“This process has been what central banks have been seeking: Squeeze out any return from risk-free assets, and force investors into riskier ones. The lowering of risk premiums on equities and nongovernment bonds has boosted asset prices. Viewed alternatively, the rise in asset prices spurred by monetary authorities has pulled future returns forward…

…The collapse of volatility also has had side effects, not altogether salutary. Quiescent markets have encouraged an increase in leverage, even as margin debt has been trimmed recently. The Financial Times notes greater use of borrowed money to goose returns in this low-rate environment, notably through repurchase agreements. Those were a favored source of funds before the 2008 crisis, but dried up when repo lenders pulled back during the crisis.”, Randall W. Forsyth, “Ballmer’s $2 Billion Air Ball”, May 31, 2014, Barron’s

“Both before and after the financial crisis, the Fed’s well-intended easy monetary policies (driven by its ill-conceived dual mandate) have not only intentionally raised asset prices like stocks, bonds, real estate, and the Los Angeles Clippers much higher than they would otherwise be (to stimulate the economy and employment), but by smoothing out economic cycles (and creating low volatility) they encourage borrowers to borrow more and lenders to lend more (and continue to ease credit standards)……yet, normal economic cycles are important to experience, as they (the upswing and then downturn) allow manageable losses to be realized and borrowers and lenders to become more conservative…essentially the normal credit cycle. The Fed is not allowing these natural economic and credit cycles to take place, and as a result, when they do come, they are huge downturns like 2008. (Analogous to the Forest Service not allowing natural fires to take place and burn the dangerous underbrush….so that when a fire does take place, it is massive and uncontrollable.)”,  Mike Perry, former Chairman and CEO, IndyMac Bank

 

UP AND DOWN WALL STREET

Ballmer’s $2 Billion Air Ball

With returns on less risky assets minuscule, why not pay $2 billion for a second-rate basketball team? A big week for Europe’s central bankers.

By RANDALL W. FORSYTH

May 31, 2014 1:06 a.m. ET

White men can’t jump, but a couple of billion bucks can vault them into the big leagues.

By bidding an astonishing $2 billion for the Los Angeles Clippers, former Microsoft (ticker: MSFT) Chief Executive Steve Ballmer is about to join the exclusive, but widening, circle of technology moguls who have bought into major sports franchises. That sum was twice what the NBA team was expected to fetch just a few weeks ago, after the league banned Donald Sterling, the Clippers’ owner, for his racist comments.

The $2 billion bid from Ballmer also topped the highest price tag for an NBA team, the $550 million paid recently for the Milwaukee Bucks, admittedly in a far smaller market than Los Angeles. Indeed, the bid for the Clippers is only eclipsed in North America by the $2.1 billion paid two years ago for the L.A. Dodgers, perennially strong contenders in the National League West and with a rich television deal. The Clippers have never have made it to the NBA finals, let alone won a championship.

So, why would Ballmer pony up a couple of billion for the Clippers? Besides being described as a basketball fanatic (he was part of a group that attempted to buy the Sacramento Kings to move the team to Seattle), the purchase would put him in the company of other tech titans whose new hobby is to snatch up sports franchises.

According to a compilation at Quartz, a dozen technology moguls own major sports teams, led by Microsoft co-founder Paul Allen, with the NFL Super Bowl champion Seattle Seahawks and the NBA’s Portland Trailblazers. Best known probably is Mark Cuban, the self-effacing owner of the Dallas Mavericks.

But it really wasn’t much of a stretch for Ballmer to bid $2 billion. Forbes puts his worth at $21 billion; $13.6 billion comes from his 330 million shares of Microsoft stock, which eclipses the total held by Bill Gates, making Ballmer the largest noninstitutional owner of the stock.

And, in a move worthy of the late Charles Bluhdorn, Balmer’s Microsoft stake is up from $11.6 billion on Aug. 23, 2013, when he announced his resignation as CEO, according toBarron’s research chief, Pauline Yuelys. Over that span, the shares have climbed 17.4%, to $40.94 from $34.75. (Bluhdorn, CEO of Gulf + Western Industries, the hyperacquisitive conglomerate of the 1970s, became part of Wall Street’s lore when news of his sudden death sent Gulf + Western shares soaring.)

In any case, Ballmer is buying the Clippers with house money — the $2 billion gain in his Microsoft holdings since he announced he would step down. In effect, Mr. Market is footing the bill for Steve to hang with the cool guys.

The rising tide of the stock market certainly has lifted the moguls’ yachts. The Standard & Poor’s 500, the benchmark of large-capitalization stocks, and the Wilshire 5000, the broadest measure of the U.S. equity market, set records last week. The Dow Jones Industrial Average closed at a record 16,717.17, and the economically sensitive Dow Transports continue to set records.

Meanwhile, the Nasdaq 100 — which tracks the biggest nonfinancial stocks on the Naz and is the basis for the popular PowerShares QQQ exchange-traded fund (QQQ) — on Friday hit its highest level since September 2000.

But what’s been most stunning has been the continued, headlong decline in bond yields, not just in the U.S., but in virtually every market. Not only did the benchmark 10-year Treasury yield slice through the psychologically significant 2.5% mark, but yields on European bonds renewed their descent. That extended from the core of the European Union, as well as the peripheral markets of Italy and Spain — despite the success of anti-EU populist candidates in recent elections. Indeed, those bond markets’ five-year notes trade at virtually the same yield as Uncle Sam’s.

This “Japanification” of interest rates has caught most investors unprepared, writes Michael Hartnett, chief investment strategist at Bank of America Merrill Lynch. They’ve also been wrong-footed by the collapse in volatility and the inflation of asset prices across various classes, from stocks to bonds to commodities, all up about 4% this year.

That could portend a summer of “irrational exuberance,” powered by high liquidity, he continues. Hedge funds have been fighting the tape, with net-short positions in the S&P 500, and the highest shorts in the small-company Russell 2000 in two years, while Nasdaq longs are at a one-year low, according to BofA Merrill Lynch’s surveys. Cash levels among fund managers are high; volatility is dead, with the VIX (the CBOE’s volatility index on S&P 500 options) at its lowest since February 2007 (the eve of the credit crisis); and central banks around the globe remain expansionary, amid high unemployment and low income growth. All of which could add up to a “meltup,” Hartnett concludes.

This process has been what central banks have been seeking: Squeeze out any return from risk-free assets, and force investors into riskier ones. The lowering of risk premiums on equities and nongovernment bonds has boosted asset prices. Viewed alternatively, the rise in asset prices spurred by monetary authorities has pulled future returns forward.

The collapse of volatility also has had side effects, not altogether salutary. Quiescent markets have encouraged an increase in leverage, even as margin debt has been trimmed recently. The Financial Times notes greater use of borrowed money to goose returns in this low-rate environment, notably through repurchase agreements. Those were a favored source of funds before the 2008 crisis, but dried up when repo lenders pulled back during the crisis.

The lack of volatility also has been accompanied by a shrinkage of trading volumes, from listed equities to the much larger, but less visible, over-the-counter markets for currencies and credit instruments. The lack of trading volume has spurred banks to pull back, withCitigroup (C) and JPMorgan Chase (JPM) warning of revenue shortfalls, and Royal Bank of Scotland (RBS) pulling back from mortgage-backed securities in the U.S.

Given the punk prospective long-term returns from markets that have been bid up in price — maybe 4% over the long-term from the traditional 60% stocks/40% bonds institutional portfolio — and the paucity of near-term potential, necessitating extreme leverage to generate profits, why not spend $2 billion on a second-rate pro basketball franchise?

Better to buy the Clippers than to clip bond coupons.

CENTRAL BANKS, ALREADY THE driver of global market action, will be even more in focus this week.

Key will be Thursday’s meeting of the European Central Bank, where it’s widely assumed further stimulus will be announced after ECB President Mario Draghi’s broad hints of such in May. A further trimming of the bank’s key policy rate is anticipated, along with a possible negative interest rate on funds that banks park at the ECB. The aim is to spur them to put that money to better use.

Quantitative easing — the outright purchase of assets, as the Federal Reserve has done — is an outside possibility. With short-term interest rates around zero, a more fruitful means to stimulate growth might be to engineer a lower euro, which has eased to around $1.36 from shy of $1.40 at its recent peak. Summer in Tuscany or on Santorini, anybody?

Yields on 10-year government bonds in Germany at 1.35% and in France at 1.76% have exerted a gravitational pull on U.S. Treasuries, whose yields look absolutely lush in comparison. And the prospect of a weaker euro would make dollar assets more attractive, especially for Asian investors.

Friday brings the monthly U.S. employment report, and the details are likely to count more than the headline numbers. Consensus guesses are for a 200,000 rise in nonfarm payrolls, in line with trend rates, while the jobless rate could remain at 6.3%. Signs of growth in actual pay envelopes, which depend on average hourly earnings and hours worked, will be scrutinized as well. The latest Thomson Reuters/University of Michigan consumer-confidence survey found the main concern “involved dismal prospects for wage growth.”

The better measure of the labor market, according to Goldman Sachs economists, is the so-called U6 underemployment rate. That gauge also takes in those folks who have to settle for part-time jobs when they really need full-time gigs (and paychecks). Moreover, the Goldman team also contends that the long-term unemployed are no different than the newly unemployed, contrary to the contentions of other economists, who think the former basically don’t count. Bottom line: Even though the headline jobless rate is down to just over 6%, there’s still significant slack in the labor market.

Another source of concern is the strength of corporate profits, which might come as a surprise, given the O.K. first-quarter earnings-per-share numbers from U.S. companies (certain retailers excepted). But, writes David P. Goldman, head of Americas at Reorient Financial in Hong Kong, there was a big disconnect between the numbers from the S&P 500 companies and the government’s revised gross-domestic-product data released last week.

Until the first quarter, GDP and S&P 500 profit numbers tracked each other closely. But now the S&P data show a 6% year-over-year gain, while the GDP profit series (after taxes, inventory adjustments, and capital-consumer adjustments) shows a 7% decline from the level a year earlier — the second-worst showing, after the 2008 plunge, in 20 years, he notes. Revenue for the S&P 500 fell marginally, while employment was cut. Flat top-line results aren’t likely to spur companies to hire.

E-mail: randall.forsyth@barrons.com

 

Posted on June 2, 2014, in Postings. Bookmark the permalink. Leave a comment.

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