS's due diligence process is at fault. GS will no doubt have every document under the sun to demonstrate the integrity of their endeavour. Due diligence is by no means a carte blanche but there will plenty of lawyer fodder.

Despite appearances I am by no means a GS fanboy it just seems to me that there is a lot to be read into the political angle of this case and the fact that the SEC are perusing this in the civil court - balance of probability, rather than going for criminal charges. I think they are aiming for a quick PR win and hoping more worms will come out of the wood work now that they have given the cage a rattle.

This is almost certainly the first barrage of the war; you always know for sure that ML is going to be guilty of something...

Will said...
3:01 PM  


Yeah,change will be conducive to volatility, but why not now after a 70% primary bull run,low rates and below historical average yields...being a betting man,I'm betting the Chow Pows8 are willing to chance THERE arm to this way of thinking.

FX said...
3:02 PM  

Interesting note on the Fib retracement numbers. If my back of the envelope figuring is accurate, and C to D = A to B, the target on the SPX would be in the vicinity of 305.

To be sure, that is an extremely dire scenario, and we will have much bigger worries than wondering whether arcane numeric ratios apply to the stock markets. Let’s hope it’s nothing more than reading tea leaves.

Harry said...
3:13 PM  

Welcome back, MM. Reckon the Hammers can nick a point at Anfield?

A couple of days of consolidation, then more dollar strength and risk asset weakness later on this week?

Leftback said...
8:14 PM  

I do wonder how much of this represents a shift, given the events of the last few years, towards periodic bouts of opportunistic ambulance chasing and general witch-huntery.

The Saxo / Fortune thing certainly has more than a whiff of "Where there's blame there's a claim" about it. And with so many people feeling both disempowered and considerably poorer and angrier than they were not so very long ago, I don't see the trend reversing any time soon.

Pascoe said...
12:54 PM  

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