"Something Is Wrong & Dangerous": Elliott's Paul Singer Warns

ZeroHedge

“The recent trading environment has felt something like walking into a place and having a sense that something is wrong and dangerous but not knowing exactly what will happen or when. “QE Infinity” has so distorted the prices of stocks and bonds that nobody can possibly determine what the investing landscape would look like, or what the condition of the economy and financial system would be, in the absence of Fed bond-buying.”

 

-Paul Singer, Elliott Management

In his latest letter to investment partners, the outspoken realist pulls the curtain on everything from loss of faith on fiat currencies to unsound policies such as Obamacare, the missing jobs recovery, and media misunderstandings of the nature of hedge funds.

On The Fed’s “temporary” effects on bonds and stocks:

 

The volatility in fixed income markets earlier this year, occasioned by the Fed’s use of the word “tapering” (meaning a possible gradual reduction in the pace of Fed bondbuying), resulted in medium- and long-term interest rates rising back to the levels of the spring of 2009. In other words, $3.8 trillion of bond-buying since 2008 by the Fed has had only a temporary effect on medium- and long-term interest rates. It is impossible to predict the prices of bonds in the event the Fed stops buying, or actually starts to sell off its massive portfolio, although it is a decent bet that prices would be much lower than current levels.

 

It is also not clear whether stock prices, which are still on a tear and at all-time nominal highs, are at these levels because of optimistic economic prospects, QE, or the beginnings of a loss of confidence in paper money causing a shifting of capital out of fixed income and into purportedly “real” assets. However, the fragility of capital markets, so reliant on zero percent interest rates (ZIRP) and QE Infinity for their equilibrium, is clearer. The markets’ ability to withstand any adversity is highly questionable, and it appears to us that the Fed is basically paralyzed (though they would probably call it “focused and determined”) and afraid (perhaps they would say “prudently risk-averse”) to reduce, much less eliminate, its bond-buying. In this environment, plain-vanilla ownership of stocks or bonds represents a highly conjectural bet on government-manipulated markets.

On The Fed’s lack of effects on the real economy:

 

The Fed is undoubtedly praying that economic growth will accelerate, giving it proper cover to tighten its ultra-loose monetary policy. However, the economy is now in its fifth year of subpar growth, with little pick-up in sight.

On Hedge Funds:

 

Lately we have seen a number of reports about the “disappointing” results of hedge funds. But as we have noted many times before, hedge funds that are actually hedging are unlikely to perform as well as equities during a bull run.

We understand it is not easy for investors to distinguish who is good and sustainable from who is a flash in the pan, but the task is worthwhile, and investors who do the hard work are likely to be pleased with their manager selection in the medium to long term. Unfortunately, the supply of firms that can produce (or at least have a reasonable prospect of achieving) absolute returns is far lower than the demand for such results.

On the “unsound” underlying structural issues of US Fiscal policy:

 

What has been happening with the U.S. federal government in its recent highly-theatrical phase, as contentious and difficult as it has been, is merely a precursor to much bigger events.

we are talking about the underlying structural issues of the federal budget deficit, economic growth, the deeply contentious Affordable Care Act, and the long-term insolvency of the country due to the government having made (and continuing to make) massively unpayable promises for the future. As we have pointed out, the current annual federal deficit, so ballyhooed to be “coming down nicely,” is actually catastrophically out of control. It is not a trillion dollars. The true figure is more like $7 trillion (and growing!) after accounting for unfunded liabilities, which are mounting at a fantastic pace. It is not an exaggeration to say that America is deeply insolvent, and for that matter, so are most of continental Europe, the U.K. and Japan. No combination of achievable growth rates and taxes can pay for the promises that have been made. The numbers are clear and inexorable.

None of the major governmental leaders in these regions is telling the truth about the present state of affairs and where it will lead, nor are they making the structural changes necessary to unlock the potential to grow their respective economies significantly faster than current rates.

As bad as the insolvency is, it would be infinitely worse if governments started to believe that just because they can print money, they can inflate their way out of these long-term obligations. That will not work and would lead the world down the road to total ruin.

The situation is deeply unstable. It is so sad that after the major developed countries recovered from World War II, they gradually morphed from soundly-financed global engines of growth and prosperity into massively over-indebted countries whose currencies will likely collapse well before your grandchildren start looking for their Social Security checks.

On The Global financial system’s fragility:

 

The global financial system is not much healthier. In the last five years, laws and regulations have been passed, bankers have been pilloried, financiers have been vilified, “living wills” have been prepared and carefully and beautifully wrapped for presentation, regulatory entities have been formed and fresh-faced regulators, eager to save the world, have been hired and placed at new desks in front of new computers. But through it all, one thing has not changed: The major banking and other financial institutions remain opaque and overleveraged.

The really bad news is that the “hair-trigger” aspect of modern global trading markets is just getting more intense. Market action from earlier this year is a harbinger of how modern markets will react to a real change in perceptions. In this past spring’s episode, a sign from the Fed that it might gently begin scaling back the pace of its bond-buying caused medium- and long-term bonds to be abruptly repriced, which removed just about all of the price elevation caused by four years of Fed purchases. The lesson of the crash of 2008 was that it is essential to act immediately to save your assets from an uncertain counterparty or clearing firm.

On Yellen and The Fed admitting its wrong:

continue article at ZeroHedge:

http://www.zerohedge.com/news/2013-10-30/elliotts-paul-singer-warns-something-wrong-and-dangerous