Fed's actions also inflating a new housing bubble

Ed Pinto writes today in WSJ:

Over the past year, the Federal Reserve has ramped up its policy of quantitative easing, with the result being new stock market highs and surging bond prices. Moreover, housing prices jumped 8%, the biggest annual gain since 2006.

The result is that more than a trillion dollars have been added to the market value of single-family homes. Homeowners are now wealthier and according to what economists call the "wealth effect," they should be willing to spend more, helping the economy.

But there is another, less sanguine view of the housing recovery. ... A comparison of FHFA's conventional home-financing data for February 2012 and February 2013 shows that borrowers bought newly built and existing homes in 2013 for 9% and 15% more respectively than in the previous year. Increases of this magnitude cannot be attributed to higher incomes, as these rose a mere 2% over the last year, just keeping up with inflation. It appears that home prices are being levitated by quantitative easing. ...

While a housing recovery of sorts has developed, it is by no means a normal one. The government continues to go to extraordinary lengths to prop up sales by guaranteeing nearly 90% of new mortgage debt, financing half of all home purchase mortgages to buyers with zero equity at closing, driving mortgage interest rates to the lowest level in 100 years, and turning the Fed into the world's largest buyer of new mortgage debt.

This is precisely the argument that David Stockman has been making of late, as I noted in a recent blog post: increases in asset prices do not reflect real growth in the economy (as reflected by, say, "higher incomes"), but are simply the result of the Fed flooding the market with money and artificially depressing interest rates.

Ed Pinto, a fellow of the American Enterprise Institute (AEI) and one time Chief Credit Officer of Fannie Mae, is the author of the famous memorandum Triggers of the Financial Crisis, in which he demonstrates "how federal policies were directly responsible for mandating a vast increase in homeowner leverage (low or no downpayments), setting extremely high leverage levels for Fannie and Freddie, and requiring flexible underwriting standards throughout virtually the entire mortgage finance industry." Peter Wallison, a member of the Financial Crisis Inquiry Commission, based much of his Dissent from the Majority Report of the Financial Crisis Inquiry Commission on Pinto's work. In my opinion, Wallison and Pinto provide the most persuasive explanation of how the financial crisis of 2008 came to be, namely, through government manipulation of housing policies. And now Pinto is warning that once again government policies, this time in the form of massive quantitative easing undertaken by the Federal Reserve, are inflating another housing bubble.

BOJ doing Bernanke's work for him

And now this today from Bill Gross:

Mr. Gross, manager of the world's biggest bond fund at Pacific Investment Management Co., said he turned positive on Treasury bonds maturing in 10-years or sooner because the BOJ's aggressive plan to buy Japanese government bonds will drive Japanese investors to seek higher returns in other markets overseas. He said this will lift prices of assets around the world, including U.S. Treasury bonds. The Bank of Japan announced its aggressive easing plan last Thursday. "This BOJ printing seeps out daily into global markets as Japanese institutions, which have sold their Japanese government bonds to the BOJ, look for higher-yielding replacements," Mr. Gross said in an email interview Tuesday afternoon with the Wall Street Journal. "Ten-year Treasurys to us look very low yielding, but to them, they yield 125 basis points more."

In other words, now we have not only the Fed, but also the BOJ working to keep US interest rates at artificial lows.

Krugman on David Stockman

Criticizing David Stockman's "screed," Paul Krugman writes in today's NYT:

Now, the fact is that these ranters have been wrong about everything, at every stage of the crisis, while the Keynesians have been mostly right. Remember how federal deficits were supposed to cause soaring interest rates? Never mind: After four years of such warnings, rates remain near historic lows — just as Keynesians predicted. Remember how running the printing presses was going to cause runaway inflation? Since the recession began, the Fed has more than tripled the size of its balance sheet, but inflation has averaged less than 2 percent.

Well, of course interest rates have remained low! That's because the Fed has been artificially depressing them by buying up the majority of Treasury issuance for a couple of years now.

And, since the market knows that the Fed will continue to buy Treasuries for as long as the economy sputters, the market buys more Treasuries, too, thereby depressing interest rates even more. What happened this morning is a great example of this latter dynamic. The unemployment report revealed that only 88,000 new jobs were created last month. This is a terrible number and it suggests that Mr Bernanke will not be willing to put an end to quantitative easing any time soon. As a result, the US 10 year is off 7 basis points, as hedge fund managers and other speculators pile into Treasuries. Who can blame them? As Stockman has pointed out in his book, their strategy is to borrow short term at near 0% interest rates and use those borrowings to buy the 10 year and shear off the approximately 1.75% yield. Since Bernanke has promised that he will not stop buying Treasuries and raise interest rates until the economy recovers, this strategy is guaranteed to be a money maker. In other words, as Stockman has argued, the Fed's policies have done nothing to stimulate the economy, but have created an environment in which the 1%, by investing in the Treasuries that Mr Bernanke is propping up, are making windfall profits.

So, the fact that interest rates have remained at near all-time lows is not, as Krugman claims, proof that the Keynesians are right. Rather, it is an indicator of how enormously the Keynesians have distorted the market, creating an enormous bubble in Treasuries that will eventually pop with catastrophic effects.

As for Mr Krugman's other point about inflation remaining under control, I can only laugh. The whole purpose of Mr Bernanke's policy is to create inflation. Just yesterday, BOJ chairman Kuroda described the purpose of his quantitative easing as follows: "We took all available steps we can think of. I'm confident that all necessary measures to achieve 2 percent inflation in two years were taken today." The Fed itself has announced that it won't end quantitative easing until inflation reaches 2.5%:

In particular, the Committee decided to keep the target range for the federal funds rate at 0 to 1/4 percent and currently anticipates that this exceptionally low range for the federal funds rate will be appropriate at least as long as the unemployment rate remains above 6-1/2 percent, inflation between one and two years ahead is projected to be no more than a half percentage point above the Committee’s 2 percent longer-run goal, and longer-term inflation expectations continue to be well anchored.

[4/17/2013: If you are not convinced that the purpose of QE is to increase inflation, consider this recent news story from Forbes: "St. Louis Fed President James Bullard spoke in New York on Wednesday, warning that inflation remains too low and suggesting he’d be ready to increase the rate of asset purchases, or QE, to defend their target “from below.”]

In other words, the Fed is trying its damnedest to goose the economy and create inflation, but, even after all Mr Bernanke's stimulus, the economy continues to sputter and inflation remains low, likely because all these monetary manipulations do not represent any real economic activity. How this represents the triumph of Keynesianism is beyond me.

Bernanke and BOJ: All consumption units report to your posts and inflate aggregate demand!

In last Sunday's NYT, David Stockman published an op-ed summarizing the basic theses of his new book, The Great Deformation: The Corruption of Capitalism in America:

The Dow Jones and Standard & Poor’s 500 indexes reached record highs on Thursday, having completely erased the losses since the stock market’s last peak, in 2007. But instead of cheering, we should be very afraid. ... Sooner or later — within a few years, I predict — this latest Wall Street bubble, inflated by an egregious flood of phony money from the Federal Reserve rather than real economic gains, will explode, too. Since the S.&P. 500 first reached its current level, in March 2000, the mad money printers at the Federal Reserve have expanded their balance sheet sixfold (to $3.2 trillion from $500 billion). Yet during that stretch, economic output has grown by an average of 1.7 percent a year (the slowest since the Civil War); ... With only brief interruptions, we’ve had eight decades of increasingly frenetic fiscal and monetary policy activism intended to counter the cyclical bumps and grinds of the free market and its purported tendency to underproduce jobs and economic output. The toll has been heavy. As the federal government and its central-bank sidekick, the Fed, have groped for one goal after another — smoothing out the business cycle, minimizing inflation and unemployment at the same time, rolling out a giant social insurance blanket, promoting homeownership, subsidizing medical care, propping up old industries (agriculture, automobiles) and fostering new ones (“clean” energy, biotechnology) and, above all, bailing out Wall Street — they have now succumbed to overload, overreach and outside capture by powerful interests. The modern Keynesian state is broke, paralyzed and mired in empty ritual incantations about stimulating “demand,” even as it fosters a mutant crony capitalism that periodically lavishes the top 1 percent with speculative windfalls.

As if on cue, we were informed today of massive new quantitative easing by the Bank of Japan:

"The Bank of Japan unleashed the world's most intense burst of monetary stimulus on Thursday, promising to inject about $1.4 trillion into the economy in less than two years, a radical gamble that sent the yen reeling and bond yields to record lows. New Governor Haruhiko Kuroda committed the BOJ to open-ended asset buying and said the monetary base would nearly double to 270 trillion yen ($2.9 trillion) by the end of 2014 in a shock therapy to end two decades of stagnation. ... Kuroda said the BOJ wanted to push down bond yields enough so that investors will start buying riskier assets, such as property and stocks, and to prompt households and companies to spend now rather than later on expectations of rising prices."

In sum, we now live in a world where the only economic fact that matters is central bank policy. There is no such thing anymore as an inherently good or bad investment. Good or bad investments are now defined as investments that are either aligned or not aligned with current central bank policy. Our central bankers operate on the premise that a single bureaucrat (the central bank governor) can know what is good or bad for the economy and can use this knowledge to press down or let up on the monetary accelerator, thereby stimulating or discouraging all of us "consumption units" (humans) to increase or decrease "aggregate demand." It is Keynesianism run amok. It is yet another example of Hayek's "synoptic delusion ..., the fiction that all relevant facts are known to some one mind, and that it is possible to construct from this knowledge of the particulars a desirable social [in this case, economic] order." We are asked to believe that control of our economies should be entrusted to a handful of individuals who could not even recognize the oncoming subprime disaster of 2008. All common sense seems to have been lost. Officials at the highest levels of government do not seem to be able to understand that flooding markets with money only distorts (in Stockman's words, "deforms") genuine economic activity. A kind of Keynesian Ate has infected their minds and clouded their thinking. They are like old King Oedipus, who thought he was the most intelligent man in Thebes and that he was the only person who could save the city (remember Alan Greenspan, Bob Rubin, and Larry Summers on the cover of Time magazine as "The Committee to Save the World?"), when in reality he was the very fons et origo of the plague that was destroying it.

The wild, and, in the end, futile machinations of our central bankers cannot end well. As Stockman writes:

The future is bleak. ... These policies have brought America [and presumably will bring Japan] to an end-stage metastasis. The way out would be so radical it can’t happen. ... It would require, finally, benching the Fed’s central planners, and restoring the central bank’s original mission: to provide liquidity in times of crisis but never to buy government debt or try to micromanage the economy. Getting the Fed out of the financial markets is the only way to put free markets and genuine wealth creation back into capitalism. That, of course, will never happen because there are trillions of dollars of assets, from Shanghai skyscrapers to Fortune 1000 stocks to the latest housing market “recovery,” artificially propped up by the Fed’s interest-rate repression. The United States is broke — fiscally, morally, intellectually — and the Fed has incited a global currency war (Japan just signed up, the Brazilians and Chinese are angry, and the German-dominated euro zone is crumbling) that will soon overwhelm it. When the latest bubble pops, there will be nothing to stop the collapse.

Additional note: This evening on CNBC Mohammed El-Erian, the Co-CIO of PIMCO, described the BOJ's action as follows:

It puts us deeper in unprecedented and highly experimental territory. … This is the most experimental that we've ever seen central banking. They are venturing deeper and deeper, using imperfect tools. And they are not getting the response they expect. … But rather than step back and ask why, they just go deeper and deeper. So the question is: Will they finally succeed in transitioning from assisted growth to real growth or will it end in tears? And I think that this is a major uncertainty that the market doesn't quite understand, how binary this outcome is. … The ECB will become even more like a fiscal agency, just like our Fed and the BOJ are becoming fiscal agencies.

By saying that the the Fed is becoming a fiscal agency, El-Erian means that the Fed is acting more and more like a central planner micromanaging the economy and less and less is fulfilling its original role of being the lender of last resort. This drift is a direct result of the impossible bipolar, dual mandate given to the Fed by the Humphrey Hawkins Act, which instructs the Fed not only to strive to ensure stable prices, but at the same time to promote full employment. Never were two more diametrically opposed goals given to a government agency. It was through the Humphrey Hawkins Act that liberal Keynesian Democrats (Hubert Humphrey, Augustus Hawkins, and Jimmy Carter) captured the Federal Reserve and redirected it towards fulfilling their social planning purposes. This is precisely the kind of deformation/perversion of public institutions that Stockman describes in his book.

Splunk, another overhyped software company

Splunk is yet another totally overhyped Silicon Valley software company.

In their S-1 document, they claim they make software that deals with "machine data." The phrase "machine data" is repeated over and over again in their S-1, like a kind of mantra.

SPLK subdivides data in their S-1 as follows:

The growth of digital information estimated by IDC may not be indicative of the growth in machine data, which is our primary market and only one of the three types of data included in the estimated growth figure by IDC.
• Business application data is the digital information used by organizations to conduct their daily operations, such as payroll, supply chain and financial data. Most business applications rely on traditional relational database technology and software that have pre-defined data structures, or schema for organizing, storing, accessing and reporting on structured data.
• Human-generated content is the digital information derived from human-to-human interactions, including email communications, spreadsheets and documents, and in recent years, mobile text messages, video, photos, recorded audio and social media messaging. Human-generated content typically comes in the form of unstructured data, which means that it is not optimized for storage in a relational database.
• Machine data is produced by nearly every software application and electronic device. The applications, servers, network devices, desktop and laptop computers, mobile devices and various other systems that organizations have deployed to support their operations are continuously generating information relating to their status and activities. Machine data can be found in a variety of formats such as application log files, call detail records, clickstream data associated with user web interactions, data files, system configuration files, alerts and tickets. It is generated by both machine-to-machine as well as human-to-machine interactions. Outside of an organization's traditional IT infrastructure, every processor-based system, including HVAC controllers, smart electrical meters, GPS devices and radio-frequency identification tags, and many consumer-oriented systems, such as mobile devices, automobiles and medical devices that contain embedded electronic devices, are also continuously generating machine data. Machine data can be structured or unstructured.


Elsewhere in its S-1, SPLK describes its focus as follows:

While our software may be used to collect and index all types of data, including business application data and human-generated content, our primary market opportunity is focused on enabling our users to harness the value of their machine data.

So, we are told that SPLK’s software is designed primarily to deal with machine data and that machine data is distinct from both human-generated data and business application data.

Now, a case can certainly be made that there is a difference between human-generated content and the other two types of data. It would be quite a feat, for example, if software could read this message and tell just from what I have written so far whether I think SPLK is a buy or a sell. But SPLK does not claim to focus on human-generated data.

This leaves us with the question of whether machine data is really all that different from business application data? In my opinion, it is not. And that is where SPLK’s business plan breaks down. In the modern world of computing, almost all data is machine data. When you press a button to purchase a book on Amazon, is it “business application data” that is generated or “machine data?” Obviously, some kind of record is generated, passed around through the ether, and eventually stored in some persistent store. But, is this essentially any different from what happened a couple of years ago?

The other thing you can say about machine data is that, since it was generated by machines, it is relatively easy for machines to deal with. That is, unlike human-generated content, machine data generally has a format that is easy for other machines to process and act on. A clickstream record has a particular, well-defined format. It may not be a relational row, but that doesn't mean it can't be broken down and stored in a relational database. In other words, what SPLK and the IDC say about machine data -- that it “can be structured or unstructured” -- is nonsense. If it were unstructured, it wouldn’t be machine data. As the S-1 says, “machine data can be found in a variety of formats.” This is quite different from saying that it is not formatted or structured at all.

So, what new functionality is SPLK actually bringing to the table? In my humble opinion, nothing much. In their S-1, they claim to have several patents. But my guess is that these patents are going to be, like so many software patents, largely unenforceable in practice. The lawyers will get rich fighting things out, but in the end other software companies will find a way to do what SPLK is doing (if they are not doing it already).

“Machine data" is the new buzzword. It's just like the other buzzword that we read about so often these days, “big data,” or older buzzwords like "web services" or "software as a service" (SAAS) or "cloud computing." These are brilliant marketing memes, but the actual value of the software behind them is quite a different question. Hasn’t the last decade taught us anything about how to value software companies? Didn’t the internet bubble teach us not to drink the Kool-Aid?

So, right now SPLK’s revenues are growing quite nicely. In my opinion, that is because they have managed to create a great marketing meme that has gone viral. But, eventually, other companies will catch on and replicate this meme and market their own, similar software products under it. When that happens, SPLK will fade fast. Right now SPLK’s p/e ratio is up in the hundreds. Bubble? You bet.

Bernanke's actions worse than Cypriot confiscation

Andrew Ross Sorkin, writing in NYT about why the scandalous confiscation of a portion of deposits in Cypriot banks should be viewed as "no big deal," mentions almost as an afterthought:

Would you have been better off leaving your money in a bank in the United States or in Cyprus over the last five years? The answer: You would have been better off in Cyprus, even after the bailout, when your money was “confiscated.” If you had 100,000 euros in a Cypriot bank account over the last five years, where the interest rate has averaged about 5 percent, you would have about 127,600 euros today. Even after the bailout, which would require you to give up 10 percent of your deposit — 12,760 euros — you would be left with 114,840 euros. The American bank? The $100,000 you deposited at Bank of America five years ago is about $105,100, at the going rate of about 1 percent interest a year.

Or, put another way, the actions of the Federal Reserve (buying up so much of the Treasury issuance, keeping interest rates at historical lows, enabling Mr Obama's obscene deficit spending), have been more deleterious for American depositors than if the American government simply had confiscated a portion of the deposits after they had earned a more normal rate.

Liberals spend big money to stop the spending of big money in politics

Andy Kroll writes in Mother Jones:

A month after President Barack Obama won reelection, top brass from three dozen of the most powerful groups in liberal politics met at the headquarters of the National Education Association (NEA), a few blocks north of the White House. ... At the end of the day, many of the attendees closed with a pledge of money and staff resources to build a national, coordinated campaign around three goals: getting big money out of politics, expanding the voting rolls while fighting voter ID laws, and rewriting Senate rules to curb the use of the filibuster to block legislation. The groups in attendance pledged a total of millions of dollars and dozens of organizers to form a united front on these issues. ... "It was so exciting," says Michael Brune, the Sierra Club's executive director. "We weren't just wringing our hands about the Koch brothers. We were saying, 'I'll put in this amount of dollars and this many organizers.'" ... The campaign, Brune says, has since been attracting other members—and also interest from foundations looking to give money. [emphasis added]

Are liberals really so stupid that they don't realize that "spending millions of dollars to get big money out of politics" is just another example of spending big money on politics. We are asked to believe that it is by definition bad when the Koch brothers spend big money to advance their conservative political views, but it is by definition good when the NEA, the SEIU, the Sierra Club, Greenpeace, Communication Workers of America (CWA), the AFl-CIO, and the NAACP (all of whom were attendees at the meeting) spend big money to try to silence the Koches and to advance their liberal agenda. OpenSecrets.org lists the NEA and SEIU as 4th and 5th on its list of "heavy hitter" political donors. Other liberal heavy hitters, according to OpenSecrets, include ActBlue, AFSCME, and the AFL-CIO.

Liberal hypocrisy at its worst.