US Treasury's $200 Bn Valentines Day Gift to the Markets

We wrote the following in our daily trading letter to clients this morning, and it's worth repeating here:

As we prepare for February, a historically underperforming month for equities, it's worthwhile to consider the liquidity situation. As ZeroHedge recently speculated (subsequently confirmed by Bloomberg), the Treasury will soon begin drawing down its $200 billion Supplementary Liquidity Program. The details will not be available until February 2, but it is estimated that beginning about mid-February, $25 billion per week in additional liquidity will be available as the 56 day cash management bills used to finance the program are not rolled over. Combined with the nearly $28 billion per week of QE Lite plus QE 2, a total of $53 billion per week will be flooding the markets in search of a home. Thus, it's difficult to conceive an intermediate correction developing and any weakness over the next few weeks would likely be an excellent buying opportunity.

We first wrote about Treasury's SFP back in September 2009, the last time it was announced it would be drawn down. We speculated (quite correctly as it turns out) that the additional "stimulus" would lower short term interest rates and would provide more potential market-ramping liquidity (QE 1 Treasury POMO having been nearly completed). At the time (and similar to now) the US was bumping up against its pesky debt ceiling, hence the timing. After Congress raised the debt ceiling, Treasury rebuilt the SFP account to $200 billion from March to April, 2010.

Inasmuch as the Fed's ability to pay interest on excess reserves (which it did not have at the inception of SFP in September 2008) largely makes the SFP irrelevant, we find it curious as to why it was ever refunded. As we wrote in 2009:

Treasury announced special auctions for cash management bills, the proceeds of which were placed on deposit with the Federal Reserve in a special account (as opposed to the proceeds being kept by Treasury to fund the government). This allowed the Federal Reserve to use these funds (which topped out at $558.9 Billion in November 2008) to borrow or buy securities primarily from banks and broker dealers to help “unfreeze the credit markets.” The Fed could have simply borrowed or bought securities with money it printed, but this would have expanded its balance sheet by creating excess reserves in the accounts that banks are required to keep with the Fed [and the funds may or may not have remained as excess reserves].

...

Congress granted the authority to the Fed to pay interest on excess reserves held by banks on deposit with it as of October 1, 2008. This new tool obviated the need for the SFP as the Fed could now simply incentivize banks to not lend against their excess reserves (by paying them interest to keep their reserves at the Fed). Accordingly, in November 2008, Treasury announced it would reduce the SFP, and it has held steadily at $200 Billion for most of 2009.

As yet another illustration of how dramatic liquidity swings by central planners affect risk markets, we find it no coincidence that after the QE 1 spigots were turned off and the $200 billion liquidity drain from the SFP was complete, the May 6 flash crash ensued, wiping out $1 trillion (intraday) in the US stock markets alone. Headlines of debt deflation pervaded the summer and would be used for justification of renewed money printing by the Fed (a/k/a QE 2).

Based on the following White House mid-session budget review published in July, 2010, it was already contemplated that the SFP would be drawn down by September, 2011 (the end of the US' fiscal year), never to be used again.

Which begs the question we echo from ZeroHedge: what liquidity draining method or event lies ahead to be used to justify continued money printing? For the time being, enjoy the ride as the mid-February to mid-April period could see as much as $425 billion ($212.5 billion per month!) in hot money hit the markets. JBTFD indeed.

Sweeps Week at the Morgue; Banking Hits New Carnival Highs[Lows?]

As RW at EPJ central recently wrote:

The U.S. government has so many regulations that it should come as no surprise that some work at cross purposes.

The government continues to increase the rules and regulations under which it can gain access to information about your financial transactions. The surveillance state is obviously growing. Yet, at the same time, other new regulations will drive customers away from using bank services, making those ex-customers much more difficult to track. These former customers are being called the "unbanked".

According to Jamie Dimon, federal limits on debit card processing fees will force banks to charge customers more for services, making accounts too expensive for as many.

Indeed, banks are getting more creative now that the government is setting transaction fees below market rates (though offset, if you're a primary dealer, by the Fed continuing to pay above market rates). Ever wonder why recently, every bank teller experience involves a sales pitch for a savings account (assuming you don't have one with that particular bank already)?

There are no required reserves on savings account deposits. They immediately can be lent out at 100 cents to the dollar. So it's no surprise that banks incentive their customers to put as much of their money as possible into savings accounts. And, with savings accounts yielding a whopping 1% annually, it's only natural that JP Morgan Chase would craft a pitch worthy of Billy Mays or Ed McMahon:

That's right kids: double your money, betting on future bailouts and other assorted moral hazard while we blow your money on leveraged silver shorts and non-creditworthy borrowers (don't worry, we'll sell the 95% LTV loan to Fannie). The free lunch promise parade marches on to the drum beat of fractional reserve banking fraud. Ironic that savings--the bane of Keynesians everywhere--is now one of the large banks' few remaining cash cows.

Fed Ups the QE Ante: $112 Billion Over Next 30 Days; How Much Will Go to the PIIGS?

From the NY Fed:

Across all operations in the schedule listed below, the Desk plans to purchase approximately $112 billion. This represents $80 billion in purchases of the announced $600 billion purchase program and $32 billion in purchases associated with principal payments from agency debt and agency MBS expected to be received between mid-January and mid-February.

The $7 billion increase from the prior period is composed of $5 billion as part of QE2 ($80 billion, up from $75 billion for the previous period) and an extra $2 billion as part of so-called QE-Lite ($32 up from $30 billion). We checked, and the MBS portion of the Fed's balance sheet is accelerating its drawdown, reaching an all-time high 4 week rolling drawdown of -$30.5 billion, from December 8, 2010 to January 5, 2010. Curious, as this is in the face of rising mortgage rates, where we would expect refinancing and the resulting prepayments to dwindle. There could be a lagging effect, or we could be witnessing Fannie and Freddie accelerating the modification and payoff of delinquent mortgages (in February, 2010, Freddie instituted a policy of automatic paydown of loans delinquent 120 days).

The extra $2 billion for QE Lite might be justified as business as usual from the perspective of the NY Fed, but why the extra $5 billion? RW at EPJ Central recently raised the question, "Is the Federal Reserve Propping Up Europe, Again?" As of last Thursday's figures, the Fed's liquidity swaps with other central banks went largely unused. Not surprising after the grilling Bernanke got in front of Alan Grayson (see below). However, as the Fed's expanding primary dealer list now includes banks housed in every major money printing hot spot, from Switzerland to Japan, the Fed can shovel money anywhere under the radar through it's "normal" money printing operations.

Oh, and as we pointed out last month, the actual amount of money printing is materially more than the pre-announced POMO schedule suggests, because prices paid are materially higher than the par amount reported. Now that the NY Fed publishes prices paid, we know that instead of $105 billion printed in the last 30 days, it was $110.4 billion, brining the grand total of "extra" money printed surreptitiously since November to $16.8 billion. Every billion counts!

Amateur Hour at the Fed: Fed Buys Billions on Advice of Algo Supervised by NYU Student

File this under "Paging Ron Paul's Subpoena Committee" (applications being taken now).

ZeroHedge comments and links to a NYT article offering a rare glimpse of the wizards operating the Federal Reserve Bank of New York's massive and ongoing large scale asset purchases, and it's every bit as instructive as Toto's little curtain-pulling stunt: (emphasis and brackets ours)

But inside the Operations Room, on the ninth floor of the New York Fed’s fortresslike headquarters, there is no time for second-guessing. Here the second round of what is known as quantitative easing — QE2, as it is called on Wall Street — is being put into practice almost daily by the central bank’s powerful New York arm.

...

Each morning Mr. Frost and his team face a formidable task: they must try to buy Treasuries at the best possible price from the savviest bond traders in the business.

The smallest miscalculation, a few one-hundredths of a percentage point here or there, could unsettle the markets and cost taxpayers dearly. It could also embolden critics at home and abroad who say QE2 represents a dangerous expansion of the Fed’s role in the markets.

“We are looking to get the best price we can for the taxpayer,” said Mr. Frost, a buttoned-down 34-year-old in a striped suit and rimless glasses.

...

Louis V. Crandall, the chief economist at the research firm Wrightson ICAP, said Wall Street bond traders were driving hard bargains. The Fed has tipped its hand by laying out which Treasuries it intends to buy and when, giving the bond houses an edge.

“A buyer of $100 billion a month is always going to be paying top prices,” Mr. Crandall said of the Fed. “You can’t be a known buyer of $100 billion a month and get a good price.”

Nevertheless, Mr. Frost and his team have been praised on Wall Street for creating a simple, transparent program. Neither the Fed nor Wall Street want any surprises. The central bank is even disclosing the prices at which it buys [though, as ZeroHedge points out, not the prevailing bid/offers].

Mr. Frost and his team work out of a small, beige corner office with arched windows that used to be a library. There, at about 10:15 most workday mornings, one of them pushes a button on a computer. Across Wall Street, three musical notes — an F, an E and a D — sound on trading terminals, alerting traders that the Fed is in the market.

On one recent Tuesday morning, what Mr. Frost and his five young colleagues did over a 45-minute period might have unsettled even a seasoned Wall Street hand: they bought $7.8 billion of Treasuries.

Mr. Frost and his team drew up the daily schedule for what the Fed calls its Large-Scale Asset Purchase program. And that program is, by any measure, large scale: through next June, these traders will buy roughly $75 billion of Treasuries a month — on top of another $30 billion it is reinvesting in Treasuries from its mortgage-related holdings.

But depending on daily market conditions, Mr. Frost can decide not to buy certain bonds if they are already in short supply.

As offers to sell Treasuries flash on a bank of trading screens, a computer algorithm works out which ones to accept. The computer compares the offers from Wall Street against market prices and the Fed’s own calculation of what constitutes a “fair value” price. [Got that? There are three prices: Wall Street offers, market prices and some Fed black box algo's interpretation of "fair value" which, according to the sentence structure, is distinct from market prices!]

The real work is done by three traders who are referred to during the operation as trader one, trader two and trader three. They sit at a long table against the wall, tapping at seven screens.

On one recent morning, trader one was [current NYU student] Tiffany Wilding, 26. While she reviewed[this is the "real work"?] the stream of offers and then the prices finallyaccepted by the algorithm, trader two, Blake Gwinn, 29, double-checked her decisions [these "decisions" were only the review of the algo's decisions] and trader three, James White, 29, made a duplicate of everything in case the computers crashed [basically, a stenographer].

All the while, Mr. Frost stood behind his colleagues, ready to intervene — and even cancel the Fed’s purchases — at any sign of trouble.

With humans serving as mere spot checkers for the Fed's trading robot, one wonders what trouble might be detected outside of the odd coffee spill on the keyboard. Certainly, we would not expect any alarm bells to sound regarding skewed bid/ask spreads or the like--what with the Fed's own fair value engine cranking out non-market-based prices. Not even the mark-to-myth hallucinations of BlackRock (remember Maiden Lane?) are needed for this endeavor.

For the record, we would like to know just who programmed the Fed's Treasury purchasing algo, their historical affiliations, along with details of [any] competitive bidding procedure used to source the contract for the programming work. If the job were sole sourced or sourced to an industry insider affiliated with any primary dealer, we would like to know on what basis the FRBNY's office of General Counsel approved this.

For that matter, we'd like to know why BlackRock management of Maiden Lane I was sole sourced without a "clear reason", as is implied by the below email to FRBNY [then] Senior VP, Sarah Dahlgren, which we excerpt from the below document presented to Congress, with emphasis and brackets ours:

To Sarah Dahlgren/NY/FRS@FRS

Re: Sole Source

Spent some time with him [Tom Baxter, Jr., FRBNY GC] tonight. (He doesn't understand ML3, and I can't begin explain it either -- so don't needle him! -- and I am going to have [Paul] Whynott [FRBNY VP] spend some time with him tomorrow, BTW, you might touch base with Joyce [Hansen, FRBNY Deputy GC] about her reaction to Sunday's briefing; I think she had some concerns about how ML3 was presented to Geithner, which she expressed to Paul.) He knew that Stephanie [Heller?, FRBNY Asst. GC] was handling the Blackrock contract -- he didn't express any concerns -- and I explained that, in contrast to MLI, we had a clear reason to sole source it this time (that they had already modeled, etc.). So, although I have no worries, yes, probably worth reviewing it with him [Geithner] before taking it to Tom."

For that matter, we'd still like to know why the Fed's web page says, "Outright [MBS] purchases were conducted via competitive bidding to ensure that trades were executed at market rates" when a paper written in part by the manager of the FRBNY's purchase operations, Brian Sack, says, "Because the MBS purchases were arranged with primary dealer counterparties directly, there was no auction mechanism to provide a measure of market supply", as we pointed out in detail here.

Lots of unanswered questions...

Frbny Towns r1 209848 A

Further signs the Fed cannot extricate itself from QE (even though it's not conducting QE)

A theme running through our posts since the termination of so-called QE1 in late 2009 has been the Fed's institutionalization of its large scale asset purchases. That is, far from any suggestion that this period in history will be viewed as an aberration of FOMC policy, it is in fact preparing the infrastructure for the permanent (at least as far as its own existence goes) deployment of Bernanke's wiley money printing schemes. Significant confirmation was made by SOMA Manager, Brian Sack's speech regarding balance sheet targeting in early October. And, today, the NY Fed announced it would employ Fannie and Freddie to aggregate the nearly 44,000 individual MBS securities it holds into groups, with the effect of whittling the list down to 10,000, ostensibly to improve back office management:

Next week, the Federal Reserve Bank of New York Open Market Trading Desk will begin a process to streamline the administration of the agency mortgage-backed securities (MBS) held in the System Open Market Account (SOMA) portfolio by consolidating some of these securities through a service offered by Fannie Mae and Freddie Mac called CUSIP aggregation. Through this process, aggregated CUSIPs are formed by consolidating existing agency MBS with similar characteristics into larger pass-through securities. This process is commonly used by investors, although the scale of coupon aggregation in this case will be large by market standards. No inference should be drawn from CUSIP aggregation about the timing or nature of any future monetary policy actions.

The aggregation process will significantly reduce the number of individual agency MBS CUSIPs held by the Federal Reserve, thereby reducing the administrative costs and operational challenges associated with managing the MBS portfolio. The Federal Reserve currently holds more than 44,000 individual agency MBS CUSIPs in the System Open Market Account. The aggregation process will reduce the number of CUSIPs to less than 10,000. Because all of the payments on the underlying agency MBS flow through to the aggregated CUSIPs, the aggregation process will not otherwise affect the size or characteristics of the SOMA portfolio.

The New York Fed publishes detailed data on all settled SOMA agency MBS holdings on its public website on a weekly basis. As CUSIP aggregation takes place, this weekly publication will include a listing of the individual agency MBS CUSIPs underlying each aggregated CUSIP. In addition, Fannie Mae and Freddie Mac provide information about aggregated CUSIPs, including the underlying agency MBS, on their public websites. Thus, the public will continue to have access to listings of all the MBS CUSIPs that are included in this aggregation effort. For more details on the aggregation strategy, please refer to the frequently asked questions page.

The more detailed FAQ may be found here, and while this will generate some nominal fees for the twin GSE's, we are told not to infer anything regarding future policy. But, how can we not? As ZeroHedge has noted, Bill Gross is once again stuffing his PIMCO funds with MBS securities. And, as mortgage rates are set to surge above 6% in the coming months, given Ben's historically itchy trigger finger, it become a matter of when, and not if, he will restart MBS purchases in line with the long-forgotten third Fed mandate of "moderate long-term interest rates".

Breakfast with Jamie [Dimon]

Want to front-run the Fed? If you're Obama's favorite banker, Jamie Dimon, president of JP Morgan Chase, there's no need to parse FOMC statements or obscure speeches by Fed governors. No need to analyze hundreds of Treasury securities to make an educated guess as to just which ones Brian Sack (of the NY Fed) will buy any given week. Even hiring expert networks staffed with ex-Fed officials is unnecessary.

No, if you're Jamie Dimon, you go straight to the top and break bread with William Dudley, ex-Goldmanite president of the NY Fed. It just so happened that Dimon dined thrice with Dudley over the January 2009 to September 2010 period (plus one conference call), according to a document released by the NY Fed today. And perhaps only coincidentally, these encounters all occurred surrounding major changes in announced Fed policy.

The first meeting took place on February 18, 2009, only weeks after Mr. Dudley's ascension to the bank's presidency on January 27, 2009.

06:30 PM - 08:00 PM HOLD for dinner with Jamie Dimon Location: TBD in midtown

Exactly one month later, on March 18, 2009, the Federal Open Market Committee, under Chairman Bernanke's aegis, announced:

To provide greater support to mortgage lending and housing markets, the Committee decided today to increase the size of the Federal Reserve’s balance sheet further by purchasing up to an additional $750 billion of agency mortgage-backed securities, bringing its total purchases of these securities to up to $1.25 trillion this year, and to increase its purchases of agency debt this year by up to $100 billion to a total of up to $200 billion. Moreover, to help improve conditions in private credit markets, the Committee decided to purchase up to $300 billion of longer-term Treasury securities over the next six months.

This was the first round of quantitative easing (so-called QE1), which would eventually become a $1.75 billion trillion bank largess program. Wouldn't it have been helpful to speak with the NY Fed's top official (who, incidentally, was previously in charge of the Fed's buying and selling)? Or even get in on the decision making?

The second meeting was on April 22, 2009, just shy of one month after the commencement of large scale Treasury purchases. As it's purpose [putatively] was only to see how the front runnin's been going, it was merely a telephone call:

09:00 AM - 09:15 AM Conference Call with Bill Dudley and Jamie Dimon, JPMorgan Chase Location : Bill Dudley's Office

The third official meeting was once again more intimate and took place on January 25, 2010, two days before the FOMC would announce the exact date when the MBS and Agency purchases would terminate:

07:30 AM - 08:30 AM Breakfast with Jamie Dimon, JPMorgan Chase Location : 270 Park Avenue 49th Floor Dining Room (Stop off at Reception Area, then proceed to 49th Floor)

That January 27, 2010 FOMC announcement also signaled the termination of most of the lending programs the Fed had initiated in the wake of the Lehman collapse:

In light of improved functioning of financial markets, the Federal Reserve will be closing the Asset-Backed Commercial Paper Money Market Mutual Fund Liquidity Facility, the Commercial Paper Funding Facility, the Primary Dealer Credit Facility, and the Term Securities Lending Facility on February 1, as previously announced. In addition, the temporary liquidity swap arrangements between the Federal Reserve and other central banks will expire on February 1. The Federal Reserve is in the process of winding down its Term Auction Facility: $50 billion in 28-day credit will be offered on February 8 and $25 billion in 28-day credit will be offered at the final auction on March 8. The anticipated expiration dates for the Term Asset-Backed Securities Loan Facility remain set at June 30 for loans backed by new-issue commercial mortgage-backed securities and March 31 for loans backed by all other types of collateral. The Federal Reserve is prepared to modify these plans if necessary to support financial stability and economic growth.

Thanks for the heads up Dudley! [Who, buy the way, is a permanent voting member of the FOMC by virtue of being president of the NY Fed.]

The next meeting between the two would be on July 14, 2010:

08:00 AM - 09:00 AM Breakfast with Jamie Dimon, JPMC Location : PCR, 10th floor

This was nearly four full weeks ahead of the pivotal August 10, 2010 FOMC meeting, wherein the resumption of Treasury purchases was announced (so-called QE Lite):

To help support the economic recovery in a context of price stability, the Committee will keep constant the Federal Reserve's holdings of securities at their current level by reinvesting principal payments from agency debt and agency mortgage-backed securities in longer-term Treasury securities.1 The Committee will continue to roll over the Federal Reserve's holdings of Treasury securities as they mature.

The calendar curiously stops in September, 2010, but we'd be willing to bet crumpets to crustaceans there was an intimate dinner (or breakfast) date between the two cozy bank presidents in early October. This would be about a month's lead time ahead of the FOMC statement on November 3 that announced the gritty details of the Fed's much anticipated, full-blown resumption of its large scale Treasury purchase program (affectionately known to all as QE2, except by Bernanke himself).

Paging Ron Paul's subpoena committee.

Incoming Repub. Sets Sites on Regulators: Keep Your Hands Off My Margin

As CFTC Commissioner Bart Chilton chomps at the bit to get new position limits in place as of...well, yesterday, and Chairman Gary Gensler suggests mid-January 2011 might be too ambitious (but he'll try real hard), incoming chair of the "powerful US Congressional House Financial Services Committee", Spencer Bachus is happy to play obstructionist. And none too soon, as we had finally begun to hear the ominous sucking sound warned of by the Texas entrepreneur cum 1990's presidential candidate. And not with respect to jobs, but of an entire segment of the trading universe, as derivatives traders (including futures traders) are more prone to being agnostic as to their trading instruments and venues. GFS News reports:

In a letter seen by GFS News, Spencer Bachus warns Treasury Secretary Tim Geithner, Securities and Exchange Commission chairman Mary Schapiro, Commodity Futures Trading Commission chairman Gary Gensler and Federal Reserve chairman Ben Bernanke that implementing the Dodd-Frank Act "hastily or without due care" risks badly damaging the US economy.

The Republican from Alabama urges policy makers to reject attempts to force end-users to post margin requirements, to carefully consider swap dealer and security-based swap participant definitions and to ensure that foreign exchange swaps and forwards are exempt from clearing and exchange trading requirements.

"As our economy slowly recovers, we have serious concerns that Dodd-Frank will force American companies, which did not cause nor contribute to the financial crisis, to move billions of dollars in capital onto the sidelines to comply with the law," Bachus wrote in the letter, which is dated last week.

Whether this is mere base-pandering theater that will be dropped over chasers at La Lomita remains to be seen. But, Bachus may have bought a few months for what remains of Mr. Market.

Fed Monetized $11.4 Billion More Than Targeted Last Month; Will Monetize an Extra $97 Billion for Entire QE2 Program

As part of its new scared-shitless-of-Ron-Paul transparency initiative, not only will the first webcast of a Fed meeting take place on December 16, but today, in accordance with a pledge made concurrent with the last FOMC meeting, we get the first look of actual prices paid by the Fed for QE2 Treasury coupons.

Whereas previously, we were only privy to Fed disclosures of holdings on a par value basis, courtesy of ZeroHedge and some number crunching by John Lohman, we know that the Fed is now underwater $2.425 Billion on last month's purchases alone. In addition, because market prices for most issues purchased are materially above par (some by as much as 52%), we learn that the Fed actually monetized $116.4 billion in the last 30 days instead of $105 billion, as was announced on November 10.

Extrapolating this across the entire planned $900 billion in par purchases from QE2 and QE Lite, we can expect actual purchases to be just $3 billion shy of a cool $1 trillion. Good thing Bernanke's not printing any money.

Fed Data Dump Reveals More Contradictions About its $1.25 Trillion MBS Purchase Program

Following up on the new Fed document dump, being covered by RW at EPJ Central, our latest find is an aparent deception by the Fed about its MBS purchases. To wit, the Fed's new MBS page states as follows (brackets ours):

Outright [MBS] purchases were conducted via competitive bidding to ensure that trades were executed at market rates.

Here's what a paper says entitled "Large-Scale Asset Purchases by the Federal Reserve / Did They Work?", written in part by NY Fed SOMA Manager, Brian Sack (emphasis ours):

Because the MBS purchases were arranged with primary dealer counterparties directly, there was no auction mechanism to provide a measure of market supply. Instead, the pace of purchases of each class of MBS was adjusted in response to measures of whether that class appeared relatively cheap or expensive. To avoid buying at excessively high prices and to support market functioning, purchases were increased when market liquidity was good and were reduced when liquidity was poor.

Now I recognize the Fed has the tiniest bit of weasel room here because the terminology is slightly different and, in fact, the Fed is in the business of weasel phrasing, but it seems at the very least disingenuous to now claim that MBS securities were purchased via "competitive bidding" when no "auction mechanism" was used and they were arranged "directly" with the primary dealers.

According to the Brian Sack paper, it was market liquidity itself based on class-wide evaluation that was used to avoid paying excessively high prices (i.e., attempting to execute at market rates), and not any sort of competitive bid procedure (even if it were not an outright auction). Also, note that "high prices" devoid of the "excessively" qualifier might be deemed okay by the NY Fed.

So just what was the nature of this "competitive bidding" process that the NY Fed now says was followed? Perhaps there was merely a fuzzy price discovery process followed by a conference call and subjective award of the transaction at a mutually agreed upon price. Hardly sounds competitive, though.

Here's another thought: the new Fed statement is in the context of outright Fed purchases, so that those "bidding" would actually be the various investment managers acting on behalf of the NY Fed (e.g., Pimco, BlackRock, Wellington & Goldman). The primary dealers (also including Goldman) would be "offering". Thus, it may be that the Fed is imputing it paid market prices based on its own hired managers competing for the MBS assets of the PDs (did we point out that Goldman was on both sides?). That this would result in market prices being paid is facially absurd.

Either way, there are some questions to be answered next time Bernanke gets in front of Ron Paul.

CFTC Attack on Gold/Crude Prices to be Delayed Until Dec 16; Possibly Jan 2011

Engineering the command and control structure for the $600 trillion global derivatives is proving no easy feat, even for ex-Goldmanite Gary Gensler, Chairman of the Commodity Futures Trading Commission (CFTC). For background, see our previous posts here and here, which explain how the CFTC will attempt to keep Bernanke's mad money printing out of hard assets. The last post alerted the postponement from December 1 to the 7th or 16th. It looks like now it will be December 16th at the earliest, and possibly January 2011. Any later than January 17th, and the CFTC will be in violation of Frank-Dodd. Reuters explains below and, curiously, adopts a shifting stance on just when, exactly, the new position limits will be announced (emphasis ours):

WASHINGTON (Reuters) - The U.S. futures regulator intends to unveil on December 16 its long-awaited revised plan to limit speculative positions held by commodity traders, a source with direct knowledge of the matter said on Monday.

The Commodity Futures Trading Commission is grappling with how to set and police the controversial limits. Furthermore, due to its complexity there could be further delays, said another source closely monitoring the issue.

It would be unsurprising if the proposal was postponed until the new year -- one of several items that may be delayed as the CFTC races to meet deadlines set under the Dodd-Frank financial reform law, the industry source said.

The position-limit rule was supposed to be one of the first items tackled by the CFTC after the Wall Street reform act passed in July.

However, the matter will now be left to the agency's last scheduled rule-making hearing for the year, reflecting the difficulty the CFTC has had in writing a draft regulation.

The CFTC is pushing to release by the end of the year the first draft of 50 to 60 rules required to implement the Wall Street reforms -- a self-imposed timeline designed to ensure it meets July deadlines to finalize the regulations.

But Chairman Gary Gensler has said the agency could fall behind while other commissioners have complained the agency was moving too fast in its deliberations.

POSITION LIMITS "COMPLICATED"

The law required the CFTC to finalize speculative position limits for commodities futures and swaps by mid-January.

"The agency needs to get on with it and put forth a position limit proposal ASAP," CFTC Commissioner Bart Chilton told Reuters.

"We are required by law to move on implementation in January. Getting public comments prior to that time is critical as we finalize a thoughtful final rule," he said.

The CFTC is almost certain to miss the January deadline, however, because the agency will not have data on the size of swaps markets until it puts some of its other new rules for over-the-counter derivatives in place.

Full story here.

While Bernanke Prints, CFTC Will Impose Capital Controls

As we wrote earlier in the month, the CFTC will soon announce its new schedule of speculative position limits for commodities, which could have profound short and intermediate term price implications, especially if some of the large "commodity ETFs", such as USO, are forced to liquidate or simply not roll over maturing futures contracts. Among other unintended (or intended) consequences, the public energy utility business model could be forced to radically change, and main street could be faced with higher margin requirements. As we've written, these near term reforms are just the tip of the iceberg, with more substantial changes coming in 2011 as a substantial portion of the $600 trillion global derivatives market comes under the purview of ex-Goldman MD Gary Gensler and his CFTC.

As to the exact timing of the announcement, we were able to find only one source, Platts, the "leading global provider of energy and metals information" (emphasis and brackets ours):

Commissioners with the CFTC had originally planned to consider a new rule on position limits at their December 1 meeting, but that rule likely will not be considered until either the December 9 or December 16 meeting, CFTC Chairman Gary Gensler said Friday [November 19, 2010].

The relevant provisions in Frank-Dodd require the new position limits to go into effect no later than 180 days from the bill's July 21, 2010 signing, which would be January 17, 2011. Mark your calendars and watch your stops in energies and precious metals, as these are the two major target sectors.

The big lobbying effort in favor of the "strongest possible speculative position limits" is the Commodity Markets Oversight Coalition (CMOC), which appears to be an affiliate of the New England Fuel Institute's Legislative & Regulatory Action Center. Indeed, the letter sent by the CMOC to the CFTC cited in the Reuter's article we quoted in our November 4 post was submitted by Jim Collura, Vice President of NEFI Action Center. The letter begins:

Formed in 2007, the Commodity Markets Oversight Coalition (the "CMOC") represents an array of interests, including commodity producers, processors, distributors, retailers, commercial and industrial end-users, and average American consumers. CMOC was established to promote government policy and regulation in the commodity trading markets - including the energy and agricultural markets - that preserve the interests of bona fide hedgers and consumers and the health of the broader economy. We seek stable and reliable commodity markets that perform a price discovery function reflective of tangible economic fundamentals, and that are free of manipulation, fraud, and excess volatility and speculation.

The last decade has shown that inadequate transparency, oversight and accountability in the derivatives markets contribute to excessive volatility and speculation. This leads to price uncertainty, unexpected and unwarranted price spikes, and diminished end-user confidence in these markets. Representatives of

CMOC member groups have testified before the U.S. Congress and the Commission on these issues.2

The commodities futures and derivatives markets were established as price discovery and risk management tools for bona-fide hedgers of physical market exposures. While speculators play a vital role in keeping markets functional and liquid, excessive speculation causes markets to become unhinged from economic fundamentals. In 2007-2008, opaque derivatives trading and excessive speculation contributed to the largest commodities bubble in U.S. history.3 The damage to the U.S. and global economies caused by this bubble and its bursting highlighted the need for significant reform and lead the Congress and the President to enactment the derivatives reforms in Title VII of the Dodd-Frank Act.4

No mention of Federal Reserve money printing as a possible cause. Presumably, Chairman Gensler will have the wisdom to know precisely how much speculation is warranted in a given market.

Aside from nominal lip service paid to "free markets" and "price discovery", the letter reads as a veritable anti-market wish list, including calls for new prohibitions on "insider trading" (you didn't think the SEC would get all the fun), for new authority provided to the CFTC that would allow it to unilaterally identify and liquidate "swaps that are 'abusive' by virtue of being potentially detrimental to either the stability of the market or its participants", and for the CFTC to "scrutinize" computerized trading programs (not limited to high frequency trading, but all computerized trading). There is also a call to define "Major Swap Participant" in such a way that would impose CFTC registration requirements on any large ETF or ETN, even ones with no connection to commodities.

While the tone and content of this trade association's letter is anti-Wall Street, it's important to look beyond the folksy rhetoric of helping the little guy and realize that all of this is a vain attempt to block new hot money from rolling off the Fed's printing press into hard assets, and into paper assets instead. This can "work" for a time, but it's like putting a band aid on a geyser.

In addition, we cannot know the behind the scenes wrangling taking place, where thousands of new bureaucratic pen strokes will make and break businesses. For example, NextEra Energy Power Marketing, LLC, an affiliate of the Florida Power and Light utility, sent its own comment letter to the CFTC, in which it raised concerns about specific unintended consequences of Frank-Dodd (emphasis ours):

We are specifically concerned that an overly broad drafting of the rule regarding the aggregation of position limits pursuant to the requirements to establish rules under Section 737 could have unintended consequences resulting in violations of certain federal and state laws applicable to energy companies. For example, certain regulatory requirements imposed by the Federal Energy Regulatory Commission (FERC) that apply to traditionally regulated public utilities and its affiliated energy marketers would render the aggregation of positions these types of affiliates in violation of certain FERC regulations.

Specifically, interactions between a traditional, franchised public utility possessing captive customers and its "market-regulated power sales affiliates" (i.e., affiliated energy marketers) that are authorized to transact wholesale sales of electric energy at market-based rates pursuant to Section 205 of the Federal Power Ct (FPA) are subject to the Affiliate Restrictions Regulations imposed by FERC.1 In relevant part, the Affiliate Restrictions Regulations require the functional separation and independent operation of such entities, and are intended to prevent potential affiliate abuse, including cross-subsidization issues, that could benefit shareholders to the detriment of captive ratepayers.2 The violation of such regulations can result in an affiliated energy marketer's loss of its market-based rate authority.

...

The failure to comply with FERC's Affiliate Restrictions Regulations, even an inadvertent failure, could expose NextEra and FPL to civil penalties of up to $1 million per violation per day and could result in the suspension or revocation of their respective authorizations to engage in wholesale sales of electric energy at market-based rates under FPA Section 205.4.

While we're no fan of state granted monopolies, such as public utilities, this is simply to illustrate that the full scope of the new sweeping reforms cannot be known, nor the total cost. What is known is that the new regulatory burdens will be substantial, and national productivity will suffer immensely as millions of man hours and dollars are spent on pointless restructuring, lobbying and compliance. Meanwhile, Chairman Bernanke and Chairman Gensler think they've figured out how to beat Mr. Market. Talk about the ultimate Fatal Conceit.

Alert: Fed to Partially Sterilize Next Monday's QE2 Purchases

As we noted on November 10, there will be an unprecedented two Treasury permanent open market operations (POMO) by the NY Federal Reserve on Monday, November 29, 2010. One will be conducted in the morning for $1.5 to $2.5 billion with another in the afternoon for $6 to $8 billion.

A new twist has developed, however, as only minutes ago, the Fed announced $5 billion in 28 day term deposits (Fed Bills) will be auctioned the very same day. This will have the effect of sterilizing 2/3 to 1/2 of Monday's money printing.

Does this signal a shift in Fed policy? Perhaps a token gesture to China and others that have criticized and characterized Bernanke's moves as blatant inflationary debt monetization? Not necessarily, as the last such TDF auction was conducted on October 4, with the same maturity and offering amount. We will, however, monitor these auctions with a keen eye going forward.

Madoff Auction (Nov 26) Foreshadows State Ponzi Auctions

Nearly two years after his December 11, 2008 arrest, the much anticipated Bernie Madoff auction will take place in Coconut Grove, Florida:

"Bernie Madoff personal property purchased at Madoff auctions together with merchandise bought directly from victims of the ponzi scheme, General Order merchandise which constitutes the mayority [sic] and [sic] seized assets obtained from various government auctions."

To be auctioned are paintings by Salvador Dali, Henri Matisse, Pablo Picasso, Marc Chagall, H.C. Pissarro, Peter Max, Itzak Tarkay and Joan Miro. Other classes of items include jewelry, rugs, bronzes "and more".

This is what a Ponzi master (and a few of his victims) were able to accumulate in just a few short decades. One wonders what the flyer will look like when the history's largest and longest running Ponzi implodes. Yellow Stone National Park, anyone?

For information, call (800) 431-7948.

China Says No Thanks to QE2: Is Yuan Revaluation Next?

If you've been mulling that new flat screen television purchase, prices probably won't get much lower. The Fed is now shoveling (net) $75 billion per month in new money into the economy, which in itself is fodder for higher prices. Even more troubling for the Fed is that China is taking steps to block the influx of this funny money into its economy.

Last week, China raised reserve requirement ratios, and there was speculation that they might raise interest rates over the weekend. Risk markets reacted favorably after this did not materialize. However, Bloomberg reports that a November 4 statement was only today posted on a Chinese government website indicating they will crack down on foreign investment in the Chinese housing market. Note that November 4 was the day after the Fed's QE2 announcement, so this is likely a direct reaction to the Fed's profligacy, and we can expect more capital controls.

Given the Chinese currency is pegged to the US Dollar, the ultimate retaliation would be a Yuan revaluation. If this materializes, it will likely be gradual, but risk markets would take a short term hit on the announcement.

From Bloomberg:

China ordered first-time foreign homebuyers to show proof they don’t own other properties in the country as it steps up measures to curb gains in the real estate market, the housing ministry and currency regulator said.

Foreigners will have to provide home ownership statements before their purchases, along with proof of at least a year’s employment in China, the State Administration of Foreign exchange and the Ministry of Housing and Urban-Rural Development said. Overseas companies are only allowed to buy offices in cities where they are registered, it said.

China’s central bank raised bank reserve requirements last week to tame inflation and restrain foreign capital after the U.S. Federal Reserve’s quantitative easing monetary policy. China also has tightened rules on down payments, suspended mortgages for third homes, and last month raised interest rates for the first time in three years.

“This is certainly bad news for the property sector,” said Jinsong Du, a Hong Kong-based analyst at Credit Suisse Group AG. “The government may also impose rules to curb speculative money that may flow into the property sector.”

The Nov. 4 statement, released on the two government websites today, didn’t say when the order will be effective.

Earlier measures to ease gains in the real estate market couldn’t contain the increase in home prices, Premier Wen Jiabao said in Macau yesterday, according to comments broadcast by the Hong Kong-based Cable Television.

...

Policy makers may introduce more measures in the fourth quarter amid signs of a price recovery, according to Nomura Securities Co. The likely policies include a property tax and the enforcement of the so-called land added-value levy in the “overheated cities,” the brokerage said in a Nov. 4 report.

Fed to Print Money Nearly Every Trading Day Next Month

Following up on its statement concurrent with that of the FOMC on November 3, 2010, the Federal Reserve Bank of New York (FRBNY) has today released its Tentative Outright Treasury Operation Schedule for the following month. The total amount of purchases from its selected primary dealers over the November 12 to December 9, 2010 period will be $105 billion, composed of $75 billion from the new quantitative easing directive (QE2) and $30 billion from so-called QE Lite, which has been ongoing since August 17, 2010.

Though the amounts are within expectations, notable is that the purchases will be conducted nearly every trading day over the one month period except the Wednesday, Thursday and Friday of the US Thanksgiving Holiday week. Upon the following Monday, November 29, 2010, there will be an unprecedented two operations, one in the morning and one in the afternoon.

The purchase schedule is unusual because previously, the FRBNY conducted them only one to three days per week. Purchase schedules for following months will be announced around the eighth business day of each month, continuing until at least the tentative termination date of the program in June, 2011.

Total Treasury debt purchases are estimated by FRBNY to be between $850 and $900 billion, which will account for a $600 billion net increase in the Federal Reserve's balance sheet over the next eight months. However, there is debate over whether the program will be extended. The manager who directs the FRBNY's purchase operations, Brian Sack, gave a speech on October 4, 2010, which outlined the process by which the Federal Reserve would institutionalize its large scale asset purchases to become a permanent monetary management tool. The altered purchase schedule and promise of release of actual purchase prices, also unprecedented, confirms as much.