China? Oil Prices? Saudi Arabia? Iran? Why Volatility? The Grand Surprise Part Two


CBOE Volatility Index 1/1/2016-1/12/2016

We were saving these ideas for the last chapter of the book. Sadly, things are going so fast; the convergence of factors, other than the obvious, pushing us towards the vortex of a storm touching on the ideas behind our next to last chapter, the last chapter being a description of the ills brought on by the coming worldwide economic cataclysm


On September 28th, 2015, we wrote of the driving factor behind increased market volatility, “excessive debt, prime and subprime with no liquidity, a reminder of 2007-2008.” It is clear that new, small, and medium sized businesses can not finance or refinance in such an environment. A recovery propelled by business growth is impossible in the current debt environment. In 2006 63.4% of the U.S. population over 16 years of age was employed. Entering 2016, 59.5% of the population is employed. In constant dollars from 2006 to the present average hourly wages have remained at approximately $20.50 while real (inflation adjusted) mean household income of the middle quadrille has hovered at about $54,000 per annum. Poverty statistics as a ratio of the population from 2006 to 2016 have increased from about 16.8% to more than 19.5%. It is difficult to envision a consumer led exit from the U.S. economic malaise given these statistics. Finance is in the throws of a second “Big Short” for those of you who have seen the movie. Derivatives outstanding within American financial institutions have a face value of more than the world’s total financial assets. Don’t assume that these positions are being managed or regulated by folks smarter and more careful then those in control in 2007. They are not! The cracks are beginning to show and spread whilst the underlying banking assets, severely impaired previously, have yet to be marked to market. Financial institutions are not likely to lead the charge towards a growing economy.  In fact, it is more likely we will see a repeat of “The Big Short” in the near future. Government – Helpless – After years of monetary manipulation which accomplished little or nothing the Fed continues to bumble along! There has been little fiscal stimulation and none on the horizon. Helpless!

It is unlikely America will lead the world out of the present morass. With Donald Trump heralded as a hero by the uneducated masses we have only ourselves to thank for the inept economic management of our country. Intelligent leadership seems a dream of the past.


What can China do? Nothing. China is in free-fall. Communist dictatorships are not and were never known for forward thinking in economically trying times.  China arrests its businessmen, politicians et al (perhaps warranted), closes and manipulates markets, destroys its currency, overextends its credit markets in the hope of masking its economic catastrophe. It will not lead the world out of recession


Emerging nations? Totally dependent on selling natural recourses to China et al. No help there.


Europe? Perhaps the greatest catastrophe on the cusp of discovery. We know that Sovereign debt and bank finance are interdependent. We have seen evidence of that everywhere and evidence of the results when the interdependence breaks down such as in Cyprus and Greece. Neither Cyprus nor Greece is healed with Greece heading for another meaningful debacle. What goes unsaid, for now, is the tightrope the rest of Europe walks. The Southern nations – Italy, Spain and Portugal are on the line of no return with Portugal probably having crossed it. Northern Europe is not far behind with France closest on the heels of the four other significant impending failures. The seriousness of further European defaults to the world economy cannot be overemphasized. With one currency as one nation goes down the rest follow. Diverse currencies allow escapes not available to a large currency block such as the Euro. Compounding the problems of Europe are the long standing banking mores which obfuscate the depth of European banks’ illiquidity and careless lending policies, sometimes bordering on corruption.  As regulations and, more so transparency, are enforced on the European banking community it will become apparent that all is not right in the States of Euroland. Prior to the “European Crisis” in, some say 2010 or 2011, practices in play in most banking institutions included reciprocity in lending (you wash my hand I wash yours, we protect each other’s back) – not possible after 2011, careless analysis and regulation as to quality of lending, lassitude as to tracking use of funds (lots of Euros wandered off to the pockets of favored parties), little or no tracking and follow up as to “friend’s loans”, no marks to market or, at least, delayed and inadequate marks against delinquent loans, the creation of vehicles to house gone bad loans which would reduce or eliminate the requirements for mark downs of the bank’s equity, outright conflict of interest and fraudulent transactions. The list is long and goes on but, suffice it to say, the European banking system is awash with mortal problems which are just beginning to surface and are unlikely to be concealed as effectively as in the U.S. – There are too many conflicting political interests within Euroland to preserve the silence of the pack ( the countries and banks themselves.) In the next to last chapter of the book which, I’m afraid, will come out subsequent to the impending crisis we will delineate in detail the methodology by which the many European banks function. It is a lively topic.

In conclusion, 2007-2008 is likely to be repeated in the foreseeable future. This time there are no engines of restoration on the horizon. The catalyst will not be the usual blah blah we read in the financial press. It will be the collapse of the financial structure of Europe, both Sovereign and private. World liquidity, which is strained today, will find its home at “zero”. The recovery will be long and painful.

Asher Edelman

January 12th, 2016


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