Tag Archives: junk bond collapse

Global. Economic. Collapse. And The “Bernanke Moment”

The global economy, including and especially the United States, is collapsing.  It’s debatable whether or not the western hemisphere countries produced true inflation-adjusted real GDP growth from 2009 to present.   Yes, I know the numbers the U.S. Government’s BEA spits out purport to show “seasonally adjusted, annualized” economic growth.  But a book could be written detailing the ways in which the Government manipulates and outright fabricates the data.  John Williams of Shadowstats.com publishes a newsletter with highly compelling evidence.   Anyone who dismisses Williams’ work does so out of complete ignorance.

The Baltic Dry Index is one of the primary tell-tales of economic collapse.  It measures the BDIdemand for container cargo shipments of bulk raw materials used for all stages of manufacturing.  It’s been twisted into evidence that China is slowing.  But it tracks global shipments and the U.S. and Europe are China’s two biggest export markets.  If China is not shipping, it’s because there is no demand from it’s two biggest customers.  It’s really that simple.

Need another indicator of the collapsing U.S. economy?   The mass layoffs that occurred in 2008-2009 are starting to hit the system again.  We know the energy sector is shedding jobs quickly.  But the retail and financial sector are close on the heels of the energy sector with RPIjob cuts – LINK.    And all those bartender and waitress jobs that the Government alleges to have been created are to disappear again:   Service economy is tanking. But there’s always this graph to the left if you think I’m making this up.

The point here is that the entire global economic system is in a state of collapse.  I find it curious that the financial media and analysts in the United States want to blame the problem on the rest of the world, specifically pointing at the distressed debt market in China.

It’s not debt that weighs on economic growth. If debt issuance is required to generate economic growth, then the “growth” was not sustainable unless the growth could generate enough wealth to support the additional debt. Continuous systemic debt issuance is unsustainable and defies all natural natural laws of economics.  At its base level it’s nothing more than a simple Ponzi scheme. A simple Ponzi scheme is probably what best describes the modern application – or misapplication – of Keynesian economics. I guess it’s poetic justice that Keynes’ economic thoughts were adopted by U.S. policy-makers originally at the onset of the first Great Depression and have been reinvented and re-mis-applied at the onset of the 2nd and bigger Great Depression.

I find it fascinating that the U.S.-based financial propaganda incessantly obsesses on this idea that China is the cause of the world’s ills. This is nothing more than narcissistic jingoism in its “best” light.  But I prefer to see it as a form of yellow journalism seeded in pathetic ignorance. This article from the NY Times’ “Deal Journal,” for instance, references $5 trillion of troubled debt in China, calling it the world’s biggest problem. Hmmm…

Let’s shine just brief light on the United States. Currently the U.S. credit markets, enabled and partially backed by the Government, have now created over $1 trillion in student loan debt, at least 30% – 40% of which is in some form of technical default; over $1 trillion in auto debt, of which at least 30% can be considered of the toxic subprime variety and which I suspect will begin to collapse sometime during 2016; close to $2 trillion in junk bonds have been issued since 2009, with close to 25% of that in the energy sector, which is collapsing as I write this; since 2013, roughly $500 billion of new mortgage debt has been issue, a large portion of which is of the subprime variety masquerading as 3.5% down payment “conventional mortgage” debt. That’s $4.5 trillion of already or potentially toxic debt and that number does not include generic bank and revolving credit loans extended to consumers, small businesses and large corporations. We know already that the banking system is choking badly on a couple hundred billion of toxic energy loans.

The point here is that global economy activity – including the United States – is collapsing independent of the amount of debt sitting on top of the financial system. If the wealth created by economic activity was adequate to support the debt issued against the “hope” of economic growth, then servicing the debt would not be an issue.  But economic cycles never have been and never will be growth in perpetuity.   Unfortunately, the amount of debt issued since the advent of modern QE has taken a parabolic growth path.

We are about to be confronted with an economic catastrophe that will likely shock and awe just about everyone.  The amount of fatal debt piled on top of the global economy will have the effect of throwing thermate into a napalm fire.

The Fed knows this and it’s why a couple of the Fed officials, including the highly influential NY Fed President, have been floating the concept of negative interest rates in this country.  Think about that for a moment.  The policy makers are considering the idea of paying you to borrow money.  If that’s not an admission of defeat on the use of money printing to spur economic growth, I don’t know what is.   Not only are we at the Bernanke Moment of dropping money from helicopters (apologies to Milton Friedman, who’s notion was hypothecated and abused by Bernanke), but they want to pay you to catch the money falling from tree tops in order to spend it.   Man, this is going to get weird – I hope you are bracing for impact.


Is The Fed Trying To Arrange A Bailout Of Junk Bond Funds?

Warning #3:   If you are hesitant to sell your bond funds, use any bounce in the junk bond market to get out of all fixed income funds.  Someone asked me the other day about Treasury funds.   Go read the fine print in the prospectus.  You can find it online.  If the fund permits the use of derivatives, get out of it.  100’s of thousands of investment advisors and retail investors loaded up on Pimco’s Total Rate of Return fund having no idea that it is riddled with derivatives.   If you own Black Rock funds, don’t wait for a bounce.  Just get out.  Black Rock is the financial market version of Fukushima.

I heard a rumor today that the Fed is trying to solicit “fire sale” liquidity bids from private equity funds for big chunks of the bonds held by high yield mutual funds and ETFs.  I want to emphasize that this is an unsubstantiated rumor but it comes from a good source.

At this stage in the game, I believe the Fed will do anything possible to keep the system from collapsing.  On the assumption that the rumor is valid – which I would suggest has a 95% level of probability – I would also expect to see the Fed, in conjunction with the Treasury, offer private equity firms zero-percent credit lines in order incentivize and facilitate an attempted bailout of the junk market by private equity funds.  After all, this would be a no-risk opportunity for the managers of these funds to throw their growing cash piles at something besides Silicon Valley unicorns in order to put the cash to work and skim fees off the invested capital.

Of course at the end of the day, if this scenario plays out, it will be just another attempt to kick the proverbial can down the road and forestall the inevitable collapse of the financial system.  Unfortunately the fundamentals which support the idea that there’s any intrinsic value in the majority of the junk paper that has been issued over the past five years continue to deteriorate.

The primary reason for the Fed to prop up the junk bond market is to prevent the stock market fromUntitled collapsing.  The graph on the right shows what’s at stake (click to enlarge).   At some point the performance of the S&P 500 and the high yield bond market will be forced by the market to re-correlate.  I highly doubt that high yield bonds will converge up to the stock market.

The graph below on the left shows that leveraged loans, which sit on top of junk bonds in the capital structure, are chasing junk bonds in a race to the bottom now.  Theoretically, to the extent the the top of the Untitled1capital structure – leveraged loans – are valued at less than 100 cents on the dollar, everything below them is worth zero.  In a strict application of bankruptcy law, liquidation payouts go from top to bottom.  However, for practical purposes, bankruptcy workouts typically sprinkle some of the agreed restructuring value to the debt tranches below the senior secured level.  If for nothing else than to prevent lawyers from cannibalizing any remaining value with fees.

As you can probably guess, if senior secured debt and junk bonds are worth substantially below par, the equity is worth zero.   THAT is why the stock market eventually follows the junk bond market lower.  THAT is the dynamic that the Fed will attempt to prevent using any possible means at its disposal – legal and illegal.

History tells us this will eventually fail.   The degree to which the end result is catastrophic is always directly proportional to the amount of effort that went in to the attempt to prevent the inevitable.

You can make money off of this inevitability by shorting the stock market.  As this unfolds, there is a lot of money to be made shorting all of the hideously overvalued stocks.   My new subscription service will be rolling out two ideas per week that will help you find ways to exploit the gross price distortions and sector bubbles that have developed after 6 years of extremely reckless monetary policy by the Federal Reserve and U.S. Treasury.    You can subscribe by clicking here:   SHORT SELLER’S JOURNAL.

The Markets Edge Closer To Collapse – What About The Derivatives?

The massive, unprecedented level of Central Bank intervention in the markets has terminated the purpose for having capital markets.  Currently the only goal of the Fed is to do what needs to be done in order to prevent the markets from collapsing.  This has been the mission since 2008 – and, really, since 1987.

Currently there’s a gargantuan tug of war going on between the hedge funds and the Fed. The hedge funds are leveraged up on extremely overvalued stocks and bonds.  Most of them are about to become impaled on their OTC derivatives, which have zero liquidity and function to “turbo-charge” the margin debt extended to hedge funds by Wall Street.  On the other side of the tug-of-war rope is the Fed/ECB/BoE, which are working furiously to prevent forced hedge fund selling from collapsing the markets.

The ongoing effort to push down the price of gold and silver is essential to prevent a big move higher in the metals from signalling to the world that global financial system is collapsing.  If you don’t want everyone rushing out of the coal mine, remove the canary before it dies. Imposing downward pressure on the metals using their derivatives form is the Fed’s act of removing the canary.  At some point the canary will escape and fly back into the coal mine…

Zerohedge published this graph earlier this morning (click to enlarge).  It shows the extreme Untitledvolatility of the S&P 500 right after the NYSE open.  It’s a 5-second graph of the March S&P 500 future.  The obvious trade right now is to short the stock markets.  This is probably the last alternative  available for hedge funds to hedge out their illiquid fixed income positions, especially the junk-rated stuff.  The pension funds are dead meat.  They have no hedging alternatives.  Their only “hedge” is if the Fed/Government decides to shut down the markets to in order to prevent selling.

I suggested several months ago that this was coming eventually.  The gating of junk bond funds is the Untitledstart of this process.  Gating is the same thing as shutting down a market, as it prevents anyone from selling their positions. Please notice that discussions about OTC derivatives seem to have slipped out of the public forum.   For most, this simply means the problem has gone away.   But OTC derivatives lie at the heart of the problem for the Fed.  Fuses have been lit and are moving closer to the detonators.

No one knows when the big explosions will become uncontainable.  But that reality grows closer by the day.   I don’t know what meaningless policy decision will be regurgitated by the FOMC on Wednesday. I’m sure a lot of midnight oil was burned over the weekend working on the draft. But the stock market has at least 1000 points of downside risk and little to no upside, unless the Fed goes  “Weimar” with the printing press.

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The Credit Market Collapse Intensifies – Redemption Gates Up Next

In the summer of 2014 I warned that liquidity was beginning to leave the credit markets and that mutual funds and hedge funds eventually would be instructed by the Fed to implement redemption “gates.”  We are getting closer to this reality.  As the credit market collapse advances, what has happened to the fund described below will spread to the majority of non-Treasury based fixed income funds.

If you own any bond mutual funds of any “flavor,” I am strongly suggesting that you stop reading this and pick up the phone and call your investment advisor or brokerage firm or mutual fund custodian and sell all of your bond fund holdings.  You will eventually regret ignoring this advice.

These “gates” are a mechanism to prevent you from taking your money out of a mutual fund at the fund’s discretion.  They are used when the value of redemption requests is higher than the fund’s ability to sell its holdings in order to meet the requests.  It generally means that a fund is marked too high on its assets and the market for the fund’s holdings is highly illiquid (i.e. no one wants to buy the bonds held by the fund).

The junk bond market is collapsing and it’s not just the triple-C tranche of assets.  it’s everything.  The problem is manifesting openly in the triple-C segment but it’s the tip of the iceberg.

As Zerohedge first reported, Third Avenue Fund’s “Focused Credit” junk bond fund has blown up.   This is the direct way of saying that it has announced that it is liquidating.   it has suspended the ability of fundholders to request a redemption.   While it attempts to sell its garbage, it has announced that it will make a cash distribution to fund holders with what little cash it has on hand.  It will place the remaining fund holdings in a “liquidating trust” which will try to sell off the bonds that it can’t sell now.

A colleague of mine showed me some proprietary information that his firm had compiled on this ThirdUntitled Avenue Fund. Before I describe what was in the fund, let me just say that I am confident that none of the investment advisors, financial planners or securities brokers who put their clients into this fund had any clue how risky this fund was.

Up until early 2015, this fund had up to a negative 50% cash weighting.  This means that it had 50% “effective leverage” – it was more than 100% in the junkiest of the junk bond market.  Of that leverage, 97% was invested in C-rated bonds.  In other words, this bond fund was the equivalent of Fukushima nuclear waste.   As of July 2015, the fund had managed to raise about 10% cash and remove the leverage.    I assume that is around amount that will distributed.  Investors will thus receive about 10% of the quoted NAV in cash.

That’s not to say investors will get 10% of their original investment.  Depending on where the fund was valued when they invested, they will be getting back substantially less than 10% of their original investment.  There will be little to no hope of getting much beyond that, as most of the bonds in the fund are utter toxic sewage:  LINK.

Before you bristle at the thought of taking a loss on your current bond fund holdings and sweat over the thought of not earning any interest on that capital, you better contemplate the possibility of not being able to get most if not all of that money back at all at some point. Think about the people who watched in horror as their beloved Kinder Morgan stock dropped $44 in April to $16 now.  The whole way down they refused to sell because “it was too cheap.”  Really?

Those who wait are going to suffer through the eventual reality of having their money trapped in the bond market.  I’m not making this up.  There have been multiple warnings issued over the last year by several sources, including this website, that the credit markets were becoming very illiquid.  The Third Avenue Fund above is evidence of this and it’s not an “outlier.”   Most fixed income funds have hidden leverage and derivatives. Get out now while you can.

As this unfolds, there is a lot of money to be made shorting all of the hideously overvalued stocks.   My new subscription service will be rolling out at least one idea per week that will help you find ways to exploit the gross price distortions and sector bubbles that have developed after 6 years of extremely reckless monetary policy by the Federal Reserve and U.S. Treasury.    You can subscribe by clicking here:   SHORT SELLER’S JOURNAL.

It’s a weekly report delivered to your email inbox with:  1) a brief comment on the previous week’s trading action plus any thoughts on the upcoming week;  2) I will feature 1 or  2 short-sell, trading, or investment ideas – the investment ideas will be primarily junior mining stocks; 3) trading recommendations, charts and put/call option ideas.