Insolvency With No Credible Backstop ~ The Risk Averse Alert

Tuesday, June 19, 2012

Insolvency With No Credible Backstop

Listen, if you can put lipstick on bankrupt euro-PIIGS, you can dress up just about anything. The question now is what will it take to transform persistent, panic-stricken rumors of but more hyperinflationary happiness waiting in the wings into a liquidity deluge in fact. Never mind that central banks are trapped and know it. Were truth otherwise couldn't they just somehow quietly bail out JPM along with the European banking system? How is that a mountain of debt built up over the past forty years does not generate cash flows sufficient to sustain the burden? Just how much debt is insolvent? What does this mean to derivatives counter-parties who continue pretending the trans-Atlantic banking system's solvency is not in question?

Surely, without so much as asking these hard questions, plenty of representatives in Congress are contemplating the worst while desperate Dimon pretends a rising rate environment will be profitable to his firm. This is, of course, likely assuming counter-parties to JPM's huge derivatives book possess the wherewithal to make good on their obligations when confidence nearer the top of the capital structure takes a dirt nap. We saw how that went in 2008. And now, with Uncle Sam "all in" and still no sign of benevolent life on Mars willing to pony up and backstop lenders of last resort, chances are with the EMU's pending demise JP Morgan Chase will not fare nearly as well as it did in 2008.

Indeed, could JP Morgan Chase be the new AIG? Why else compel a lousy liar to appear before Congress twice in one week? Someone way at the top of the dream machine pumping fantasies about "liquidity traps" must be having a seizure. Throw in a Volcker aggressively arguing against Glass-Steagall (probably with a drone to his head) and you have a bonafide panic as plain as day, yet further repairing Wall Street's long lost transparency.

Fee junkies hooked on bailout may own many things that meet the eye, but none of these is any match to a bond market yielding squat while still more debt is joining the insolvency parade. The trouble with rumors of central bank intervention is that, more than ever, the promise cannot be met without dire consequence. Yet for intervention's downside — accelerated shutdown of the physical economy in particular — to be at all palatable likely will require dire circumstance, which in fact still appears right around the corner...


Based on the current position of the CBOE Put/Call Ratio one Larry McMillan sees the S&P 500 one hundred points higher still. You might be inclined to agree with him were a static view taken supposing the market now is similarly poised as following last August's throttling. Chances are, though, you and Larry will be proven mistaken.

If only weakness leading us to this point were still centered on Greece — last year's problem euro-child. Barely were means available last year to deal with Greece's insolvency. Today, the euro-zone's insolvency has gotten much bigger and there isn't a backstop in place big enough to deal with this. Thus remains my view that, one hundred S&P 500 points in the other direction, again, and again, and again, is the far more likely outcome today's still elevated put/call ratio is signaling.

Fast Money
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