Wednesday, August 31, 2016

The BIS on Eurodollars and Derivatives: Where Leverage Lives

From Bloomberg: 

This Is How Leverage in the Financial System Lives On
Rumors of leverage's death have been greatly exaggerated.
In the aftermath of the 2008 financial crisis an abundance of leverage — borrowed money used to amplify returns — was blamed for exacerbating losses on subprime mortgages and contaminating the banking system with catastrophic results. Since then a host of new rules have been enacted to reduce financial leverage, including penalizing certain derivatives positions, such as the credit default swaps (CDS) villainized in the crisis, as well as outright curbing the amount of borrowing allowed at big banks.

While such efforts have made substantial steps in derisking the financial system — especially at large lenders — they've also encouraged the creation of new types of leverage and its migration to different players. Today, much leverage appears to sit on the balance sheets of large and small investors, often fueled by the need to generate returns amidst ultra-low interest rates and high correlations that see asset classes move together and make it more difficult to produce outperformance, known as 'alpha.'
Leveraged strategies may include selling volatility or dabbling in derivatives tied to interest rates or corporate credit. While few are suggesting that the leverage deployed via such tactics could cause a crisis on the scale of 2008, it can create unexpected consequences ranging from a 'flash crash' in one of the world's most liquid markets to constraints on the Federal Reserve's ability to change monetary policy, as underscored by a new paper from visiting professors at the Bank for International Settlements.

Moreover, they underscore the risks facing the market as investors continue to divide themselves between those eschewing the chance to earn a steady stream of returns by betting big — and those willing to risk the chance of outsized losses in the event of a significant change in markets.
The latter group found a posterchild in the way of Bill Gross, the former co-chief investment officer of Pacific Investment Management Co. (Pimco) and erstwhile 'Bond King' who spoke publicly about his use of derivatives to increase returns in the "new neutral" era of ultra-low interest rates, shortly before departing the company in late 2014.

Pimco's flagship bond fund, the Total Return Fund (TRF), sold $94 billion worth of put and call options on floating to fixed income swaps, or 41 percent of the fund's net asset value, according to BIS data. Known as selling or shorting volatility, the strategy allowed Pimco to collect insurance-like premiums as long as interest rates stayed low.

Similarly, Pimco deployed eurodollar futures, a type of derivative that locks-in interest rates for investors, with long eurodollar contracts at the Total Return Fund (TRF) jumping from 250,000 in March 2013 to almost 1.2 million as of June 2014.

While Pimco noted at the time that such long eurodollar futures contracts were "used to manage exposures at the short end of the yield curve and express PIMCO’s expectations for short-term rates," they also come with the benefit of added leverage, in effect boosting returns so long as rates remained low.

Gross's departure from the fund in September 2014 sent the TRF's managers scrambling to liquidate the eurodollar contracts as investors redeemed their money. The liquidation may have exacerbated the flash rally in U.S. Treasuries that took place shortly after, when the yield on the benchmark 10-year note seesawed wildly in the space of a few minutes, the BIS paper said.

"The irony is that a more measured pace of liquidation would have allowed the fund to profit from the bond market 'flash rally' of October 15, 2014," visiting BIS professors Lawrence Kreicher and Robert McCauley wrote in the paper. "In any case, it appears that a huge long eurodollar position could be and was liquidated in a fortnight. By contrast, [the TRF's] liquidation of its 'short volatility' position may have contributed to the 'flash rally,'" by setting off a wave of hedging amongst dealers who scrambled to absorb Pimco's short position....MORE
At the Bank for International Settlements:

BIS Working Papers 
No 578
Asset managers, eurodollars and unconventional monetary policy 
by Lawrence Kreicher and Robert McCauley
Monetary and Economic Department
August 2016

Here's the abstract from the SSRN copy:
An asset manager's rapid liquidation in the weeks around the end of September 2014 of a very large position in eurodollar futures, a huge derivatives market that allows traders to position on the future path of dollar money rates, raises two questions. What is the profile of asset managers in this key market? And how has the Federal Reserve's unconventional monetary policy, including forward guidance about policy rates, affected this market? Asset managers generally hold the largest eurodollar positions among buy-side traders but play a lesser role in day-to-day trading. Second, the Fed's unconventional policy saw the average maturity of eurodollar contracts traded between 2008 and 2014 double and it has remained at an elevated maturity since then. Moreover, from 2012 into 2015 eurodollar turnover responded more strongly to Federal Reserve announcements than to macroeconomic news, a finding analogous to that of Filardo and Hofmann (2014) for yields. In 2015 asset managers took a large short position in eurodollar futures; this unprecedented position would profit if the Federal Reserve's own projections of policy rates ("dots") were realised. Judging from eurodollar futures, asset managers now play an important role in facilitating or hindering the transmission of monetary policy to market rates.

Questions America Wants Answered: "Why Is Gold Not At $2,000/oz Yet?"

One scenario the analysts don't address is the possibility the decline that began in 2011 has not yet bottomed and we go lower than the $1047 December 2015 prints. That said, there is a lot of congestion around $1250 where shiny traded from February through June this year.
December futures $1311.50 down five bucks.

From Barron's Asia Stocks to Watch:
Gold came out of its slump this year, advancing by 24%, a figure last seen in 2011, as investors worry about all the paper money major central banks are throwing around the globe.

However, gold is by no means back to its old glories. At $1,316 an ounce, it is about 30% below its all-time high of $1,895/oz, reached on September 6, 2011.

This blogger’s piece earlier this week “Why Gold Could Be Worth $1,700/oz: Deutsche” has gained a fair amount of traction with readers. Deutsche’s argument makes sense: September rate hike or not, the balance sheets of the main four central banks  – US, China, Japan, and EU – have expanded by 300% since the beginning of 2005. If gold prices were just appreciating to keep up with these central banks’ quantitative easing programs, the yellow metal would be worth $1,700 an ounce.

So why is gold price so low and will we see gold reach $2,000/oz? The September 2011-high is worth over $2,000/oz in today’s money, so in that perspective, this year’s rally is just getting started.
Macquarie Research gave three reasons why gold prices are not at $2,000/oz yet.

First and most obviously, a bull rally takes time. We started from a very low base, at just below $1,050/oz as recently as last December.

Second, gold is priced in the U.S. dollar, and the dollar has become stronger. Since September 2011, while gold has fallen about 30%, the British pound also lost 19%, the euro 21%, the yen 25%. “What this means is that the gold price measured in those currencies are far nearer to that 2011 peak than measured in US dollar”, wrote analyst Matthew Turner.

Third and most importantly, the physical demand for gold is lower. Macquarie wrote:
In 1Q weak physical demand, led by a slump in jewellery, probably held the gold price back during that period. In 2Q physical demand was again weak, with jewellery again to blame.

Where the problem was – India – and what caused it: government interference, weak rural income growth, and high prices....

How Tech Sees Itself Versus Reality

From Mattermark's blog:

Editor’s Morning Note: If you peel back the clouds surrounding Spin Mountain, there is much in tech left to be undesired. 

Screen Shot 2016-08-30 at 8.34.12 AM
Stock image of Spin Mountain, taken in 1843 on a proto-iPhone.
While writing something short about the IPO market yesterday, I ran across an image that caught my eye. This, I thought, must be how venture capitalists imagine themselves.
Given the implication that the venture kids were deluded, it wasn’t a very kind thought. But it worked enough as a concept to doodle up a few other ideas concerning you and I, and how we view ourselves in contrast to reality.
So, for fun, this.

Venture Capitalists

How they see themselves:

Screen Shot 2016-08-29 at 12.14.30 PM

How they are seen by others:

Screen Shot 2016-08-29 at 11.21.47 AM
Viva Vevo.
What people actually want:

Screen Shot 2016-08-29 at 11.35.44 AM
Image via Flickr user Ildar Sagdejev under CC BY 2.0. Image has been cropped.

The Tech Press

How it sees itself:

Screen Shot 2016-08-29 at 11.19.33 AM
Via HuffPo.
How it is seen by others:

Screen Shot 2016-08-29 at 11.19.33 AM

What people actually want:

giphy (3)


How they view themselves:

Screen Shot 2016-08-29 at 11.51.14 AM
Image via Flickr user Heisenberg Media under CC BY 2.0. Image has been cropped.
How others see them:

giphy (5)

What people actually want:

Area Founder Celebrates LP Liquidity.

Crude Tumbles After Big Crude, Distillates Build

Front (Oct.) futures $44.98, down $1.37. Here's the last two week's price action:

From ZeroHedge:
Having extended yesterday's losses on the back of API's unexpectedly large distillates inventory build, DOE data confirmed an even bigger crude inventory build (+2.276mm vs ~1.3mm build exp.), which contrary to seasonal patterns was the second build in a row, and 5 builds in the past 6 weeks. Gasoline drew down less than API reported and Distillates built considerably more than expected (+1.5mm vs +275k exp). While production slipped lower by 0.7%, crude prices tumbled on the inventory news, back down to $45.50.
  • Crude +942k (+1.5mm exp)
  • Cushing -620k
  • Gasoline -1.6mm (-1.25mm exp)
  • Distillates +3mm (+275k exp)
  • Crude +2.276mm (+1.3mm exp)
  • Cushing -1.039mm
  • Gasoline -691k (-1.25mm exp)
  • Distillates +1.496mm (+275k exp)
The crude breakdown by region:
  • PADD1 20.259mbbl +0.143
  • PADD2 151.032mbbl -1.403
  • PADD3 275.55mbbl +2.911
  • PADD4 26.974mbbl +0.243
  • PADD5 52.055mbbl +0.381
And gasoline:
  • PADD1 67.178mbbl -1.936
  • PADD2 49.859mbbl +1.497
  • PADD3 78.513mbbl +0.555
  • PADD4 6.578mbbl -0.395
  • PADD5 29.876mbbl -0.411
Also notably, on a seasonal basis, Gulf Coast and East Coast crude stocks just hit reacord levels....

The CIA’s Venture-Capital Firm, Like Its Sponsor, Operates in the Shadows

This is a pretty good look at the spook shop vehicle.
As a side note, back in the early years of this century, especially immediately after the mass murders of 9/11, it was thought that investing alongside In-Q-Tel was the cool thing to do.
It took a while for the realization to sink in that they weren't necessarily in it for the money return to the VC's.

From the Wall Street Journal:

In-Q-Tel provides only limited information about its investments, and some of its trustees have ties to funded companies
Forterra Systems Inc., a California startup focused on virtual reality, was in need of money and its products didn’t have much commercial appeal. Then funds came in from a source based far from Silicon Valley: In-Q-Tel Inc., a venture-capital firm in Virginia funded by the Central Intelligence Agency.

One catalyst for the 2007 infusion, according to a former Forterra executive and others familiar with it, was a recommendation by a man who sat on the board of the venture-capital firm—and also on the board of Forterra.

In-Q-Tel pumped in cash, Forterra developed some tools useful to the military, and government contracts started coming in.

Like the agency that founded it, the CIA-funded venture-capital firm operates largely in the shadows. In-Q-Tel officials regard the firm as independent, yet it has extremely close ties to the CIA and runs almost all investment decisions by the spy agency. The firm discloses little about how it picks companies to invest in, never says how much, and sometimes doesn’t reveal the investments at all.
Even less well-known are potential conflicts of interest the arrangement entails, as seen in this Forterra example and others continuing to the present. Nearly half of In-Q-Tel’s trustees have a financial connection of one kind or another with a company In-Q-Tel has funded, a Wall Street Journal examination of its investments found.

In-Q-Tel’s hunt for promising technology has led the firm, on at least 17 occasions, to fund businesses that had a financial link of some sort to an In-Q-Tel trustee. In three instances a trustee sat on the board of a company that had an In-Q-Tel investment, as in the Forterra case, according to the Journal’s examination, which was based on a review of investment records and interviews with venture-capital and In-Q-Tel officials, past and present.

In-Q-Tel differs from other venture-capital firms in an important way: It is a nonprofit. Instead of trying to make money, it seeks to spur the development of technology useful to the CIA mission of intelligence gathering.

Tangled connections are endemic in the venture-capital business, where intimate industry knowledge is essential to success. Other venture-capital firms, however, are playing with their own money, or that of private investors.

In-Q-Tel uses public money, to which strict conflict-of-interest rules apply—at least $120 million a year, say people familiar with the firm’s financials. It sometimes deploys this capital in ways that, even if not by intent, have the potential to benefit the firm’s own trustees by virtue of other roles they have in the tech industry.

In-Q-Tel investments often attract other funding. Each dollar In-Q-Tel invests in a small business typically is matched by $15 from elsewhere, the firm has found. That makes the small business likelier to succeed and makes its stock options more valuable for whoever has some.

In-Q-Tel said it needs to work with people who have industry connections if it hopes to find promising technology. Some of its trustees, it said, are so enmeshed in the tech world it would be hard to avoid any ties that might be interpreted as conflicting. Besides technology, trustees come from a variety of backgrounds including academia, national security and venture capital.

“In-Q-Tel put in place rigorous policies to safeguard taxpayer funds, prevent possible conflicts-of-interest and stay focused on developing technology to meet mission requirements,” said a CIA spokesman, Ryan Trapani. “We are pleased that both the In-Q-Tel model and the safeguards put in place have worked so well.”

The firm permits its trustees to recommend investing in businesses to which they have ties, so long as they disclose these internally and to the CIA. Trustees are required to recuse themselves from reviews and votes after such recommendations.

To succeed, “you want a board who knows what the hell they are doing,” said Jeffrey Smith, who helped design In-Q-Tel when he was CIA general counsel and is now its outside counsel, as well as a senior counsel at law firm Arnold & Porter. “This is to some extent a balance, and we know that,” he said.

In the Forterra case, Charles Boyd, a retired Air Force four-star general, joined the boards of both Forterra and In-Q-Tel in 2006. The following year, In-Q-Tel sank money into Forterra, according to an In-Q-Tel news release at the time. The amount couldn’t be determined.

Gen. Boyd said he made an initial recommendation for In-Q-Tel to invest but didn’t take part in its decision to do so. He said he received no compensation from Forterra for recommending to In-Q-Tel that it invest in the startup.

“It definitely was a win-win from our perspective to have Charles on the board and open those doors for us,” said Chris Badger, who was Forterra’s vice president of marketing. He said there was discussion within Forterra about whether “In-Q-Tel’s funding model was really generating a good benefit for the taxpayer.”

The money from In-Q-Tel and subsequent federal contracts proved insufficient. Forterra failed to attract commercial interest and closed in 2010 after selling off pieces of itself.

The purchaser was another company where an In-Q-Tel trustee served on the board of directors.
Investors in Forterra, including In-Q-Tel, took heavy losses, according to people involved in the unwinding. Gen. Boyd had no personal investment in Forterra, In-Q-Tel said.

He did have nonqualified stock options, according to In-Q-Tel, which said holders of such options didn’t receive anything for them when Forterra stopped operating. Gen. Boyd said the only compensation he received from the small business was $5,000 as it was closing down. He left In-Q-Tel’s board of trustees in 2013.

For the CIA, a captive venture-capital firm is a way to encourage and shape technology development without getting bogged down in bureaucracy.

In-Q-Tel’s beginnings trace to a plan hatched in the late 1990s by George Tenet, then the CIA director, who expressed frustration that access to pioneering technology was held back by byzantine government procurement rules.

Congress approved the creation of In-Q-Tel by agreeing to direct money to the organization, and its funding levels increased markedly in later years....MORE
HT: naked capitalism who should also have gotten the tip of the old chapeau for the Ambrose Evans-Pritchard piece below.

Alphaville Talks The Decline Of High End Swiss Watches, Savonarola Swings By

From FT Alphaville:

A bonfire of the Swiss watches
Ever since the Chinese government cracked down on “gift giving” as part of its anti-corruption campaign, Swiss watch exports have taking a beating.

Here’s the trend, courtesy of a UBS European luxury note out Wednesday:
As the analysts note, that slump follows a more than 100 per cent rise in the value of Swiss watch exports over 2010 and 2011.

Ground zero for the demand destruction, meanwhile, is Hong Kong. And it’s there that UBS got some insight on the scale of the downturn from three major retailers:
We recently met three Hong Kong/ China watch retailers: Hengdeli, Oriental and Emperor Watch & Jewellery. All three companies commented that current trading remains tough, and there is not expected to be any significant recovery this year. Destocking continues as retailers reduce replenishment rates on weaker brands and adjust inventory price mix. More store closures are also ahead with the only silver lining that there appears to be a little more room for rent reductions in Hong Kong of ~10%-40%.
Recent company commentary has continued to be weak: Swatch reported H1 results on 21st July. Organic sales declined -12.5%, with multi-brand retailers cautious to re-order or cancelling orders. CEO Hayek commented that own retail was better than wholesale and retail in Hong Kong has potentially bottomed out with sales between +10% and -10% depending on the stores. Local Hong Kong retailers, however, do not see the same trends. These results again confirm the difficult market conditions, and follow Richemont reporting April sales -15%.
Unsurprisingly, for a market where the perception of scarcity underpins all value, the likes of Richemont have even taken to buying back inventory. According to UBS, the new Cartier CEO has specifically looked to clean out high end inventory from the Hong Kong market. This, we’d argue, is quite something. (Or at the very least a new asset purchase idea for QE?)...

Here's a quick look at Savonarola: "Origins and History of the Iniquitous Bonfire of the Vanities and the lasting consequences on Art History

Brexit's Effect On Bacon Prices

The first rule of bacon ecology: everything is connected.
From Quartz:

A Chinese buying spree is jacking up the price of British bacon—and it’s all thanks to Brexit
Britons are learning the hard way that actions have consequences—and those consequences are jeopardizing their beloved relationship to bacon.

Two realities of post-Brexit Britain are taking a toll on the price of British bacon: flooding halfway around the world and the tumbling value of the pound against other currencies.

The flooding, which took place in northern and central China in late July, displaced hundreds of thousands of people and drove up China’s demand for food, including pork products, thanks to the damage done to the country’s domestic pork industry. In response, UK pig farmers have experienced a 40,000-ton uptick in pork exports to China compared to the same time last year, according to Beacon, a UK-based purchasing company.

A nosedive in the value of the British pound post-Brexit has made British pork prices all the more enticing for hungry China, as well as all the other countries whose currencies are enjoying a relative boost in value against the pound.

British pork farmers may be tickled by the forces at play, but British pork lovers can’t be pleased. As proud purveyors of bacon butties and full english breakfasts, Britons like to fancy their cut of the meat to be superior, partly because it includes the belly and the loin.

With more pork than usual leaving the British isle, the predicted price of bacon is expected to increase up to 19% per pound....MORE

Evans-Pritchard: ...the central pillar of global order is in danger of collapse...

I truncated the original headline because it seemed too narrowly focused.
From the Telegraph, Aug. 30:

Trade wars: Why the central pillar of global order is in danger of collapse as TTIP disintegrates 
The Transatlantic pact intended to unite Europe and North America in a vast free trade zone is close to collapse after France called for a complete suspension of talks, accusing the US of blocking any workable compromise.
“Political support in France for these negotiations no longer exists,” said Matthias Fekl, the French commerce secretary.

Mr Fekl said his country would request a formal decision by EU ministers at a summit in Bratislava to drop the hotly-contested deal, known as the Transatlantic Trade and Investment Partnership (TTIP).
“The Americans are offering nothing, or just crumbs. That is not how allies should negotiate. There must be a clear and definite halt to these talks, to restart them later on a proper basis,” he said.
The project is infinitely more than a trade deal. It is part of a strategic push to bind together the two halves of North Atlantic civilisation at a dangerous moment when the Western liberal order is under threat. The two sides are currently drifting towards divorce.

“TTIP was supposed to set the rules for the global trade,” said Rem Korteweg, a trade expert at the Centre for European Reform. “It was to be a central pillar of an alliance of like-minded countries. If it all falls apart in acrimony, what kind of global governance are we going to have?” he said.
Mr Fekl’s hard-line comments were echoed in slightly softer language by French president Fran├žois Hollande, who said on Tuesday that there was no chance of a deal on TTIP before the next administration takes power in Washington.

“The talks have become bogged down, the positions have not been respected, and the imbalance is obvious. It is better that we face up to this candidly rather than prolong a discussion on foundations that cannot succeed,” he said.

It is hard to judge how much of the rhetoric from Paris is negotiating brinkmanship as the TTIP talks reach a critical phase, or more likely posturing by the French socialist party in advance of elections next May. The socialist working-class base is peeling off en masse to the Front National of Marine Le Pen, who excoriates globalisation as the “law of the jungle”....MORE 

Ag Futures: Today the Bears Switch the Brunt of Selling Onto Soybeans, Cotton

Last Chg
Corn 315-4-0-2
Soybeans 944-0-6-6
Wheat 392-4+0-2

From Agrimoney:
Soybeans seem to have taken over as the price target for ag market bulls.
Not even a $1.8bn purchase order of the oilseed could prevent November soybean futures falling in early deals in Chicago, coming close to a four-month low.
A delegation of Chinese soybean buyers overnight signed agreements to purchase 146m bushels of the oilseed, equivalent to nearly 4m tonnes, at a ceremony in Indianapolis.
However, the trouble with these signing ceremonies is while they once excited the markets, in signalling such huge demand, they are now seen merely as packaging up orders which will, anyway, take place.
So the focus remains on the expanded ideas for the US harvest, now that the key month for the crop is almost over, but with 73% of the crop rated in "good" or "excellent" condition by the US Department of Agriculture, a figure deemed variously by brokers as a 30-year high for the time of year, or even an all-time top.
'Bullish rationale dissolved'
"On a global level, soybean stocks do not look especially burdensome   strong feed demand is likely to keep any excess supply only modest in the 2016 season," said Tobin Gorey at Commonwealth Bank of Australia. 
"Investors though had bet heavily on the prospect of a much tighter global balance sheet. 
"Investors' rationale for such a large position has now dissolved because the US harvest set to restore a reasonable supply buffer."...

We haven't had a soybean chart in a while so here goes:

Hmmm... The obvious support appears to be about 11% lower.

Tuesday, August 30, 2016

Yield Search: Park Your Money In Parking Lots

What hath Fed wrought.

I know the business can be profitable. In New York/New Jersey the Gottesman clan has parlayed their parking lot biz into four or five billion and in Britain Donald Gosling scored a knighthood and lends his yacht to the Queen (no freebie for Charles however, we noted in 2008 that Sir Donald charged HRH for a charter)
Still however, it is not the easiest business to be really good at.

From Penta:
In the search for higher yield, alternative assets like infrastructure and real estate are drawing ever more scrutiny. But Todd Briddell, CEO and CIO of CenterSquare, the real asset management arm of BNY Mellon, says real estate investors should, at this point in the cycle, consider the most overlooked property assets, such as parking lots.

They are, Briddell says, a sweet addition to the property portfolio that can help maximize returns, particularly when the lots are sold down-the-line. Those actively investing in parking-lot properties, either directly or via funds, can make returns in the 12% to 18% range.

How so? Many companies have outgrown the office parking lots that were originally cut out for them, causing parking demand to increase dramatically, Briddell says. “It used to be enough to have 3.5 to 4 parking spaces per 1,000 square feet on average to accommodate the number of tenants expected to park in a building. But now, the requirement has doubled—and most parking structures haven’t caught up.”

That’s an opportunity, and a few real-estate moguls and quick-witted investors are reshaping and renovating parking lots for more effective uses. Briddell says, keep an eye out for suburban properties needing parking-lot improvements. He found, for example, a building in the outskirts of Dallas, Texas, which was overflowing with call center employees. They desperately needed more parking spots. Briddell noticed an adjacent warehouse that was unused, bought it through CenterSquare’s fund,  and converted it into a parking lot, offering to double the parking available to the call center’s employees. With the renovation of the warehouse, he was able to sell an interest and secure a 12-year lease with the company running the call center. That handsomely benefited the CenterSquare clients who had invested in the fund.

The opposite thing happened in Harbor Island, Fla., where a former call center slowly became an upscale business hub with top-notch law firms and consulting services. As a result, “hundreds of parking spaces were available in our building,” says Briddell. He started scouting for better use of the space. Briddell discovered a development going up in the neighborhood—zoned for multifamily residents—that could benefit from the available parking spots. He told the residential developers he could dedicate hundreds of parking spots to residents of the new building and offered to build a bridge connecting the two buildings. In the end, both sides won: the developers didn’t have to construct a parking lot of their own, and Briddell ultimately sold them his parking-lot property for $10 million more than what he acquired it for.

No surprise, then, that some wealth management firms are jumping in on the parking-lot trend or other such plays, and that includes Tishman Speyer/Citigroup Alternative Investments Real Estate Venture funds and J.P. Morgan Asset Management’s array or U.S. value-added real estate strategies funds....MORE

"Twin Major Hurricanes Menace Hawaii; Little Change to Atlantic's TD 8 and TD 9"

Well this looks rather evil.
We don't do much with the Pacific hurricanes because we come to all this from the insurance/reinsurance angle but from time to time we try to point out extraordinary phenomena. Last year's Patricia with 200 mph winds being an example.
Here's another.

From Wunderblog:
Powerful Hurricane Madeline continues edging toward Hawaii’s Big Island, where a Hurricane Watch remains in effect. An astounding 36-hour burst of intensification peaked early Tuesday, with top sustained winds of 135 mph at 5 am EDT making the hurricane a Category 4 on the Saffir-Simpson Scale. As of 11 am EDT Tuesday, Madeline’s top winds were down to 120 mph. The formerly distinct eye has become obscured in infrared imagery over the last few hours, another sign of weakening. Wind shear will increase to the moderate range (15 - 20 knots) by Wednesday, so we can expect at least gradual weakening to continue.
 Figure 1. Hurricanes Madeline (left) and Lester (right), as captured by the Visible Infrared Imaging Radiometer 
Suite (VIIRS) aboard the Suomi NPP spacecraft on Monday, August 29, 2016. Image credit: NASA.
Located about 700 miles east of Hilo as of 11 am EDT, Madeline was moving west at 10 mph. Computer models agree that a strengthening ridge to the north of Madeline will help induce a leftward bend in Madeline’s track. This bend, plus interactions with Hurricane Lester (see below), may be enough to put Madeline’s track just south of the Big Island and well south of the rest of Hawaii, but there is still some uncertainty about this. The 00Z UKMET and the 06Z HWRF and GFS model runs keep the hurricane about 100-200 miles south of the island, while the 00Z European and 06Z GFDL run suggest a landfall on the Big Island at hurricane strength. No hurricane has ever struck the Big Island in records going back to 1949. The official track from the Central Pacific Hurricane Center brings Madeline within 50 miles of the south tip of the Big Island on Thursday morning, putting the island on the more dangerous right-side (north) side of the storm....MUCH MORE 
Speaking of evil looking, we posted this some years ago.:
...Nasty bugger what with the devil horns and all

Oldest known photograph of a tornado
Image ID: wea00206, NOAA's National Weather Service (NWS) Collection
22 miles southwest of Howard, South Dakota

Photo Date:
1884 August 28

"Oil Tumbles As Market Questions Whether An OPEC Production Freeze Is Even Remotely Possible?"

Front month October futures $46.53 down 0.45 after trading  up to $47.49.
From ZeroHedge:

Oil prices enjoyed a bump last week, thanks in part to a weakened dollar and some geopolitical tensions in the Persian Gulf. But a large factor in the recent rally has been the return of a possible OPEC production freeze, a subject that was last tossed around before the organization’s much-publicized, and ultimately unproductive, meeting in Doha last April. The likelihood of a freeze sent markets up on Thursday, though some less-than-confident comments from the Saudi oil minister sent them dropping back on Friday. 
And we noted previously, the short squeeze ammo has been eviscerated in oil, disabling (for now) the 'freeze' headline risk...Whether a freeze occurs or not is likely to be the trending gossip among speculators for the next month, at a time when such talk is exerting greater-than-average pull on the crude price, but as's Gregory Brew notes, a question worth asking is whether a freeze is even possible, given the state of OPEC and the increasingly divergent interests of its fourteen members. 
This new attempt at a production freeze comes as Saudi Arabia, OPEC’s largest producer and de facto leader, reaches a new production record of 10.67 million barrels, more than 400,000 more than when the last freeze was discussed, while its oil revenues continue to plummet. OPEC profits have fallen 55 percent since 2014, according to the EIA. Ecuador, Kuwait and other Gulf producers want the price to recover past $50 a barrel. If a production freeze is on the cards, it will be discussed in late September during an informal meeting of the OPEC states at the International Energy Forum in Algeria. 
Iraq and Iran, OPEC’s number two and three producers, respectively, have offered tacit acceptance of a production freeze, with important caveats. 
In the case of Iran, a freeze will not interfere with the country’s long campaign to re-capture market share, as oil minister Bijan Zanganeh made quite clear in a recent statement. The question of where, exactly, Iran’s production will reach before a freeze is open for debate. The widely-cited figure is Iran’s pre-sanctions production level of 4 million barrels, and the Iranian government has claimed that it will consider a freeze once production reaches this level. 
If the current trend holds, Iran will reach 4 million barrels by September, in time for the Algeria meeting. Increasing production past 4 million will require new investment, which Iran is preparing to court with new contracts, and which it desperately needs in order to repair its infrastructure and expand beyond its aging fields. 
But will Iran (or Zanganeh) be satisfied with 4 million? Iran’s all-time high of 6.3 million barrels per day was reached in the 1970s. It’s possible that Zanganeh will insist that Iranian production increase to its historic maximum, just as Saudi Arabia has allowed its production to sky-rocket. It may give tacit approval to a freeze, in order to bring prices up, but it’s unlikely to adhere to it in any practical sense....MORE

Vladimir Putin Arrested In Florida

From CBS12, West Palm Beach:

Vladimir Putin arrested at Publix
Vladimir Putin is facing trespassing charges.
 Vladimir Putin is facing trespassing and resist/obstruction charges for screaming at employees at Publix. Image Courtesy: PBSO.
Not Vladimir Putin, the President of Russia.  But Vladimir Putin of West Palm Beach. 
Police responded to a Publix supermarket in downtown West Palm Beach following a report of a man screaming at employees. 
Managers tried to get Putin to leave but he refused....MORE

Central Banks: "Natural Rates and Terminal Fed Funds"

From Marc to Market:

The market recognizes that the indication by the FOMC at the end of last year that four rates hikes in 2016 may be appropriate was far from the mark.  At the same time, investors are coming around to the prospects that the Fed is not one and done either.   
A key issue for investors and policymakers is what is the terminal rate for Fed funds.  This terminal rate is what economists call the natural or neutral interest rate.  It is the rate that is consistent full employment and capacity utilization and stable prices.    
In June, the Fed's dot-plot pointed to a long-term equilibrium rate (natural or neutral rate) of 3%. It has been steadily revised lower, which is one of the most important signals from the Federal Reserve.    
 The San Francisco Federal Reserve's latest letter address this issue.  The analysis is interested in what economists call r* (r-star).  It is the natural rate adjusted for inflation or real rate.  The current estimate is that it is near zero.  It is expected to rise gradually.  Historically, there is a strong statistical relationship between the growth of potential GDP and the real natural rate, of r*.  A 2% growth rate of potential GDP translates to about a 1% r*.
R* closely tracks the four-quarter growth rate of potential GDP as calculated by the Congressional Budget Office.  Those estimates are projected 10-years out.  Using the CBO series, Kevin Lansing at the San Fran Fed calculates that, given the historical relationship, the CBO estimates point to a very gradual increase in the r* from near zero now to 1% in 2026.   
In inflation is near 2% and r* is near 1%, then the long-term equilibrium rate for nominal Fed funds may be a little below 3%.  On one hand, that means that the FOMC may have nearly completed its adjustment.  Consider that at the start of 2012; the dot plot implied a long-term equilibrium rate of 4%.   
When looking at the historical performance, Lansing notes that r* is on a downward slope, that predates the Great Financial Crisis.  Real Fed funds were below the what was implied by r* between Q1 2001 and Q1 2006.  Some argue that it was this easy policy that fueled the housing market bubble.  Others argue that the source of the bubble was not easy monetary policy by lax lending standards....MORE    

Agriculture: "Grain markets' lurch lower catches hedge funds off guard"

Last Chg
Corn 320-4-0-2
Soybeans 962-4-1-6
Wheat 399-4+2-4

From Agrimoney:

The extent of the latest lurch lower in grain prices appears to have taken by surprise even hedge funds, which had cut their bearish bets on the complex – raising questions over whether fresh selling lies in wait.
Managed money, a proxy for speculators, raised its net long position in futures and options in the top 13 US-traded agricultural commodities, from cotton to cattle, by more than 113,000 contracts in the week to last Tuesday, according to data from the Commodity Futures Trading Commission regulator.
The increase in the net long - the extent to which long positions, which profit when values rise, exceed short bets, which benefit when prices fall – reflected in part an increase of 27,375 contracts in the net long in New York-traded soft commodities, taking it a fresh record high of 418,209 lots.
However, it also reflected a cut in the net short position in the main grain contracts, including the soy complex, of 83,256 lots – the biggest bullish turn in positioning in grains in more than two months.
Many hedge funds may wish they had held their nerve with short bets, given the tumble in prices since last Tuesday of more than 5% in Chicago corn futures, to contract lows, while Chicago wheat has shed a further 7% to hit their weakest in 10 years.
'Did not go well'
In fact, short-covering was relatively light in Chicago soft red winter wheat, with the net short cut by 1,761 contracts, with hedge funds focusing more on Kansas City-traded hard red winter wheat, in which they reduced their net long by more than 9,000 lots week on week....MORE

Reinsurance: “Steep Decline” in Operating Results in H1 2016--Fitch

From Artemis:
Reinsurance company operating results suffered a “steep decline” in the first-half of 2016, according to Fitch Ratings, as return on average common equity (ROAE) plummeted by 36% compared to the same period in the prior year.

Reinsurers remain under pressure and, as ever at this time of year with the key industry meetings of the Monte Carlo Reinsurance Rendezvous and Baden-Baden approaching, analysis of how they are coping with the soft market and heightened competitive environment by the rating agencies is ramping up.

Fitch Ratings looks at reinsurance company performance in its latest look at the U.S. property & casualty re/insurance market and finds that performance has declined sharply as reinsurers struggle through the soft market and deal with rising catastrophe losses.

Returns on equity have been waning for a number of years now, but Fitch highlights a sharp drop in the first-half of 2016.

“After years of outperforming the other four primary insurance subsegments, Fitch’s universe of reinsurers reported a steep decline in operating results through first-half 2016 as operating ROAE decreased to 7.0%, a 36% decline over first-half 2015,” the rating agency explains.
Fitch notes that there have been some bright points, with the effects of consolidation and a less appetite to keep decreasing pricing evident, as too was solid growth in premiums underwritten over the prior first-half.

But catastrophe losses hit reinsurers the hardest in P&C, “with losses as a percentage of earned premiums more than doubling and adding 6.2 points to the combined ratio.”

All reinsurers in the group reported on suffered higher catastrophe losses in the first-half of 2016, apart from RenaissanceRe and Allied World Fitch says.

Reserve releases continue to be vital to reinsurers profitability, with the group covered in Fitch’s report releasing 7.3 points worth in H1 2016. Excluding the impact of reserve releases the group’s combined ratio would have been verging on unprofitable, at 99.6% which is up considerably on the same metric in H1 2015 at 95.5%.

And that is not simply due to catastrophe losses, the combined ratio minus catastrophe losses and reserve development is also up, from 93% in H1 2015 to 93.4% in H1 2016, which Fitch says shows that “run-rate results continue to decline.”...MORE

Oil: Norway's Statoil Expects 'Loads of' M&A Deals Coming Up, Strategy Chief Says

From Reuters:

John Knight, Statoil's (STL.OL) executive vice-president for global strategy and business development, told Reuters on the sidelines of the ONS oil conference in Stavanger, Norway on Monday:

** "Absolutely, I think there are loads of deals out there," he said when asked whether he expects more deals coming up

** Says: "If you look at the acquisition and divestment markets for upstream oil and gas on a global basis over the last five years, they have been falling to all-time lows... but there are a number of active spots, one of those is in certain parts of North American shale and you've seen us divesting some parts there to take advantage of that. And the other part is Norway."

** "In the last year you've seen us concentrating in four areas. The first was a very complicated swap in four continents. Then we bought three partners out of Utgard at a very competitive pricing, reflecting the bottom of the cycle... Those two deals help with getting operational control and with fundamental efficiency in this low-price environment"

** The other two deals (Buying a stake in Lundin and exploration license from Petrobras) are for the longer term.

** "Everything I've said there, involves us what I would call doubling down in places where we already have experience and where the asset quality is good or where the asset price is low, so that is what you can expect from us"

** "I won't speculate on that but more exposure to Sverdrup is always welcome," Knight said when asked whether Statoil would be interested in buying Maersk Oil's MAERSK.CO stake in Sverdrup....MORE

Monday, August 29, 2016

Why We Still Don't Have Better Batteries

We've had a lot of posts on batteries over the years, here's the Google search of the blog: batteries
It got to the point there were so many 'breakthroughs' that didn't pan out that we stopped posting on them rather than waste our reader's time.
From MIT's Technology Review:

Startups with novel chemistries tend to falter before they reach full production.
Earlier this year, Ellen Williams, the director of ARPA-E, the U.S. Department of Energy’s advanced research program for alternative energy, made headlines when she told the Guardian newspaper that "We have reached some holy grails in batteries.”

Despite very promising results from the 75-odd energy-storage research projects that ARPA-E funds, however, the grail of compact, low-cost energy storage remains elusive.

A number of startups are closer to producing devices that are economical, safe, compact, and energy-dense enough to store energy at a cost of less than $100 a kilowatt-hour. Energy storage at that price would have a galvanic effect, overcoming the problem of powering a 24/7 grid with renewable energy that’s available only when the wind blows or the sun shines, and making electric vehicles lighter and less expensive.

Illustration by Federico Jordan
But those batteries are not being commercialized at anywhere near the pace needed to hasten the shift from fossil fuels to renewables. Even Tesla CEO Elon Musk, hardly one to underplay the promise of new technology, has been forced to admit that, for now, the electric-car maker is engaged in a gradual slog of enhancements to its existing lithium-ion batteries, not a big leap forward.

In fact, many researchers believe energy storage will have to take an entirely new chemistry and new physical form, beyond the lithium-ion batteries that over the last decade have shoved aside competing technologies in consumer electronics, electric vehicles, and grid-scale storage systems. In May the DOE held a symposium entitled “Beyond Lithium-Ion.” The fact that it was the ninth annual edition of the event underscored the technological challenges of making that step.

Qichao Hu, the founder of SolidEnergy Systems, has developed a lithium-metal battery (which has a metallic anode, rather than the graphite material used for the anode in traditional lithium-ion batteries) that offers dramatically improved energy density over today’s devices (see “Better Lithium Batteries to Get a Test Flight”). The decade-long process of developing the new system highlighted one of the main hurdles in battery advancement: “In terms of moving from an idea to a product,” says Hu, “it’s hard for batteries, because when you improve one aspect, you compromise other aspects.”
Added to this is the fact that energy storage research has a multiplicity problem: there are so many technologies, from foam batteries to flow batteries to exotic chemistries, that no one clear winner is attracting most of the funding and research activity....MORE
Our final paragraph from March 2012's "Batteries: The Venture Capitalist's Holy Grail":
...Microsoft famously didn't need venture capital either.
(Technology Venture Investors was the sole VC investor and got that plum only because Marquardt and Ballmer were buddies)
That's the Holy Grail, finding a company that doesn't need you but will let you in.

The battery on the other hand....that's going to be a longer slog than the press releases would lead one to believe. 
That was 4 1/2 years ago.

Devonshire Research Group's Short Tesla Thesis, Part II (TSLA)

How can you not love it?
(See disclaimer at bottom) 

The stock is at $216.56 down $3.43 on a generally up day for equities.

From Devonshire Research Group, LLC, May 2016:
Notice of investment interests
As of the publication date of this report, the Devonshire Research Group LLC has a net short position in the stock, put options, bonds, and credit swaps of Tesla Motors, Inc. (“TSLA” or “Tesla”) and stands to realize gains in the event that the price of TSLA’s securities declines over the long run, or if investment sentiment improves the appeal of an expected decline in any of its securities.

Devonshire Research Group recognizes that while its strategy reflects a long term bearish outlook for Tesla’s security instruments, the short term implication of powerful marketing, including the power of social media tweeting by the CEO and his PR firm, well orchestrated and heavily blogged product launches, and a deep and powerful short term media control and attention span, suggests unpredictable short term volatility.

Devonshire Research Group LLC has a long term net short position across multiple security instruments.
Notice of non-affiliation
Part I of this analysis, released publicly in March 2016, was widely praised as effective and fact-driven. Critics of the analysis allege that the work of the Devonshire Research Group is unfairly biased, due to affiliations with industry players who seek to limit the market performance of Tesla. This is interesting, but untrue.

Devonshire Research Group hereby asserts that it does not have professional or business relationships with any of the following organizations:
General Motors 
Ford Toyota 
The City of Detroit 
Koch Industries 
Royal Dutch Shell
CB Insights 
The Illuminati 
Marshall Mathers, aka “Eminem”
On financial innovation and creative accounting...

...Tesla is not a car, battery, or tech company; it is an experimental financial services company and should be regulated as such...
...MUCH MORE (37 page PDF)

In places, this piece reads like a parody and probably shouldn't be relied upon as investment advice.
Additionally, for those who have followed the issue closely there isn't a whole lot that hasn't been raised by someone else, somewhere else.

Further, I have no idea who Devonshire is. They seem to have had an okay call on GoPro but I only came across them because of a post at the Tesla Motors Club forum where the first part of DRG's effort was mentioned:
1) I found interesting looking Devonshire Research article:
Tesla Motors Inc (TSLA): Devonshire Research Short
At first their analysis looked quite sophisticated, but their reasoning quickly falls apart once you look closely....
Garnering some thoughts from the commentariat: 
2) It's almost certainly a part of the Koch brothers campaign to undermine Tesla.
3) It does seem to look that way. Here's a list of sites that picked up the release and could be another proxy:...
4) If you actually read that report, it's pretty clear the author(s) are morons. 
For the longest time we had a Don't Short Tesla policy because it showed signs of being a cult stock and cult stocks can kill shorts. Plus it can be very hard to locate stock and very expensive to borrow when you do,
From an August 2015 post:

Morgan Stanley Gives a $465 Target For Tesla, Stock Jumps 5%...
We've publicly shorted Tesla twice on the blog, both times worked out because nothing like this happened during the holding period.
For the most part this April 2013 headline is operative "Why We Don't Short Tesla: The stock is up 16% On The Day (TSLA)". That was at $44.00, up $6.11.
Recently $255.30 up $12.15.
Morgan Stanley was one of the firms that sold the recent half-billion stock offering....
However, after the SolarCity deal and Elon's purchase of SCTY debt (on top of his SpaceX buying SCTY debt) I'm more open to betting against the company, at least tactically if not to zero.
Remember, your mileage may vary, close cover before striking etc.

Finally, don't be this guy (no, seriously, don't be this guy):

"How Should We Read Investor Letters?"

From the New Yorker:

Cover Letter
In 1926, Benjamin Graham, a professional investor in his early thirties, was working in the Washington, D.C., record room of the Interstate Commerce Commission when he came across something he considered “treasure.” It appeared in the prosaic form of a twenty-page document detailing the financial condition of Northern Pipeline, one of eight pipeline companies established when the Supreme Court broke up Standard Oil, the monopoly created by John D. Rockefeller.

Northern Pipeline’s shares were trading at sixty-five dollars, and the company generated an annual six dollars of earnings per share. That was generally known. What Graham discovered was that Northern Pipeline was sitting on a fat pile of holdings in other companies. According to his calculations, the company could make a one-off payment of ninety dollars per share to all its stockholders, without having any impact on its ongoing earnings. That’s as sweet a deal as you’ll ever find, so Graham, after an unsuccessful attempt to persuade the company’s senior managers to distribute the cash, loaded up on shares and travelled to the Northern Pipeline annual shareholders’ meeting, in Oil City, Pennsylvania.

The location should have been a warning. Why would a company whose offices were in New York, at 26 Broadway, and most of whose shareholders were also in New York, choose to have its annual meeting in a place that most New Yorkers could get to only after taking an overnight train to Pittsburgh and then a cold, rickety local train ninety miles north? Graham found out when he arrived. 

Of the six people present, he was the only one who wasn’t an employee. He asked the chairman if he could read a memorandum. The chairman asked him to put his request in the form of a motion. Graham did. “Is there any second to this motion?” the chairman asked. Silence. “I’m very sorry, but no one seems willing to second your motion,” the chairman said. “Do I hear a motion to adjourn?” Meeting over. 

Ben Graham went back to New York, humiliated and angry, and vowing revenge.

In the next six months, Graham bought more shares in Northern Pipeline, turning himself into the second-biggest holder of the stock, and then wrote a letter to the body that owned more shares than he did, the Rockefeller Foundation. The letter called the state of affairs at Northern Pipeline “absurd and unfortunate,” and made a cogent case for giving back the excess cash to its real owners, the shareholders: “The cash capital not needed by these pipe line companies in the normal conduct of their business, or to provide for reasonable contingencies, should be returned to the stockholders, whose property it is.” The Rockefeller Foundation listened to Graham politely, then told him that it did not interfere in the running of its holdings. Graham, who later taught economics at Columbia when he wasn’t managing his investments, wasn’t put off. He lobbied the other shareholders, collected their proxy votes for the next annual meeting, and won two of the company’s five board seats. Northern Pipeline caved in, and distributed the cash to its shareholders.

In an engaging and informative book, “Dear Chairman: Boardroom Battles and the Rise of Shareholder Activism” (HarperBusiness), Jeff Gramm argues that this letter marked an important turning point in the history of modern capitalism. It was the moment at which shareholders began to assert their rights as the owners of companies, against managers who tended to run the companies in their own interests instead. Economists call this state of affairs the “agency problem,” in which a company’s agents—the managers—have interests that are not aligned with those of the company’s owners. Gramm’s book focusses on eight investor’s letters that sum up some of the great agency-problem battles in the history of American business. It is a valuable set of stories. As Gramm says, “It is incredible how much useful information from the business world is becoming lost to history. I can get detailed box scores from decades-ago college football games, but finding a 1975 annual report from a midsize company is surprisingly difficult.”...MUCH MORE

Monday Morning Meeting


Boss Freestyles With Jargon - Dilbert by Scott Adams

Hurricane Watch: "Invest 99L Finally Develops Into Tropical Depression 9 in the Florida Straits"

From Wunderblog:
After spending ten days in meteorological limbo-land frustrating forecasters as an “Invest”, 99L finally developed into Tropical Depression Nine, confirmed a NOAA hurricane hunter aircraft late Sunday afternoon. But the storm isn’t done perplexing us yet—the model predictions for the future intensity of the storm remain wildly divergent, even if we now have growing confidence that this storm will track into the coast of Florida north of Tampa on Thursday.

Satellite images on Sunday evening showed a steady increase in the intensity and areal coverage of TD 9’s heavy thunderstorms, though Key West radar showed only a few spiral bands trying to form near the center. The depression is not likely to organize quickly, as it was dealing with wind shear that was a moderately high 15 - 20 knots. TD 9 was also struggling with dry air, as seen on water vapor satellite imagery. Sea surface temperatures (SSTs) remained favorable for development, though, near 30 - 30.5°C (86 - 87°F).... 

... Intensity forecast for TD 9
The SHIPS model on Sunday afternoon predicted moderately favorable conditions for intensification, with wind shear falling to a moderate 10 - 15 knots, Monday through Wednesday. SSTs will be a very warm 30°C (86°F), and mid-level relative humidity was predicted to be a reasonably moist 65 - 70%. However, the usually reliable European and GFS models showed little to no development of TD 9 in their latest 12Z Sunday (8 am EDT) runs. Our best intensity model, the HWRF model, had TD 9 rapidly intensifying into a strong Category 2 hurricane just before landfall. Other intensity models like the DSHIPS and LGEM models had TD 9 as a borderline Category 1 hurricane at landfall. This storm’s history has been to under-perform....MORE
Here's the Cone of Uncertainty for 9:

Tropical Depression Nine