Foxnews Off Scripts: Anti-Corporate General Motors


Transcript

00:00
[Music]
00:04
so yesterday we talked about GM cutting
00:11
15,000 jobs in the wake of a seven-year
00:19
stock buyback frenzy this job cutting is
00:23
supposedly going to save them 6 billion
00:26
dollars a year
00:27
supposedly they over the past 7 years
00:30
have bought back of 14 billion dollars
00:33
worth of stock they have just been on
00:36
the receiving end of hundreds of
00:38
millions of dollars of tax breaks
00:40
annually and they of course also
00:45
continue to have incredibly massive CEO
00:50
salaries all this just seven eight years
00:56
shortly after the US government bailed
01:00
them out saved all of the executive jobs
01:04
as well as other jobs and Fox News is
01:11
starting to get a little bit worried
01:14
here’s Brian Kilmeade with Peter Morey
01:17
ichi am i saying his name right and he
01:21
is he is starting to worry for
01:23
capitalism because it’s it’s showing a
01:27
little too much flesh i think it’s
01:29
probably the way to put this got a huge
01:32
corporate tax cut didn’t they and wasn’t
01:34
the thought was that the american
01:36
industry would start bringing industry
01:39
home because our corporate tax rate was
01:41
now competitive absolutely there’s no
01:44
reason why we shouldn’t be selling cars
01:46
in China that are made here now the
01:48
president has to open up the Chinese
01:50
market and you know I guess that’s the
01:52
next stage but abandoning the American
01:54
worker
01:55
she says that Americans aren’t buying
01:57
sedans do you see Toyota getting out of
01:59
the sedan business they make money on
02:01
sedans they know how to make sedans well
02:03
the problem of MS Berra is she has a
02:06
company that doesn’t make competitive
02:08
sedan wait where’s the part doesn’t he
02:12
go on to say
02:13
um oh here it is okay sorry I got
02:18
confused and so there is Fox News saying
02:23
you know maligning the company but
02:25
here’s the real issue this is on Charles
02:28
Payne and shannon bream here he is
02:32
Fox News is getting a little bit
02:35
concerned here let’s we have this is
02:37
clip number four he’s broke when you
02:41
were sitting here yesterday and all we
02:42
really had was the headline I think as
02:44
the day went on the news sunk in and
02:46
this news is it’s not good for these
02:49
it’s not good last quarter the company
02:53
did thirty five billion dollars in three
02:54
months 77% came from North American
02:57
customers eighty seven percent of
02:59
operating income came from North
03:01
American business so yeah you can build
03:03
out factories all over the world but the
03:05
Americans are keeping you in business
03:07
and you kick them to the curb at the
03:09
first sign it’s really the president’s
03:11
not happy he’s shooting back at Mary but
03:15
but the president told us that the tax
03:17
cuts were gonna make this all magically
03:19
be no problem the GM wasn’t going to
03:22
outsource their thing because of the the
03:25
the taxes are coming home it’s gonna be
03:27
magically no problem I guess it’s just
03:29
going we could do in the opposite I
03:32
meant the opposite
03:35
Mary Barra who by the way happened to be
03:37
at the White House is straight for a
03:39
pre-scheduled meeting with Larry Kudlow
03:41
we don’t really know it was discussed
03:42
there but the president’s fired back
03:44
saying that they should make a better
03:46
car that that he was very tough on GM’s
03:50
borrow over these plant closure
03:52
happening no he shouldn’t be happy of
03:54
course I don’t think any American
03:56
president would be happy about this and
03:58
again it’s not like they’re in dire
03:59
straits now they’re trying to get ahead
04:01
of things they want a big fat cash flow
04:03
but this is why I think capitalism in of
04:05
itself is in a lot of trouble in this
04:07
country because you know these companies
04:09
keep posting record earnings and to keep
04:12
firing people they keep posting record
04:14
earnings and they keep buying back
04:15
billions of dollars of their own stock
04:16
the American public is going to get hip
04:19
to this and my fear is that they’re
04:21
going to end up electing not a
04:23
democratic socialist just a straight-up
04:25
socialist because of the
04:27
kind of shenanigans that’s coming a long
04:29
time number two from your mouth to God’s
04:35
ears money you know how would have
04:37
talked about waterways right exactly
04:39
right on her segments chuckles did wrong
04:42
walk away I would love to see Dave Rubin
04:44
Dave Rubin a react to this clip oh well
04:49
I mean well I enjoy competitions a big
04:51
deal sometimes the government there’s
04:54
competition and competition would start
04:56
kicking in competition I think what he’s
04:57
really saying is that when government
04:59
interferes that paves road to socialism
05:01
no I think like when when Dave Rubin is
05:03
like struck with something like that
05:04
first of all he would be lately over not
05:08
do that analysis no but he would say
05:12
like look everybody has they can do what
05:15
they want this is what a free country is
05:16
about and then he would just ask the
05:20
moving onto topic to I will say this I
05:24
think you know based upon the other day
05:27
I was listening last night I think it
05:29
was maybe I don’t know I was listening
05:30
to Mark Levin who is now taken to
05:34
calling Bernie Sanders a communist
05:36
because and I think that that’s true
05:39
that that notion there like we’re not
05:41
gonna vote for a Democratic Socialist
05:43
we’re gonna vote for a socialist
05:45
socialist I think and and good for that
05:50
dude for just having the wherewithal to
05:52
realize like hey there’s a problem here
05:53
and I think like you’d have to be really
05:55
really oblivious not to notice it that
06:00
they’re gonna have to start they’re
06:02
gonna have to come up with another word
06:06
to demonize the and I don’t think
06:11
communist is gonna work either frankly
06:13
because they’ve been trying like sjw’s
06:15
but they need something specifically
06:17
economic but that that doesn’t hide that
06:19
by the way like communist what are you
06:25
talking about fashion it’s retro retro
06:29
school it’s it’s all like it’s it’s it’s
06:32
the equivalent of like saying that
06:33
Chicago politics but also a pretty big
06:37
stigma around the word communist but
06:38
less and less I would say
06:40
definitely a stigma around the word
06:42
communist but the the vast majority of
06:45
people who react to it as if it’s like
06:47
saying a boogeyman are already going to
06:52
vote for the the right-wing in Canada
06:56
dis is with two quick point I mean this
06:58
was exactly what happened with de Blasio
07:00
who by the way is an insult to the
07:02
Sandinistas but they remember when he
07:04
was first running for mayor they were
07:05
like bill de blasio hung out with the
07:07
Sandinistas for a week in the 80s and it
07:10
was like over 90% of New Yorkers were
07:12
like the Sun the one you mean like he
07:14
was in on a clash recording that’s cool
07:16
not even that like right a handful of
07:17
people who read the New York Post like
07:19
he’s a communist because they’re already
07:20
like brain-dead Upper East Side lunatics
07:23
and we’re gonna vote for me and then
07:24
people like me were like it’s nothing
07:31
that’s what Obama did for me when
07:33
Reverend Wright came out I was like hey
07:38
it’s like the sector of conservative
07:41
publishing that’s trying to really
07:42
really hard to make the anti-semite
07:45
Ilhan Omar stick right based on just BDS
07:47
support and that’s very dynamic
07:50
and I also think like I would love to
07:53
see an actual president would
07:57
immediately nationalize the GM plants
07:59
and let’s get it into the court system
08:00
and see how that works out because
08:02
that’s how you would save those jobs you
08:04
don’t want to do this government’s
08:06
taking it over these are public
08:07
cooperatives now jobs stay we make
08:10
energy efficient cars we support the
08:12
economy screw GM and not either fake
08:15
totalitarian hectoring like Trump or
08:17
like training people for the jobs of the
08:19
future whatever the Third Way scam no it
08:21
seemed that the right is a whole lot
08:23
more optimistic about the chances of
08:25
communism in our lifetime than the left
08:27
so maybe we should cheer up a little bit
08:30
well the very least you know that would
08:31
be a good clip to show you know people
08:33
in Schumer and Pelosi is calm staff like
08:36
you’re so neurotic about a systemic
08:38
critique of capitalism when you get
08:41
asked the question from a young person
08:43
on CNN meanwhile Charles Payne is saying
08:46
this on Fox

The Story of the Seven Dwarfs Mining Inc: | How the Coronavirus Masked the Corporate Debt Bubble

Disney’s Seven Dwarfs team up to tell the story of corporate America (2012-2020)

by Tim Langeman 2233 words (17 min read)

Introduction

Before the coronavirus, a false narrative arose that the economy was healthy, as measured by:

  • growth in the stock market and a
  • reduction in the unemployment rate 

when in fact the recovery from the 2008 financial crisis was weak and the facade of strength was masked by low-interest rates which enabled governments, corporations, and individuals to achieve the illusion of prosperity through increased borrowing.1

Wall Street Bubbles Cartoon, 1901
1901 Cartoon depicting JP Morgan as Bull

But there is more to the economy than the stock market and unemployment rate. The bond market is larger and “smarter” than the stock market. When assessing the pre-coronavirus economy, one must also take into account the stagnant profits2 corporations disguised by borrowing in the bond market to fund purchases of their own stock, artificially inflating the stock market.

Like an Injured Athlete taking Pain Killers

The US economy was like a professional football player who had been “playing hurt” for many years.

Brandon Scherff Injury: Falcons at Redskins 11/04/18
Brandon Scherff Injury, Nov 4, 2018
Keith Allison Sports Photos (CC BY-SA 2.0)

The economy used debt like the football player uses pain killers.  The debt masked the economy’s problems3 and allow it to perform at a higher level than otherwise would have been possible had pain-killers not dampened the brain’s ability to perceive reality.  But unfortunately, an economy is not like an athlete in that it can’t retire at the end of a 15-year career.

Featuring: The Seven Dwarfs

The story I’m about to tell is intended to illustrate how corporations borrowed money and then used that money to buy their own stock, inflating the stock price.4  In finance jargon, this is called “leveraged stock buybacks”.5  Corporations have used stock buybacks as a major strategy to boost their share price but many corporations didn’t have enough profits to buy back their stock because the overall level of (pre-tax) corporate profits has been flat since 2012.6.  While some companies may have been able to legitimately afford to buy their own stock with real profits, over 50% of those buybacks were done using borrowed money.

In fact, if you look at who had been the buyer of most of the stock purchases in 2018 and 2019, it had mostly been the companies themselves purchasing their own stock, not pension funds, individuals, or hedge funds.

I illustrate how this market manipulation works using a fairy tale featuring the seven dwarfs and their mining company “7 Dwarfs Mining, Inc.” Early in the story, the dwarfs seemed to have discovered an easy way of making money until an unforeseen emergency struck and disrupted their carefully laid plans.

It is commonly known that emergencies reveal.

This story illustrates what emergencies can conceal.

The Founding Members:

Grumpy Dwarf
Grumpy Dwarf

Once upon a time, the 7 Dwarfs Mining company was founded in a small Forest Kingdom town by Seven dwarfs:7

  1. Dopey,
  2. Doc,
  3. Bashful,
  4. Happy,
  5. Grumpy,
  6. Sleepy, and
  7. Sneezy

After a number of years in business together, the mining company was valued at $7 million8 and generated $700,000 in profit per year, which they split 7 ways.9

Assets # of Shares Yearly Profit Profit per Share Debt
$7 million 7 $700,000 $100,000 $0

Continue reading


  1. Finance-types refer to borrowing as “leverage” because, like a ‘lever’, it amplifies your effort.

  2. You might wonder why this Federal Reserve chart looks different than upward sloping graphs you are used to.  The first reason is that this graph uses pre-tax figures that do not include the boost that corporate tax cuts gave to the stock market.  The other reason is that this graph is based on total profits, rather than earnings per share.  In the rest of this article, you will learn how corporate debt artificially inflated earnings per share.

  3. The fallout from the prior 2008 financial crisis was not dealt with.  The government bailed out the system and assumed the debt.  Most Americans’ wages had stagnated and healthcare and education expenses have gone up dramatically.  In order to compensate for week customer demand, companies had begun to borrow money and buy back their own stock.  Even with a deficit of $1 trillion/year, pre-coronavirus, the economy grew at a rate of 2.1% and was projected to fall to 1.6% by 2024.

  4. Now with the coronavirus crisis, the federal reserve is buying some of that debt, as well as allowing corporations to issue additional debt at artificial prices.

  5. Leveraged” is just a fancy term used to indicate that financial activity is amplified by borrowing.

  6. Pre-tax Corporate profits peaked in 2014 and have been roughly flat since 2012.  The perception of growth is mostly due to the additional debt (share buybacks) and the  2017 tax cuts (federal government debt).

  7. There are many variations of the Seven Dwarfs’ Names. I’m going with the 1937 Snow White and the Seven Dwarfs animated musical fantasy film produced by Walt Disney Productions

  8. The value of all the stock is equal to the value of all the company’s assets minus its liabilities.

    ( total stock shares = number of shares x share price)

  9. I picked round numbers for this. If you want to help me improve the numbers, see the excel doc in the footer and edit it.

source:
Read Original Source"); ?>

For many years now we have had Negative GDP so we were not Growing in the absence of Debt

wipe out over three years yeah speaking
70:54
of kind of bad situations we are not at
the end so we don’t have complete
clarity of the hindsight but there’s
been a lot of what I’ll just call bad
behavior in the market that led to a lot
of this so whether it’s the
over-leveraged of corporations or even
hedge funds at the key talks right at
one point a lot of the debt fueled
buybacks the CEO departure is kind of at
the top all of these things what’s your
take at this point in time right so
we’re kind of going into this situation
we’re not out of it but like how do you
view a lot of that be
right now so I got it I got an email
this morning actually from my prime
broker so hedge funds were at 99 to a
hundredth percentile of their historical
max leverage literally February 20th and
now we’re at you know the 20th to 30th
percentile historically so you know we
were probably at 7 or 8 turns of
leverage and now we’re probably down to
one and a half to two or three I think
that this next go-around you’re going to
have to realize government will have to
realize that in 2008 all they did was
allow financial institutions to pass the
buck they were able to take the leverage
off balance sheet and when you subtract
out debt as a function of GDP for many
years now we have had negative GDP so we
were not growing in the absence of
people issuing debt and most of that
debt unfortunately was not towards R&D
but it was towards things that
superficially propped up stock prices
which really only benefited a handful of
people and I do think we have to
restrain people from being able to do
that in the future I don’t think it
makes a lot of sense and I don’t think
it adds a lot of value and I think that
it’s not that it was obviously
responsible for the coronavirus but I do
think that when you look at how much
devastation we are encountering and when
we do the final tally on the amount of
buyback oh sorry the amount of bailouts
we need the bailouts are directly
correlated to how stupidly run and badly
run these companies were you know why is
it that California is legally mandated
and you’ll say oh because it’s a
nonprofit but legally mandated to have a
rainy day fund but a company isn’t and
then the company is the first one to
knock on the door of the government and
we’re just waiting for the next shoe to
drop or California Mississippi Alabama
Louisiana to all do the same thing and I
would much rather see the money go to
the states and the cities in an in an
fair even
then the money go to a private company I
think that those private companies
should be wiped out the equity should be
wiped out and they should need to
restart it’s one thing I’m a hundred
percent in alignment with you on this
but the part that I don’t understand is
how do you continue to benefit from the
elements of capitalism if you take out
the risk moving forward it everyone
knows I can quote unquote take this like
fake risk and if anything goes wrong I
can just run to the government and get a
bailout you changed the dynamic of what
happens and I actually think you
incentivize even more bad behavior right
it’s almost like there was bad behavior
and then there was no punishment for it
and therefore you just encouraged that
to continue you know when we get out of
this thing well I it depends on what you
view capitalism as I think if you view
capitalism as a game of risk I think
you’re right I’ve always viewed
capitalism as money becomes a fulcrum
instrument for change what do you want
to see in the world okay
money is your lubricant you decide and
the person with more money or the person
who’s willing to put more money into
something and who can be more clever
basically has the opportunity to win so
I I think it’s a game that puts
ingenuity and money at the forefront
that’s what to me that’s what capitalism
is and so when companies are doing
things that are fundamentally not
advancing that forward they should
disqualify themselves from them being
able to run to the government so it
would be a different thing entirely if
all the airlines had invested let’s just
say 96% of free cash flow dollars on
supersonic flight failed and then came
to the government and said look I took a
big bet on the future to help advance
humanity it didn’t work and I need a
bailout I would be the first one to say
okay but when 96% of free cash flow
dollars go back to buying back shares
and then you basically claim the same
thing I think you should be punished and
punished financially so you know you you
you took the money that you had you
refused it you refused to multiply it by
a good smart bet on the future and I
think that there should be consequences
for that
yeah I don’t disagree with you at all
last question for you
been incredible kind with your time here
if you were the president over the next
six months
what’s your playbook so president Shamus
got full control can do whatever was it
within the presidential powers what’s
your playbook to kind of weather the
storm and get us out of this
I would first stand up every single
voting site that we would use in the
November election
and I would schedule every single man
woman and child to come through all of
those testing facilities and I would
basically deploy a rapid test to figure
out whether they had coronavirus in that
moment okay and families could come you
know 10 minutes apart so that you could
get back into your car and go etc etc in
step number one if you didn’t have
Corona so you weren’t shedding the RNA
in that moment you go to a second and
you get administered a finger prick
and you get tested for the antibodies
and within 15 or 20 minutes and you’re
held in an isolation
77:06
you know booth area where you you know
77:08
you’re on Instagram and when you’re done
77:11
you’re given a wristband and that
77:15
wristband basically says one of three
77:18
things well if you had tested positive
77:21
you get a red band you go home and you
77:23
isolate if you test negative and you
77:26
have the antibodies you get a green one
77:28
and if you test negative and you how
77:30
don’t have the antibodies maybe you get
77:31
a blue one green and blue are allowed to
77:35
go back to work right away red self
77:38
isolates you contact trace etcetera etc
77:41
that’s sort of the frontline of getting
77:44
the economy back to work and you have
77:48
some combination of the National Guard
77:50
and sort of like a whole infrastructure
77:54
then separately I think you introduced a
77:57
massive massive massive infrastructure
78:00
bill that starts to drive the
78:03
refactoring
78:04
of the supply chain back in
78:06
to the United States and part of that is
78:09
incentives and part of that is
78:10
government spending and it has to cut
78:13
across many categories from you know
78:16
semiconductors in silicon all the way to
78:20
clean energy to actual physical
78:22
infrastructure like you know bridges and
78:24
and tunnels and roads and in that what I
78:28
think you’re mandating is a certain
78:30
percentage of things to be made
78:32
domestically in the United States and
78:35
you start to get people back to work so
78:37
the short term path I think is to kind
78:39
of baseline the disease and get the
78:42
people who are allowed to be working
78:43
back into a green zone of every city
78:45
every town where people with these green
78:49
and blue bands are allowed inside and
78:52
the red banded people have to stay and
78:54
quarantine themselves so that we can
78:56
start to restart this economy and then
78:59
longer-term is an infrastructure build
79:01
that basically resets incentives towards
79:03
resiliency towards inefficiency away
79:07
from efficiency I think that’s a pretty
79:10
solid plan I’m shot I’m actually shocked
79:13
that some of this hasn’t been instituted
79:14
already the lack of testing just blows
79:16
my mind I mean the stats I saw on
79:19
Saturday 895 thousand people I think
79:22
I’ve been tested at a 330 million in the
79:24
United States I think the other
79:25
reckoning that we have to do maybe just
79:27
to finish on this is that we’ve
79:29
politicized things that should never
79:30
have been politicized health should not
79:33
be politicized you know the problem is
79:36
that starting with Obamacare health
79:38
became something that was about the
79:40
Democrats versus the Republicans and you
79:44
can see how that’s sort of like you know
79:46
flowed into things like the FDA and the
79:48
CDC and history will tell what they
79:52
could have done better history will tell
79:54
what the w-h-o should have done
79:56
differently
79:57
but I think what we can see is that
79:59
there are many points along the
80:02
evolution of this disease where logic
80:05
and open-mindedness and iteration ran
80:09
into bureaucracy and bureaucracy one and
80:14
I think that’s probably the most
80:16
generous way of describing it and we
80:19
need to figure out
80:20
where there are almost constitutional
80:23
level provisions you know you have the
80:26
right to bear arms great what about the
80:29
right to basically not you know not die
80:32
in a preventable scenario what does that
80:35
mean for how these organizations should
80:37
run you know we at a very basic level
80:41
have told the healthcare infrastructure
80:44
that we must do no harm and I think it’s
80:47
time to say look with 8 billion people
80:48
in the world and a 90 trillion dollar
80:51
economy that supports those eight eight
80:53
eight billion people do no harm doesn’t
80:56
work anymore it doesn’t scale we need to
80:59
do our best and there’s a lot of rules
81:02
that could change in a scenario where
81:04
you embrace do your best and I think
81:08
that that that has to happen but the
81:11
failures of the political infrastructure
81:14
and the healthcare infrastructure to use
81:16
bureaucracy as the thing that that
81:18
drives decision making I think is also
81:20
the a domino that has to fall after this
81:24
and we need to revisit because it’s a
81:25
you know we’ve we’ve done a lot of
81:27
unnecessary damage to ourselves and some
81:34
of this some of these self-inflicted
81:35
injuries we should figure out how to
81:37
prevent for the next time because it’s
81:38
gonna come again yeah I think we’re
81:40
living in incredibly uncertain in
81:42
chaotic times and you know one just
81:45
thank you for your time today but uh too
81:47
is uh think I speak for a lot of people
81:49
in that we’d love to see you go public
81:50
and kind of be along for the journey so
81:53
you’re doing an incredible job and I
81:55
just appreciate you uh
81:56
kind of going out there and sticking
81:58
your neck out there frankly because a
81:59
lot of people who they they’re gonna all
82:01
be the armchair quarterbacks right okay
82:03
two three years from now like I said I
82:04
told you that we should have done X or Y
82:06
but right now they’re they’re kind of
82:07
quiet so we’ll see how it plays out well
82:10
I really appreciate the fact that you
82:11
had me on and I just want to say that I
82:13
think you’ve been a really good person
82:16
in being out there in this moment the
82:19
reality is like in moments like this you
82:21
need people to be coalescing opinions
82:24
and I think that you’ve done that that’s
82:26
a really important service because it
82:28
allows people to get to ground truth so
82:31
I just want to say thank you for doing
82:32
that
82:32
thanks for including me
82:34
no problem at all all right sir well
82:36
thank you a teacher
82:37
all the best talk to you soon right bye

Covid-19 has exposed our financial fragility

An orgy of borrowing, speculation and euphoria has left the markets on the verge of catastrophe

Financial markets have experienced the fastest ever crash over the past few weeks. Even during the dotcom bust and the Lehman crisis, stocks did not fall this quickly. In less than a month, we have seen major indices fall almost 30%, and stocks in sectors such as oil and travel down by 80%. We are experiencing terrifying daily declines not seen since the 1929 stock market crash that preceded the Great Depression.

We are at a watershed moment: the coronavirus Covid-19 is a catalyst fast bringing many long simmering problems to the boil. It is exposing the creaking financial systems around us and it will change the way economies function. Economic and financial pundits, however, have been focusing almost exclusively on the short-term effects of coronavirus and so are missing the much bigger themes at play.

Epidemiologists tell us that when it comes to the virus, we are looking at a once in a century event. It is highly contagious and highly lethal. Experts are not comparing Covid-19 to SARS or Swine Flu, but to the Spanish influenza of 1918 that killed between 50 and 100 million people worldwide.

We do not have good data on what the stock market did during the 1918 flu, but we do know that it led to a severe recession. The connection between influenza and recessions is well documented. Going as far back as the Russian flu in 1889-90, the Spanish flu in 1918, the Asian flu in 1957-58 and the Hong Kong flu of 1968-69 — they all led to recessions. This one will be no different.

But this recession will not only be driven by the economic loss of able-bodied workers, it will be helped along too by the steps political leaders take to avoid the spread of the coronavirus. In medicine, the immune system’s response can often be worse than the disease. When the body goes into septic shock, the immune system overreacts, releasing what doctors refer to as a cytokine flood, which can reduce blood to vital organs and lead to death. Sepsis is common and kills more than 10 million people a year. Today, the political reaction to Covid-19 is causing something akin to a septic shock to the global economy.

The recession is likely to be very sharp and but brief. Recessions are self-regulating. De-stocking of shelves and warehouses leads to re-stocking. Collapsing low interest rates and oil prices eventually spur spending and borrowing. Government spending and central bank easing eventually feed through to the real economy. While there will be massive panic and bankruptcies today, there is little doubt that markets will be better in a year, and certainly will be in two to three years,

But the structural changes to how our economy operates, however, will be felt for decades to come. And this is in large part because we didn’t learn the lessons of the last crash.

Over the years since the 2008 crisis, central banks have been trying to stamp out every single small fire that flares up (the European crisis in 2011-12, the Chinese slowdown in 2015-16, the slowdown last year); but suppressing volatility and risk only creates bigger fires. Risk is like energy and cannot be destroyed. It can only be transformed.

Forest fires are a useful analogy. California has infrequent, devastating forest fires; the Mexican state of Baja California has many small frequent fires and almost no major catastrophic fires. Both states have a similar climate and vegetation, yet they have vastly different outcomes. That’s because when there are very few small fires, underbrush grows, vegetation increases and creates greater kindling for the next fire. Suppressing small risks only makes them emerge eventually as very big ones.

In politics and economics, massive change events tend to happen not in orderly sequences, but in sudden spasms, like the Arab Spring, or the collapse of the Eastern Bloc. Watching events unfold is often like watching sand grains pile slowly on top of one another until a final, random grain causes the entire pile to collapse. People knew the Arab countries were fragile and that the Eastern Bloc might eventually fall, but predicting which grain of sand would do it precipitate either was impossible.

Physicists call these transitions critical thresholds. Critical thresholds are everywhere in nature. Water at moderate temperatures is disorganised and free-flowing, yet at a given critical value, it has an abrupt transition to a solid. It’s the same with the sandpile: one grain too many can trigger collapse — but which one?

In 1987 Per Bak, Chao Tang, and Kurt Wiesenfeld found that while sandpiles may be individually unpredictable, they all behave the same way. The critical finding of their experiments was that the distribution of sand avalanches obeys a mathematical power law: The frequency of avalanches is inversely proportional to their size. Much like forest fires, the less frequent they are, the more catastrophic they are.

It’s the same with financial markets and the economy. We will experience years of quiet, interrupted by sudden avalanche. Years of slowly adding grains of sand can end abruptly — to our great surprise. Today in financial markets, many unsustainable trends have been building, and the coronavirus is merely the grain of sand that has tipped the sandpile.

It would be controversial to say that the stock market reaction to the coronavirus would not have been very big had we not been in the middle of an orgy of borrowing, speculation and euphoria. Of course, stocks would have fallen with coronavirus headlines, but it is unlikely they would have crashed the way they did without those exacerbating factors. Furthermore, without enormous underlying imbalances of high corporate debt, the prospect of poor sales would not have driven so many stocks to the verge of collapse.

This aspect of the current crisis has so far gone unreported. But not unmentioned. A few weeks before the crash, Charlie Munger, vice chairman of Berkshire Hathaway and Warren Buffett’s longtime business partner, issued a dire warning, “I think there are lots of troubles coming,” he said at the Los Angeles-based Daily Journal annual shareholders meeting. “There’s too much wretched excess.”

Speculative euphoria was at record highs. As Sir John Templeton once said, “Bull markets are born in pessimism, grow on skepticism, mature on optimism and die on euphoria.” Investors were all on the same side of the boat, and it capsized, as happens in market crashes.

  • Investors were buying a record amount of call options, or bets on stock prices rising further. According to SentimenTrader, by early February, “We’ve never seen this level of speculation before. Not even close.”
  • Asset managers were betting in record quantities on stock futures, which are instruments to bet on underlying indices. Positioning in S&P futures hit a new high as of February 11.
  • Hedge fund borrowing to buy stocks was at a 24-month high. They were highly confident markets would keep rising.

 

QF Research@ResearchQf

Asset Manager positioning in S&P futures hit a new high as of February 11 in both net contracts and value. S&P futures comprises the bulk of equity futures positioning by these funds.

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It was not a coincidence that there was such euphoria. Retail brokerages had announced over the past few months that they were eliminating all commissions on trading activity. Buying and selling stocks was suddenly “free”. It was like pouring truckloads of kerosene on a blaze. At Charles Schwab, daily average trading revenue exploded 74% after the change.

In scenes reminiscent of the dotcom boom, stocks were doubling overnight. Virgin Galactic Holdings, with no revenue, was worth over $6 billion dollars. Tesla, which has never made money selling cars, had a market capitalisation greater than any other car manufacturer. Its stock price quadrupled in less than three months. The market was so stretched that it would have crashed due to its own absurdity — with or without coronavirus.

The source of this “free” trading came from high frequency trading firms that are supposed to act as market makers, executing buys and sells for clients. Except that they are not really disinterested middlemen; they are running their own trading strategies to make money off retail investors. They execute the order flow of so called mom and pop investors and profit from these “dumb money” retail traders, in the words of Reuters.

The brokerages which sell retail orders receive hundreds of millions of dollars in return from the market makers. This means that, essentially the market makers are bribing the brokerages to profit from retail traders. For example, E*Trade received $188 million for selling its customer order flow last year, while TD Ameritrade made $135 million in the fourth quarter alone. The market makers are willing to pay so much because they almost never lose money — they trade fast and know where the market is going.

As Warren Buffet once said, “As they say in poker, ‘If you’ve been in the game 30 minutes and you don’t know who the patsy is, you’re the patsy.’” Retail is the patsy.

Ken Griffin is the owner of Citadel Securities the biggest market-making firm, and his business is so profitable that he has gone on one of the greatest property buying sprees of all time. In 2015 Griffin paid $60 million for multiple condo units in Miami. He paid a U.S.-record $239.96 million penthouse in New York City, a $122 million mansion in London, and over $250 million in Palm Beach properties. Market making against “dumb money” is a fabulous business.

As the mania deflated in late February, though, mom and pop were abandoned. As the crash started, market makers pulled back and provided less liquidity. Retail investors were left high and dry. It is no wonder prices fell so quickly.

The high frequency market makers have since been pleading for more capital, and rumors swirl that many are experiencing financial difficulties. The illusion of benign market makers looking after retail investors has vanished.

There are echoes here of the old problems from the Lehman crisis; but they have mutated into different forms. During the Lehman crisis, mortgage bonds were pooled together, and insurance companies and pension funds bought them. Today, retail investors have been buying popular funds known as Exchange Traded Funds (ETFs). These are easy to trade and cheap, but they have a fundamental problem. While ETFs have simple tickers like HYG, JNK, LQD that the average retail broker can trade on their screen, they are really holding hundreds of individual bonds inside of them that the investor is unaware of. These bonds are not easy to trade at a moment’s notice and are highly illiquid. But while the ETFs rose slowly and steadily, and investors poured more money in, lulled by a false sense of security.

While the ETF shares trade daily by the second, the underlying bonds are not easy to trade on their own. In the old days, insurers and pension funds bought these bonds, put them away in a drawer and never traded them. Today, though, investors expect instant liquidity from an illiquid investment. Liquidity mismatches are as old as banking itself (deposits and cash are highly liquid, while mortgages and loans are often completely illiquid); the problems of ETFs have been known all along, and the outcome has been inevitable.

As the coronavirus panic spread, the ETFs started trading at big discounts to the underlying value of the baskets of bonds. Markets are broken, and the gap is a sign of how illiquid the underlying holdings really are.

But these ETFs should never have been allowed in the first place. In the words of Christopher Wood, an investment strategist at Jefferies, “they commoditise equity and bond investing in an insidious way which ultimately creates a dangerous illusion of liquidity. True, ETFs are cheap. But so is fast food.”

While ETFs may appear technical and unrelated to the broader problems in markets, they share the same underlying problem. We have had the illusion of safety and liquidity for some time, and it is the coronavirus that has exposed the gaping holes in financial markets.

The coronavirus won’t kill companies. But it will expose their bloated, overleveraged balance sheets. Corporate debt in companies has never been higher and has now reached a record 47% of GDP.

Rather than encouraging moderation, central bankers and policy makers have been reloading the all you can eat buffet and persuading everyone to come back for third and fourth plates. The European Central Bank and the Bank of Japan have been buying corporate bonds, and central banks have kept funding at zero rates, which has encouraged a massive increase in indebtedness over the past decade.

Central bankers have long promoted high corporate leverage because they see it as a way to stimulate demand. Even now, many economists see no problems on the horizon. In the New York Times, Nicolas Veron, a senior fellow at the Peterson Institute for International Economics in Washington, was openly mocking anyone advocating prudence, “The prophets of doom who thought that more debt was more risk have generally been wrong for the last 12 years.” Like most central bankers for the past decade, he argued, “More debt has enabled more growth, and even if you have a bit more volatility, it’s still net positive for the economy.”

But while debt has encouraged growth, it has also introduced much greater financial fragility, and so the growth is fundamentally unsound. We are now finding out that less debt, rather than lower rates is better for financial stability.

FURTHER READING

The global economy has gone mad

BY PETER FRANKLIN

According to FactSet, 17% of the world’s 45,000 public companies haven’t generated enough cash to cover interest costs for at least the past three years. Debt has been used to finance more debt in a Ponzi fashion. The Bank for International Settlements looked at similar economic measures globally and found that the proportion of zombie companies — companies that earn too little even to make interest payments on their debt, and survive only by issuing new debt — is now higher than 12%, up from 4% in the mid 1990s.

Entire industries are zombies. The most indebted and bankruptcy prone industry has been the shale oil industry. In the last five years, over 200 oil producers filed for bankruptcy. We will see dozens if not hundreds more bankruptcies in the coming year. They were all moribund with oil at $50 dollars; they’re now guaranteed to go bust with oil at $30.

Only now, belatedly, are groups like the IMF waking up to the scale of the problem. In a recent report they warned that central banks have encouraged companies to pursue “financial risk-taking” and gorging on debt. “Corporate leverage can also amplify shocks, as corporate deleveraging could lead to depressed investment and higher unemployment, and corporate defaults could trigger losses and curb lending by banks,” the IMF wrote.

According to the IMF, a downturn only half as bad as 2008 would put $19 trillion of debt—nearly 40% of the corporate borrowing in major countries—at risk of default. The economic consequences would be horrific.

Corporate debt has doubled in the decade since the financial crisis, non-financial companies now owe a record $9.6 trillion in the United States. Globally, companies have issued $13 trillion in bonds. Much of the debt is Chinese, and their companies will struggle to repay any of it given the lockdown and the breakdown in supply chains.

We have not even begun to see the full extent of the corporate bond market meltdown. One little discussed problem is that a large proportion of the debt is “junk”, i.e. lowly rated. An astonishing $3.6 trillion in bonds are rated “BBB”, which is only one rating above junk. These borderline bonds account for 54% of investment-grade corporate bonds, up from 30% in 2008. When recessions happen, these will be downgraded and fall into junk category. Many funds that cannot own junk bonds will become forced sellers. We will see an absolute carnage of forced selling when the downgrades happen. Again, the illusion of safety and liquidity will be exposed by the coronavirus.

The average family is encouraged to save money for a rainy day, in case they are fired, or they face hardship. Saving some money is considered prudent. It’s quite different for business. Companies pocket the profits in the good years and ask Uncle Sam to bail them out in the bad years. Heads shareholders win, tails the taxpayer loses.

Industry can’t be blamed for not expecting an act of God or force majeure, but in the past 30 years we have seen two Gulf Wars, 9/11, SARS, MERS, Swine Flu, the Great Financial Crisis, etc. Saving for a rainy day should only be expected in cyclically sensitive industries.

But rather than do that, companies have been engaging in a rather more reckless strategy: borrowing to buyback shares. This may boost their Return on Equity (ROE), but it is not remotely prudent and makes their companies highly vulnerable. Borrowing to prop up their own shares means they have less on hand when hard times come.

According to Barons, “Stock buybacks within the S&P 500 index totaled an estimated $729 billion in 2019, down from a record $806 billion in 2018.”

And then along came coronavirus.

Of those industries that are now seeking a bailout, none has saved for a rainy day. Boeing, the poster boy of financial engineering and little real engineering, bought back over $100 billion worth of stock over the past few years. Today it is asking the government for a backstop to its borrowing.

According to Bloomberg, since 2010, the big US airlines have spent 96% of their free cash flow on stock buybacks. Today, they’re asking US taxpayers for $25 billion.

Airline CEOs have been handsomely paid while not saving for a rainy day. Delta Airline’s CEO Ed Bastian made the most, earning nearly $15 million in total compensation. American CEO Doug Parker $12 million, while United CEO Oscar Munoz earned total compensation last year of $10.5 million.

FURTHER READING

Corporate buyback culture is financial engineering not value creation

BY CHARLOTTE PICKLES

The cruise liners were little different. Over the past decade, Carnival Cruises paid $9.2 billion dollars in dividends to its billionaire owners and bought back $6.7 billion of shares. Royal Caribbean, which is a smaller company, paid out $2.7 billion in dividends and $1.6 billion in buybacks. And the smallest cruise liner Norwegian Cruise Line spent $1.3 billion on share buybacks.

For years, the cruise lines have triumphally proclaimed massive dividends and buybacks. For example, Carnival proudly announced in 2018. “In just three years, we have doubled our quarterly dividend and invested $3.5 billion in Carnival stock.”

Cruise lines have no real claim to any bailout. They pay no taxes due to a legal loophole, and all their vessels fly the flags of Liberia, Panama and the Marshall Islands. Furthermore, their owners tend to be billionaires with more than enough financial wherewithal to recapitalise their own businesses. Their shareholders are not among the 1%. They’re among the 0.01% of richest people in the world. In the worst-case scenario, the US has a highly efficient bankruptcy process. Bondholders of today become shareholders of tomorrow, and the companies can have a fresh start. Bondholders would only be more than happy to own the equity of these companies.

Banks, too, will inevitably be asking for bailouts before this is over. Banks have among the most aggressive stock buyback programs of any industry, with some repurchasing a staggering 10% of their outstanding shares annually. The eight biggest banks have announced they will suspend their share buybacks for the next two quarters due to the COVID-19 pandemic on the global economy. In 2019, the top eight banks bought back $108 billion of their own stock.

If any good can come of the current crisis, perhaps it is exposing the irresponsibility of share buybacks and lack of prudence of most companies.

Monetary policy was one of the mechanisms employed in response to the last crisis, in the hope its effects would trickle down to the unwashed masses. Central banks bought vast amounts of treasuries and mortgage bonds to tighten financial spreads for banks and borrowers, but none of it went directly to households. It was all intermediated by the financial system and those who had access to capital.

The absurdity of the policy was perfectly illustrated recently in Europe. The European Central Bank has been busy buying bonds, and recently it bought bonds from LVMH, the luxury conglomerate owned by the world’s richest man Bernard Jean Étienne Arnault. The bonds had a negative yield, meaning that the ECB was paying LVMH to borrow. LVMH used the ECBs money to buy Tiffany.

If rates are now so low that billionaires are being paid to borrow, monetary policy has reached the limits of its usefulness.

Investors own stocks because their bond portfolios have acted like a hedge. Whenever stocks have fallen, bonds have gone up. In every downturn since the 1980s, central banks have cut rates, but most government bonds now have close to zero yields.

Extremely low interest rates and high valuations mean that any small change in interest rates will make portfolios much more volatile. If interest rates were to rise even slightly, they would vaporise many bond and stock portfolios. The margin of safety in bonds and stocks has diminished rapidly as rates have approached zero.

The world is now upside down. Many investors now buy stocks for current income and buy bonds to trade given how volatile they have become. Things cannot hold.

What do high frequency market making, share buybacks and high corporate debt have in common? They are supposedly tools to make trading, growth and returns on capital more efficient and cheaper, yet they have made the system more fragile and less resilient. Perhaps returns on capital and cheapness of market orders and ETFs are less important than stability and anti-fragility, i.e. designing systems that are robust in the face of stress.

We have seen the fragility in supply chains in the recent crisis.When the coronavirus struck in China, suddenly companies everywhere found out that outsourcing all their manufacturing and even medicines and face masks to China might be a problem.

Manufacturing has become less robust, more fragile, even if the returns on capital are better for those companies that outsource everything to China in pursuit of share buybacks.

The lessons of history are instructive. Although planting a single, genetically uniform crop might be more efficient and increase yields in the short run, low genetic diversity increases the risk of losing it all if a new pest is introduced or rainfall levels drop.

FURTHER READING

Have we been played by China?

BY JAMES KIRKUP

The Irish Potato Famine is one such cautionary tale of the danger of monocultures, or only growing one crop. The potato first arrived in Ireland in 1588, and by the 1800s, the Irish had used it to solve the problem of feeding a growing population. They planted the “lumper” potato variety. All of these potatoes were genetically identical to one another, and it was vulnerable to the pathogen Phytophthora infestans. Because Ireland was so dependent on the potato, one in eight Irish people died of starvation in three years during the Irish potato famine of the 1840s.

The lessons from nature are dire. In the 1920s, the Gros Michel banana was almost wiped out by a fungus known as Fusarium cubense, and banana shortages became a growing problem. The widespread planting of a single corn variety contributed to the loss of over a billion dollars worth of corn in 1970, when a fungus hit the US crop. In the 1980s, dependence upon a single type of grapevine root forced California grape growers to replant approximately two million acres of vines when the pest phylloxera attacked.

Today, China is manufacturing’s monoculture.

Against this dangerous backdrop of volatility and uncertainty, the coronavirus will now achieve the impossible. For the past few years, two ideas have floated around on the political fringes of the Left, but they have been dead on arrival. No one has seriously thought they might become government policy. Today, the Left and Right in the United States and Europe are embracing them.

Andrew Yang, a former tech executive from New York, ran a quixotic, obscure presidential campaign in the United States based on the idea that every citizen should receive a Universal Basic Income (UBI). He advocated a “Freedom Dividend”. This would be a form of universal basic income that would provide a monthly stipend of $1,000 for all Americans between the ages of 18 and 64.

Today, Trump, Pelosi, Romney and others are fully backing Yang’s idea. Respected think tanks such Brookings and Chatham House have advocated UBI. But once it is implemented, there will be no going back. Handouts will start small and grow.

The other big idea has come from Stephanie Kelton, who advised Bernie Sanders and advocates for Modern Monetary Theory (MMT). Kelton argues that in any country with its own currency, budget deficits don’t matter unless they cause inflation. The government can pay for what it needs by simply printing more money — no reason to borrow by issuing bonds. Helicopter money.

FURTHER READING

Could free cash fix the economy?

BY PETER FRANKLIN

Her ideas were widely criticised across the Left and Right, ranging from Paul Krugman to Warren Buffett to Federal Reserve Chairman Jay Powell.

Yet today, the two ideas have come together. There are no atheists in foxholes. Even libertarians on Twitter are now calling for government intervention. Investors and politicians of all stripes are calling for UBI financed by MMT money issuing.

This is an epochal turning point, a great reset. The coronavirus is the grain of sand that will cause the avalanche.

For once the taboo of printing money to pay citizens is broken, we can never go back. Governments will spend money with few constraints, aided by central banks. It’s a strategy that has not worked well in emerging markets, and it did not work well in the 1970s — which has conveniently been forgotten.

Undoubtedly, the government must compensate citizens from mandatory curfews and quarantines. The short-term impacts of the lockdowns must be mitigated, but temporary policies must not become permanent political expedients.

That’s why the danger is not today or even a year from now, it’s five to ten years away, when the crisis has past, along with the reason for UBI and monetary easing. What politican will be disciplined enough to stop spending? What central banker will raise rates when it is unpopular to do so?

Today we are reaping the whirlwind of the last financial crisis. Rather than pursue lower leverage, less debt and more robust institutions and more responsible corporate behaviour, investors and companies instead learned that they would be bailed out in a crisis.

Central banks became enamored of their own success as fire fighters, and they have busily been trying to put out fires by

  • encouraging reckless behaviour,
  • prizing low volatility above a robust financial system,
  • viewing “risk management” as preferring no financial corrections ever.

They should accept that sometimes putting out every single fire creates greater conflagrations. They should be humbler about the extent and limits of their power.

It looks like they’re about to learn the hard way.