Today's ReadsInteresting readings from today
Cyprus is the new epicenter of the European financial crisis. In return for Eu10 billion bailout, the EU imposed 9.9% tax on deposits greater than Eu100K and 6.7% on less than that amount. If approved by the parliament (vote postponed), this is will raise Eu6 billion. This is quite an unprecedented move and will likely impact market tomorrow especially given that everyone is looking for an excuse to sell. Forbes even compares this to Lehman debacle. Note that banking system in Cyprus is 8x larger than the economy, so bailing them out is bailing out foreigners especially the Russians, not a politically palatable solution for Euro politicians.
Pimco's Bill Gross, in his March think piece "Rational Temperance" attempts to answer somewhat un-answerable question, when would we know when there is irrational asset bubble. My view is that you don't. But he does make an interesting point in that HY debt market is a better indicator than equity market because it is set by institutional investors or better informed people. Basically says look at the issuance, which is inversely correlated with future returns, that'll give you the probability of irrational bubble - currently 6/10 in his view and moving higher.
One of the points Bill Gross makes is that he found the close relationship between HY spread and equity interesting. Duh! That comes directly from Black-Shoals option pricing model. Basically, equity and debt are joined at the hip; no wonder they act in a similar fashion.
Talking about market peaks, Prof Robert Shiller attempts to put that in perspective in a NYT oped, Yes, We’re Confident, but Who Knows Why. His answer to whether we are in a stock market peak now is typical of an academic, we don't know. He uses two measures to take the gauge of the market (1) valuation confidence i.e. % of institutional investors and individual investors who think market is not overvalued (2) cyclically adjusted price-earnings ratio (CAPE), which is real, or inflation-adjusted, Standard & Poor’s 500 index divided by a 10-year average of real S.& P. earnings. Currently, both confidence and CAPE are at relatively high levels but based on 2000 and 2007 experiences, they don't tell anything about the future.
