Tuesday, March 11, 2014

China Ponzi. The Grasshopper and the Ants.

This was reported on Zerohedge today, a quote from Bank of America research:

"The Chongqing developer ran into financial problems in mid-2013. CITIC Trust tried to auction the collateral but failed to do so because the developer has sold the collateral and also mortgaged it to a few other lenders."
As much as it seems like it can, this cannot go on forever. Rational self interest will make it so. Owners of these dodgy securities will sell them when bailouts are slow to come or wanting, which they will be because the amounts in question are far too large for bailouts. The market clearing price will be revealed to be much lower. See this as an example of the process that has started:
“It seems that rising default risk has started to erode Chinese investors’ confidence,” said Wei Yao, from Societe Generale. “Together with continued regulatory tightening on banks’ off-balance-sheet activity, we are certain this slowing credit trend has further to go and will inflict real pain on the economy.”
Hesitancy about bailouts will make people nervous. They will want to and try to sell this stuff. They will find no bid. Then, shockingly slowly, people will do the math on how widespread the problem could be. Remember Galbraith:
"At any given time there exists an inventory of undiscovered embezzlement in – or more precisely not in – the country’s business and banks. This inventory – it should be called the bezzle. It also varies in size with the business cycle"
If property is being sold and mortgaged several times, the bezzle must be pretty big. The lack of alarm about this is also pretty telling. What kind of financial, accounting, and legal controls are there in China? I think we already know the answer to that.

One of the last dominoes to fall is copper, which has fallen below its low during the mini Chinese credit crisis last summer.

Some investors react to the developing China bust as the Grasshopper, and some as the Ant.

"You'll change that tune when winter comes and the ground is covered with snow."
"Oh, wintertime's a long way off. You dance? Let's go."

The industrious ants are the one gathering Treasury bonds and bringing them inside.


Stagflationary Mark said...

The industrious ants are the one gathering Treasury bonds and bringing them inside.

I offer supporting ant evidence that may help dispel the notion that long-term interest rates are currently low.

Illusion of Prosperity: Interest Rates Are Too High

The chart in this post shows the quarterly average of the natural log of the 10 year treasury yield. I'm using a natural log so that constant exponential decay can be seen as a straight line.


You will note that the trend lines are not straight. They are decaying parabolically. That means that interest rates are actually decaying faster than just exponentially. And why might that be? It is my opinion that our increasingly indebted and leveraged economy requires interest rates to fall at an accelerating pace lest we fall into a recession again.

You probably won't hear this on CNBC until it is blatantly obvious to all, but as seen in the chart, interest rates are too high again. If they don't come down very soon, something's going to break again in a most deflationary way. That's my opinion and I'm sticking to it.

John said...

CP and others going long the 10 year, keep your eye on the charts and potential exits. The Japan experience occurred during an era of falling interest rates world wide and high confidence in debt repayment, in part because of central bank backstops.

What we have not seen yet is orchestrated, fear driven selling as credit quality comes becomes a concern.

It is ultimately fear of massive defaults that will drive interest rates up (shrinking supply of good bonds). That is something that we have not yet experienced, and it is certain to occur at some point.

The broad point here is that even the cleanest dirty shirt cannot afford the future interest expense arising out of the exponential rise in the volume of debt as that expense rises more than the savings from the decline in rates, thus leading to sovereign defaults.

Fun for the whole investing family!!

Stagflationary Mark said...


For what it is worth, I intend to hold all my ultra long-term TIPS and I-Bonds to maturity. I have been a buyer since 2000. The bonds may even need to be pried from my cold dead fingers.

The Growing Deposit Glut

Just look at all that money. That's putting enormous downside pressure on short-term interest rates. Earning next to nothing won't pay my long-term bills. In general, waiting patiently for long-term rates to rise has been a losing bet for 30+ years and will continue to be. That's especially true if inflation falls to 0% as it has in Japan.

Am I taking a risk? Sure. Nothing is safe. If I go down I'll be taking many with me though. As a bond holder, I'm one of the people propping nearly every other investor up. And that includes those with money "safely" deposited in banks.

In sharp contrast, stock market investors certainly aren't propping me up. If they go down, they won't be taking me with them.

Stagflationary Mark said...

Although MZM has been rising exponentially for many decades, the total real interest (adjusted for inflation) it is earning is at record lows and falling (using data going back to 1974).

Real Total Interest Paid on MZM (Billions, January 2014 Dollars)

I expect to be stuck in ZIRP far longer than most, and even if we do escape, I expect the next recession to push us right back in.

This is not investment advice. I could be wrong of course.

CP said...

I have a hard time seeing Treasuries being threatened until there's a better "risk free" store of value to take their place. Or, as a substitute, if the S&P was down to say 390 then the flight to safety bid from people leaving equities would be non existent, and there'd be only a risk of rates going up at that point.

CP said...

"The chart in this post shows the quarterly average of the natural log of the 10 year treasury yield. I'm using a natural log so that constant exponential decay can be seen as a straight line."


CP said...

"Japanese investors must be looking at our economic arrogance like we haven't got a clue since our real estate bubble popped. ZIRP? Stimulus? Calling these 10 year yields low? Predicting even higher interest rates? Thinking things have been fixed when they haven't? Been there? Done that?"

whydibuy said...

Ahh, 390 on the S&P ????

Get help, really. This apocalyptic fear you have is really unhealthy. A number like that proves you are disassociated from reality.

Stagflationary Mark said...

A number like that proves you are disassociated from reality.

Your reaction to an extreme "what if" of 390 only shows how complacent you are in your belief that it is 100% impossible and utterly inconceivable that the S&P 500 could simply fall to an inflation adjusted low given the right set of economic conditions.

S&P 500 Index Adjusted for Inflation

I mean really, it hit 666 just a few years ago and many complacent investors (such as yourself?) thought that would have been impossible in 2007.

Anonymous said...

Why'd I buy has been an active internet commenter for a decade... you can go back and see how bullish he was in 2006.

Stagflationary Mark said...


Thanks for the tip. I can save myself the effort of providing a "such as yourself?" disclaimer in the future.

This talk about bubbles is getting quite tiresome. Housing will NOT crash and blow away like an internet stock. - 8/29/2005 4:56 PM

That was one year after I became a permabear for the first time in my life after seeing so many 0% mortgage teaser rate offers show up in my mailbox. Although my house was paid off, I was utterly captivated and horrified by reading the fine print. One of my largest stock holdings was Citigroup. Although I had held it for years and it treated me well, I sold all my stocks in 2004 convinced that it would not end well. I then put a third of my investment net worth into physical gold and silver until others started to realize what I had.

Stagflationary Mark said...

As a side note, I have no desire to own gold and silver now. I don't believe they are safe havens any longer.

Real Gold Price (Adjusted by PPI: All Commodities

No asset is good at any price. Stocks? Housing? Gold? Stocks again?

For what it is worth, about the only thing nearly universally hated right now are Savings Bonds. And yet, I can't ever seem to get enough based on the future I see.

Anonymous said...

Mark, you missed the best part of that Why'd I Buy? comment!

"I and nearly everybody I know also has a house paid for free and clear or has a modest mortgage. Exactly where are all these bubble people?"

Selection bias much?

Anonymous said...

Lol, response to why'd I buy:

"People are building a house of cards in So Cal among other hot cities. How can you be so obtuse and not see it? I'm actually very tired of people like you that can't see the writing on the wall."

CP said...

Yes, I was thinking last night that you have to hoard stuff that no one else is hoarding. Nobody was hoarding gold a decade ago... unfortunately now they are.

Now, nobody's hoarding savings bonds or cash, I guess. And maybe paper towels. I think everything else is being hoarded pretty thoroughly though.

Stagflationary Mark said...


Selection bias much?

I was able to become very bearish on housing even though I didn't have a mortgage (house was paid off) and none of my friends were living above their means.

I was also able to become very bearish on dotcom stocks even though I didn't own dotcom stocks and neither did my friends.

I guess I just sort of assumed that the universe did not revolve around my friends and me, lol.

Stagflationary Mark said...


And maybe paper towels.

We paper towel speculators are a crafty lot. We can legally avoid paying any capital gains tax on our inflationary gains. Rather than reselling to greater fools (as many other types of speculators hope to do), we instead send our "profits" directly to the landfills, lol.

I joke and yet I am also serious. :)

Stagflationary Mark said...

The Gold Bubble

Should these unsustainable trends continue and the producer price index for industrial commodities were to eventually go up by a factor of 10, then gold would go up 10,000 times and cost roughly $13,700,000 per ounce (or $1 million or so per ounce in inflation adjusted dollars perhaps). Good luck on finding many people on the planet able to buy a single gold ring if/when that were to happen.

CP said...

Mark, that's a great post. That chart and your charts of aluminum/gold, bananas/gold, paper towels/gold, copper/gold, hourly wages/gold really demonstrate to me that gold is a bubble and has gotten far ahead of any "inflation".

CP said...

"Gold cannot be both a safe store of value *and* a speculative investment that grows this much faster than industrial commodities in general. One of the two theories is in error."

CP said...



CP said...

"P.S. I love your anti-gold posts because they challenge my position which is good for me whether I turn out to be right or wrong."


Stagflationary Mark said...


Gold to Salt Price Ratio

Which is really the safer store of value? I would claim that salt wins by a HUGE margin. It has tracked the CPI much better than gold over the last 100 years. Gold is all over the place. Fortunes were made and lost as speculators rushed in and rushed out. That's not my idea of safe. Further, gold was extremely expensive compared to salt in 2008. It's only gotten worse.

I know what you might be thinking. Yeah, but what if salt explodes higher in price due to all of this monetary printing press activity? Wouldn't the ratio look much better then?

1. Then buy salt! It is currently very cheap relative to gold.
2. Don't hold your breath.

Investors don't want safe stores of value. They want to make money, just like people entering a horse track want to make money. And if the do make money, then they think it must continue. Rare is the gambling addict who can actually leave a casino with profits in hand.

CP said...

Gold is mentioned 14 times in the Gospels:

Salt is mentioned 4 times:

Stagflationary Mark said...


I'd ask how many times aluminum was mentioned, but since it hadn't even been discovered until the 1800s it would only be a pointed rhetorical question, lol.

How about potash? ;)

UPDATE 2-K+S sees 2014 profit hit by lower potash prices

* Average potash prices seen lower in 2014

While the group's potash output volumes are seen flat at just below 7 million tonnes, average prices over the course of the year should continue to drop, the group said.

Volumes at the salt business, which accounted for 18 percent of operating profit last year, would also be flat in 2014 with lower prices seen in some markets, it added.

Gold bugs think we'll return to a gold standard. Countries would go to war over the stuff in the ancient past.

I say we're on a plutonium standard now. Countries with atomic weapons choose not to fight over gold any longer. Go figure.

If and when we do go to war (World War III), then who is going to care about gold? Was Mad Max looking for hidden stockpiles of gold? No. He wanted canned goods.

CP said...

Mentioned 1/3 as much as gold is a lot.

I also like your concept about "safe store of value." That's what I want too.

Gold doesn't seem safe at all. Besides the obvious price volatility, in reading mining companies' investor presentations I see tons of assurances that they can churn out gold profitably even if the price gets cut in half.

That doesn't sound like a recipe for stability to me.

Stagflationary Mark said...


Besides the obvious price volatility, in reading mining companies' investor presentations I see tons of assurances that they can churn out gold profitably even if the price gets cut in half.

When I bought gold in 2004 I had to make a decision. Gold was in the $400s. Newmont Mining (NEM) was in the $40s.

Barrons had this really long article about how great Newmont Mining was positioned. It was just filled with optimism.

I decided that I preferred safety. I bought physical gold instead.

Newmont Mining now trades in the $20s. No joke.

Safety for the win!

There is an old quote that I have to thank for my decision.

"A mine is a hole in the ground with a liar standing over it."

Since I worked at a company that had massive accounting fraud shortly before my departure (left like a rat would leave a sinking ship), that quote pushed me over the edge.

My financial situation would be quite a bit different right now if not for that. Funny how the seemingly little things can make such a big difference. (One third of my nest egg went into physical gold and silver.)

CP said...


CP said...

That led to a theory that you should do whatever makes Seeking Alpha commenters most irate.

Right now, I'd guess that would be owning zero coupon bonds.

CP said...


Stagflationary Mark said...


That led to a theory that you should do whatever makes Seeking Alpha commenters most irate.


I try to just write what I think, but part of me doesn't like to stir the pot too much on my own blog.

Since I have an Illusion of Prosperity blog, I don't think most want to see me trash talk precious metals. I can understand that. Doesn't change my opinion that no asset is good at any price though.

Gold and Economic Freedom - Alan Greenspan (1966)

In the absence of the gold standard, there is no way to protect savings from confiscation through inflation. There is no safe store of value.

1. There is no gold standard.
2. There is no safe store of value.

Therefore, gold is not a safe store of value.

The financial policy of the welfare state requires that there be no way for the owners of wealth to protect themselves.

Gold fans love that article though. Go figure.

CP said...

Good stuff:


CP said...

The only safe god is Gold Toe socks, right Mark?

Stagflationary Mark said...



They Just Aren't Making Any More... Phasers

Hahaha! :)

CP said...

Well, over this weekend China gave up on the idea of having a stock market:

* funds and institutions aren't allowed (or are strongly discouraged) to sell
* no margin calls
* halt trading in your shares indefinitely

I guess it was fun for them for a while, but a real market where the powerful have to trade at and accept a real market price is of no interest to them.

And what does that tell us about how much trouble they must be in?