Some drive-by thoughts on Europe: While the LTRO takeup was larger than anticipated, the consensus seems to be the new ECB funding largely replaces old ECB funding, bank deposits that are fleeing, interbank credit and money market funding that has dried up.
To the extent it signals the ECB will do everything necessary to prevent a bank failure, and potentially takes a Lehman scenario off the table for now, it is a positive development.
It’s the turning point in the crisis, only if it’s a signal that the Great Pumpkin is coming next year in the form of more QE, orderly equity raises for the solvent banks, bailouts/mergers of the insolvent ones, and above all, resumption of economic growth.
If economies outperform, tax receipts are strong, government deficits and funding needs go down, sovereign interest rates go down, and the odds of an imminent financial crisis diminish. If economies underperform, we get unsustainable interest rates, risk of defaults and bank failures, and everything goes down the infamous Hatzius toilet bowl.
Pimco’s Mohammed El-Erian was probably about right when he estimated 1/3 chance of nasty Eurozone breakup, 1/2 chance of a relatively orderly exit of a couple of countries, 1/6 chance of muddling through with no change. But I would probably reverse the first two. (And El-Erian might not say so if he felt the same.)
The S&P chart is looking a little like a triangle. When markets get rangebound, people start selling the highs and buying the lows. But each time they hit the trigger a little sooner, so the range gets smaller and smaller. Eventually, fundamentals have changed, and everyone gets caught on the wrong side, and you get a big move in one direction or the other.
Could go either way, bad economy, political gridlock, crisis. Or the ECB and politicos could step up, and markets could be off to the races with another round of bubble inflation and risk-on. The latter seems a more rational outcome, a consummation devoutly to be wished, if laden, longer-term, with moral and other deathly perils for investors’ capital. The former seems more consistent with the daily display of dogma and discombobulation. While the Eurozone seems fundamentally unstable in the long run without true economic convergence, fiscal union, and a lender of last resort, the long run can be very long indeed.
In the meantime, as Tiny Tim said, God bless us every one! Happy Holidays and all the best for 2012!