When I was a kid, this place used to look like something you'd see in one of those PG-13 coming of age movies set at the beach during the summer.
(Culture check: name that artist)
There was a boardwalk and along it was a burger shack with a handwritten, whiteboard menu above the grill. They sold burgers, cheeseburgers, hot dogs, chili dogs, nachos, and ice cream (Superman).
A few yards away there was a tiki bar with eight or so seats and one fan.
The burger joint is gone, replaced by an overpriced tourist trap, but the bar is still here. Now it's got about 20 seats and seven cocktail tables. The cheap ceiling fan is gone, replaced by seven flat screens and some derivation of those NFL misters that keep the players cool on the sidelines.
It's not what it once was here, but I have to admit, it's a helluva lot more comfortable.
I always come here on my last day of vacation. Always have the same drink. No James Bond today. Hendrick's. Rocks. Cucumber. That is all.
I'm attracting more attention than usual with the laptop. I think I got sand in the trackpad because the cursor is jumping around, so I had to break out the mouse which isn't something you normally see at a beach bar - well, unless you mean real mice which any good dive bar has plenty of.
The guy who was sitting next me until about half an hour ago works for Wells Fargo. He's one of those local advisors I think, managing a few hundred thousand out of a strip mall for whatever counts as "high net worth" clients in America's clueless heartland. There's nothing wrong with that. No shame in pulling down six figures for doing nothing. That's what any of us would do if we were smart. And believe me, there are all kinds of ways to do it.
Anyway, he of course keeps up with the headlines as much as he has to and we got to talking a bit. Smart guy. As we were talking about 3-month LIBOR at seven year highs he quoted Stephen Colbert who once quipped that "you're-a-bore is what someone says to you when you talk about EURIBOR." He wasn't disparaging me, but bemoaning the fact that the average person has no idea which numbers matter and which ones don't.
That reminded me of course of those who read my stuff and think I'm a sophist; someone peddling esoteric data points and complex concepts dressed up as meaningful information by skillful rhetoric. Or, stripped of the flowery language, I'm a pretender whose only real gift is writing.
Halfway through Hendrick's, ice, cucumber number three it occurred to me that the greatest sophist of all time was none other than Irwin Fletcher, another Chevy Chase character that's weathered the test of time.
Not seeing Fletch is a lot like not seeing Groundhog Day - it's a sin of omission that you need to correct. Basically, Chase plays a deadbeat reporter (there's a double entendre there, did you catch it?) whose only talents are writing and conning people. When he stumbles across a drug trafficking operation on the beach in California, he has to con his way into uncovering the truth in order to get the story. Along the way, he poses as a doctor, a country club tennis snob, and famously, an airplane repairman.
In the airplane repair scene, Fletch is almost exposed, but he's saved from the skeptical mechanic by his dimwit partner who says the following: "No, what I think it is is the bypass line." After accidentally checking the luggage compartment, Fletch concurs: "Yeah, I think it's the bypass line." And then comes one of the most famous exchanges in comedy history:
So obviously "ball bearings" weren't in any way relevant to the problem. But Fletch convinces the mechanics they're intellectually inferior. So when I talk about things like LIBOR, commercial paper, and funding costs, you have to ask yourself whether I'm Fletch the sophist pitching you on the merits of using ball bearings to fix Cessna bypass lines, or whether perhaps you may not know what's actually important.
Let me give you a quote from Hank Paulson (no, I don't particularly like the guy either, but you can't really say he doesn't understand what matters) ca. September 8, 2008:
Jeff Immelt calls to tell me that his company was having problems selling commercial paper. The report alarmed me.
Here's David Stockman's take:
When commercial paper rates suddenly spiked during the Lehman crisis, GE was caught with its proverbial pants down. But rather than manning-up for the financial hit that his company deserved, Jeff Immelt jumped on the phone to Treasury Secretary Paulson and yelled "Fire!"
Within days, the sell-off in the commercial paper was stopped cold by Washington's intervention, sparing GE the inconvenience of having to pay market rates to fund its massive pool of assets. The Republican government essentially nationalized the entire commercial paper market.
Even a cursory look at the data, however, shows that Immelt's SOS call was a self-serving crock. His preposterous message had been that the commercial paper market was seizing up and that GE was on the edge of collapse-a risible proposition. Nevertheless, that assertion quickly became gospel among panic-stricken officialdom, and from there it rapidly spread to Wall Street and the financial press.
Now make no mistake, I agree with David (he knows me by the way, although he doesn't know it). But the point is, no matter how deplorable or silly you might find their business decisions or practices, you do not want giant conglomerates having to pay exorbitant interest rates for short-term funding. Karma isn't always a good thing for humanity my friends.
Well guess what (via Bloomberg this morning)?:
3M Libor, CP Rates at 7-Yr Highs
I've been over and over the impact that the massive exodus from prime money market funds is having on the commercial paper market (see here and here). Here's what I'm telling you when it comes to the financial system's scaffolding:
Awe come on guys, it's all funding costs these days!
Now if you want, you can tune into Jim Cramer who is currently talking about REITs on two of the tiki bar flat screens, or you can take comfort in how many companies manage to financial engineer their way to beating Q2 Street estimates. But bear in mind there's a reason why everyone like you has access to that information and why everyone like you is tuned into the same noise. I tell you what they're talking about behind the scenes and thus what really matters in the market (NYSEARCA:SPY). So let's get to commercial paper.
Now first of all, you all know why funding costs are rising right? Sure you do, because you read Heisenberg. Money market funds are effectively being forced to cut duration and hoard liquidity in anticipation of new regulations that will require them to report a floating NAV. But look, regardless of the culprit, and regardless of whether prime funds will deploy cash out the curve come October 15 when the storm has passed, higher funding costs are higher funding costs. Here's BofAML with some great color:
Given the lack of prime money fund financing that is now willing to extend beyond 3 months, we believe that there will need to an adjustment in the amount of total CP and CDs outstanding along with higher offering rates in order to achieve funding. Total financial CP outstanding could decline by $30 to $60 billion over coming weeks as a result of the additional $200 to $400 billion we expect from prime money funds and the fact that they held 15% of their holdings in financial company CP. In addition, we expect that the average maturity of commercial paper outstanding will continue to decline as prime money funds shorten their WAMs and would not be surprised to see the average maturity of CP outstanding test the recent 5-year low of 45 days (Chart 22). We would also expect that the total amount of CDs outstanding might decline by $70 to $140 billion, given that prime funds have roughly 35% of their holdings in CDs. To make up for the reduction in CP and CD issuance, we expect that banks might need to raise deposits, issue at longer-dated tenors, or seek alternate funding sources in order to meet their US dollar liquidity needs.
To the extent that maturing CP or CDs are not substituted for alternative funding sources, the rolling over of these maturities could pose near-term risks to further LIBOR-OIS widening. This would be especially true if issuers sought to extend or simply replace the tenor of their existing funding that had once been issued at 3 month maturities.
If you took the time to really understand that, then you know why it's meaningful. Now please do me a favor and recall what I said weeks ago about dollar swap spreads:
So basically, tapping central banks for dollar liquidity is cheaper, but still not cheap enough relative to cross-currency swaps for anyone to chance the reputational risk that comes with utilizing CB swap lines. When you see swap line usage go parabolic at the ECB and BoJ, that's when you know there's a real problem.
I said that was important and there were some skeptics. I suggested that those skeptics were asking the wrong questions. They were. Here's one more passage from BofAML:
The rollover of upcoming maturities may be especially challenging for foreign issuers that do not have readily available access to US dollar deposits or other sources of US dollar funding. Examining the largest five foreign issuers of bank related securities show where the largest concentration of rollover risks resides by maturity (Chart 24). Japanese banks, who are the largest issuers of CP & CDs to money funds, have $41.8 billion in maturities coming due over the course of August with their largest two-day maturity totaling $7.3 billion on August 12th and 15th.
Gauging the total impact on CP or LIBOR rates from these upcoming maturities is challenging and will depend upon the necessity of dollar funding, available alternatives, and investor willingness.
With the sizeable moves over the past two weeks, we have received numerous questions asking how high LIBOR-OIS spreads could potentially move. While this is difficult to know with certainty, our best guess from other financing markets such as FX cross currency basis swaps or from official central bank liquidity facilities imply that there is still room for bank funding levels to increase. However, central bank facilities will likely see greater usage should LIBOR levels rise another 15 to 20 basis points from here.
If you want to understand how and why the system functions everyday - as in why I'm able to depend on Kroger having Camembert in stock on my way back to the hotel tonight - you have to understand how it's funded.
Frankly, what I'm watching seaside now on CNBC (two rednecks pitching an investment to two other rednecks on "West Texas Investors' Club") is far more valuable than anything I heard in the last two hours from the Fast Money crowd and/or Jim Cramer.
So am I, like Fletch, just a sophist? Or is it really "all ball bearings?"
I'll let you decide, but I have to go for one last walk on the beach. I've got an early flight tomorrow - from sandy beaches to concrete jungles.
Gotta make a living, right? Unlike my cocktails, I can't "have my wages garnished."
Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.