“Enron Corp.’s 2001 collapse revealed the extent of its manipulation of spot gas prices. Twelve years later, European Union regulators may discover energy traders never learned the lessons of the scandal.

BP Plc (BP/), Royal Dutch Shell Plc (RDSA) and Platts were visited by EU inspectors last week over allegations they “colluded in reporting distorted prices” to manipulate the published prices of oil and biofuel products, the European Commission in Brussels said after the raids.

Shell, London-based BP and Statoil ASA (STL), three ofEurope’s biggest oil explorers, are under investigation for potential manipulation of prices in the $3.4 trillion-a-year global crude market. The involvement of McGraw Hill Financial Inc. (MHFI)’s Platts, which publishes pricing data, hearkens back to other pricing scandals including Enron, and more recently, Libor.

“We’re making exactly the same mistakes we did with Enron, just with a different commodity,” Robert McCullough, an energy consultant, said by telephone from Portland, Oregon. “The same manipulation we saw in electricity and gas pricing is what we’re seeing in oil.”

The Enron scandal started in 2001 as traders used trading strategies called “Fat Boy” and “Get Shorty” to create phantom congestion in the California energy markets. Electricity prices rose 10-fold on average and California consumers endured days of rolling blackouts.

Rapid Fire…”

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“Chen Li, the UBS AG (UBSN) strategist who predicted the tumble in China’s smallest sharestwo years ago, says the companies are poised to retreat again after valuations rose to the biggest premium over larger stocks since 2010.

The ChiNext index of Shenzhen-listed companies with a median market value of $765 million climbed 43 percent this year through last week, while the CSI 300 Index, which has a median capitalization of $3.5 billion, rose 2.7 percent. The smaller-company gauge traded for 4.6 times net assets versus 1.7 for the CSI index, the widest gap since June 2010, data compiled by Bloomberg show.

Small-cap stocks have surged on speculation President Xi Jinping’s plan to boost the consumer, technology and alternative energy industries will benefit companies from Huayi Brothers Media Corp. (300027) to Leshi Internet Information & Technology Co. (300104) The rally may get derailed by tighter monetary policy, which helped spur the last slump, according to Chen.

“The bubble may burst” within two months, Chen said in a May 9 phone interview. The Shanghai-based strategist predicted in January 2011 that small-cap stocks would drop as much as 20 percent. The ChiNext gauge fell 21 percent in nine months.

Investors will rotate out of smaller companies and into larger stocks as liquidity tightens, Chen said.

Tightening Liquidity…”

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“The end of the payroll tax holiday is prompting consumers to cut spending, according to a new survey from Federal Reserve Bank of New York.

Of the 370 individuals surveyed, 79 percent said they plan to cut spending in response to the end of the tax cut, while nearly 20 percent said they will cut savings and 2 percent will increase debt (borrowing).

The payroll tax cut reduced Social Security and Medicare taxes withheld from paychecks by 2 percent in 2011 and 2012, impacting 155 million workers. It gave an extra $1,000 a year to the average household earning $50,000.

The economists compared how people had used the extra money with what they say they’re doing in response to the end of the tax.

“We see a disproportionate shift toward primarily reducing spending,” New York Fed economists Basit Zafar, Max Livingston and Wilbert van der Kaauw write in their report. “Regardless of what consumers reported doing with the increase in take-home pay over the last two years, a majority report that they will cut back on spending.”

For example, 86.2 percent of those who mostly spent the extra money said they now plan to mostly cut spending, and 80 percent of those who used the extra funds mostly to pay off debt also plan to mostly reduce spending. ….”

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“Spain is officially insolvent. Just look at the International Monetary Fund (IMF)’s latest Fiscal Monitor, says U.K. Daily Telegraph columnist Jeremy Warner.

His advice: Get your money out now.

“I don’t advise getting your money out lightly. Indeed, such advice is generally thought grossly irresponsible, for it risks inducing a self-reinforcing panic. Yet looking at the IMF projections, it’s the only rational thing to do.”

The IMF’s report, he says, comes as close to declaring Spain as being insolvent as you’ll ever see in an official analysis.

“The IMF is far too diplomatic for such language. But that’s the plain meaning of its latest forecasts, which at last have an air of realism about them, rather than being the usual dose of wishful thinking,” Warner writes.

Spain’s budget deficit is projected to decline this year to 6.6 percent of gross domestic product (GDP), Warner notes. That steep drop is mostly due to the cost of bailing out the banking sector from last year. Other than that, the deficit didn’t really fall much. And the IMF doesn’t predict it to fall any time soon.

The structural deficit, or permanent debt remaining even after economic growth returns, is even worse.

“By 2018, Spain has far and away the worst structural deficit of any advanced economy, including other such well known fiscal basket cases as the U.K. and the U.S.,” Warner explains…..”

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“Central banks got it right when they saved the world economy, but their unprecedented actions risk disruptive cross-border spillovers and potentially heavy losses when the time comes to reverse course, the IMF said on Thursday.

In its most detailed survey so far of the dramatic measures taken to counter the damage from the 2007-09 financial crisis, International Monetary Fund staff repeated earlier assessments that the steps had worked but face diminishing returns.

However, in new research, they also said central banks could face severe losses when they begin to withdraw the extraordinary sums of money they have pumped into financial systems around the world.

Massive market bets are riding on whether the U.S. Federal Reserve and its peers can execute a graceful withdrawal from more than four years of ultra-easy monetary policy, which helped restore confidence in global growth.

Central banks have pumped trillions of dollars, euro and yen into the global economy through bond-buying campaigns after interest rates were slashed close to zero.

The ultra-easy monetary policies have prompted critics to warn of the risk of inflation and asset price bubbles, while some developing nations have argued their richer counterparts were seeking to gain an export edge by lowering the value of their currencies.

Jaime Caruana, head of the Bank for International Settlements, warned on Thursday that big central banks should not delay in winding down their economic support programs. The BIS advises global central banks.

But the IMF found the benefits of unconventional measures still outweighed the potential costs in the United States and Japan, and it reserved its toughest language for politicians who fail to undertake long-overdue economic reforms.

“A key concern is that monetary policy is called on to do too much, and that the breathing space it offers is not used to engage in needed fiscal, structural, and financial sector reforms,” the IMF said in the report.

“These reforms are essential to ensuring macroeconomic stability and entrenching the recovery, eventually allowing for the unwinding of unconventional monetary policies,” it said.

FRIEND OR FOE…”

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“A so-so first-quarter earnings season hasn’t dented investors’ enthusiasm for stocks.

Profit at large U.S. companies modestly exceeded Wall Street analysts’ expectations, while revenue was weak and many companies ratcheted down growth projections.

But stock prices have been rising, with the Dow Jones Industrial Average up 16% for the year and 4.2% since earnings season began April 8 with a mixed report from aluminum company Alcoa Inc. AA 0.00%

The developments have added up to a rise in stock-market valuations. The price/earnings ratio on the Standard & Poor’s 500-stock index now stands at 14.5, its highest level since 2010.

Stock-rally skeptics said that spells trouble. They contend soft U.S. economic growth and expanding P/E multiples can’t coexist forever. Economists predict U.S. gross domestic product will expand at a slower rate in the second quarter than the first, when it increased at a 2.5% annual rate. Government spending cuts known as the sequester came into effect March 1. The Labor Department said Thursday that initial jobless claims increased by 32,000 to a seasonally adjusted 360,000 in the week ended May 11, the largest one-week gain since November.

But many market watchers emphasize there are few other options available for investors. With the Federal Reserve committed to buying $85 billion a month in bonds for the foreseeable future, pushing down interest rates and reducing the income investors can make on assets perceived as safe like Treasurys, many will likely continue pushing into stocks, betting that the economy will continue to improve. “Revenue is not good,” said Adam Parker, chief U.S. equity strategist with Morgan Stanley MS -1.14% . “But people are giving companies a hall pass for that, because most believe that companies will do better in the second half of the year.”

Longtime bulls have been waiting for years for investor confidence in the rally to pick up. Even as shares soared off their March 2009 financial-crisis lows, investors sent only a trickle of cash into stocks despite a recovery in corporate profits. But that has changed this year with the pickup in the stock market and the rise of other riskier asset classes such as “junk” bonds, those issued by below-investment-grade companies.

The increased flows come as the corporate-earnings recovery has plateaued…..”

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“The market is seemingly in can’t-lose mode.

When there’s good news, stocks spike. When there’s bad news, stocks go nowhere. Lots of people say this is all the doing of the Fed, and that it’s a bubble that will end in tears.

In a great, thorough post, Josh Brown destroys the comparisons between 2013 and 1999 in utterly convincing manner.

It’s a very thorough post which attacks this comparison in multiple ways.

The simplest debunking is on valuation. Right now, he notes, the S&P 500 is earning twice what is was in 1999. And the dividends are twice as big as well:

What kind of premium, pray tell, are we paying for double the earnings and twice the dividend yield versus 1999’s market? I’m so glad you asked – turns out we’re not paying any premium at all. We’re paying a discount. 50% off. The current S&P 500 trades for a PE of 14 versus 33 for 1999. So double the fundamentals for half the price.

And he destroys the idea that there’s speculation everywhere by reminding readers what the scene was really like in 1999, for those who have forgotten:

In 1999, the S&P 500 rose by 19.5% – a good gain but you should know that the gains were extremely concentrated, more than half of the companies in the S&P were actually negative on the year! The Nasdaq 100 was up an astounding 85% in 1999, a mania for the ages, but an extremely sector-specific one. This contrasts with today, where almost every sector is now participating in the advance in a rolling, rotating, sexually undulating manner not unlike the midriff of a belly dancer….”

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“Federal Reserve Vice Chairman Janet Yellen is seen by a third of international investors as the most likely to take the helm of the central bank when Ben S. Bernanke’s term ends in January.

The second-most probable choice is Bernanke himself, according to a quarterly poll of investors, analysts and traders who are Bloomberg subscribers — even though the Fed chairman has said he feels no personal responsibility to remain for another term.

Speculation about the succession at the central bank intensified after the Fed said April 21 that Bernanke would skip an annual symposium in Jackson Hole, Wyoming, because of a personal scheduling conflict. Yellen, a 66-year-old former professor at the University of California-Berkeley, has been identified by Fed watchers as a favorite, with former governor Laurence Meyer saying she has “right of first refusal.”

Yellen “has a strong record of monetary policy experience, to state the obvious, but she is also perhaps too dovish,” or overly concerned by unemployment, said David Schimizzi, senior economist at Ally Financial Inc. in Charlotte, North Carolina. “While turning off the spigots of monetary policy support immediately may not be a good idea, Yellen may push the Federal Reserve to undertake policies that could increase the risk that inflation could accelerate too quickly in the intermediate term.”

The Bloomberg poll showed 34 percent expect President Barack Obama to choose Yellen, while 27 percent predicted Bernanke and 17 percent named another candidate from a list of four other names.

Familiarity Lacking…”

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“BEIJING (AP) — Global economic malaise has knocked the stuffing out of Luo Yan’s business making toy animals.

Sales of Hello Kitty dolls and plush rabbits have fallen 30 percent over the past six months, according to Luo, owner of Tongle Toy Enterprise, which employs 100 people in the southern city of Foshan, near Hong Kong. Orders from the United States and debt-crippled Europe are down 80 percent.

“We don’t talk about profits anymore,” said Luo.

China’s shaky recovery is losing steam, adding to pressure on its new leaders to shore up growth after a surprise first-quarter decline and launch new reforms to support entrepreneurs like Luo who create its new jobs and wealth.

“The current leadership is not taking this issue very easily,” said Li Daokui, a Tsinghua University economist and former central bank adviser, at a financial conference organized by investment bank CLSA. “This is their first item: Make sure the economy doesn’t slow down too much,” Li said. “Second, regenerate the enthusiasm for reform.”

President Xi Jinping and other leaders have pledged to make the economy more productive but have yet to make clear how far they will go in curbing the dominance of state industry and making other changes reform advocates say are required. It is a politically thorny challenge but reform might be driven by slowing growth and concern about tensions due to a lack of new jobs.

April factory output and investment fell short of forecasts, adding to pessimism after forecasts of an upturn in growth were dashed by the decline in the first three months of the year, though to a still-healthy 7.7 percent from the previous quarter’s 7.9 percent.

“Slow growth may trigger reform,” said Citigroup economist Minggao Shen in a report.

Potential areas for change range from allowing private competitors into state-run industries such as telecoms to making it easier for entrepreneurs to get credit from banks that now channel most lending to government companies.

Market-style reforms were a low priority over the past decade. Beijing focused on building state-owned corporate giants in banking, energy and other fields and then responding to the 2008 global crisis by pumping up government spending. But the World Bank and other advisers warn that if it fails to allow more free-market competition, annual growth could fall as low as 5 percent by 2015 — dangerously low for a Communist Party that needs rising living standards to underpin its claim to power…..”

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“According to European Central Bank Governing Council member Ewald Nowotny, Federal Reserve Chairman Ben Bernanke sees no risk of inflation in the United States. According to Nowotny, Bernanke had given a “very optimistic” portrayal of the US outlook.

“They see absolutely no danger of an expansion in inflation,” Nowotny said. Bernanke had said US inflation should be 1.3 percent this year.

Fed forecasts put inflation by the end of this year in a range of 1.3 to 1.7 percent. The yearly rate of growth of the consumer price index (CPI) stood at 1.5 percent in March against 2 percent in February and 2.7 percent in March last year.

Also the growth momentum of the core CPI (the CPI less food and energy) has eased in March from the month before. Year-on-year the rate of growth has softened to 1.9 percent from 2 percent in February and 2.3 percent in March last year.

For Bernanke and most experts, the key factor that sets the foundation for healthy economic fundamentals is a stable price level as depicted by the consumer price index.

According to this way of thinking, a stable price level doesn’t obscure the visibility of the relative changes in the prices of goods and services, but enables businesses to see clearly market signals that are conveyed by the relative changes in the prices of goods and services. Consequently, it is held, this leads to the efficient use of the economy’s scarce resources and hence results in better economic fundamentals.

For instance, let us say that a relative strengthening in people’s demand for potatoes versus tomatoes took place. This relative strengthening, it is held, is going to be depicted by the relative increase in the prices of potatoes versus tomatoes.

Now in a free market, businesses pay attention to consumer wishes as manifested by changes in the relative prices of goods and services. Failing to abide by consumer wishes will lead to the wrong production mix of goods and services and will lead to losses.

Hence in our case businesses, by paying attention to relative changes in prices, are likely to increase the production of potatoes versus tomatoes.

According to this way of thinking, if the price level is not stable, then the visibility of the relative price changes becomes blurred and consequently, businesses cannot ascertain the relative changes in the demand for goods and services and make correct production decisions.

This leads to a misallocation of resources and to the weakening of economic fundamentals. In short, unstable changes in the price level obscure changes in the relative prices of goods and services. Consequently, businesses will find it difficult to recognize a change in relative prices when the price level is unstable.

Based on this way of thinking it is not surprising that the mandate of the central bank is to pursue policies that will bring price stability, i.e., a stable price level…..”

“Top officials at the International Monetary Fund on Tuesday challenged financial regulators imposing far-reaching reforms on the biggest banks, arguing that the global benefits of reform efforts must outweigh their costs.

Officials including José Viñals, financial counsellor and director of the IMF’s monetary and capital markets department,said in a paper that initiatives such as the Volcker rule in the U.S. and similar proposals in Europe could impose significant costs on the global economy, such as reduced liquidity in financial markets. They could also increase the risk that financial activity will migrate to institutions, sectors or jurisdictions subject to less supervision, the paper said.

The warning comes as U.S. regulators attempt to finalize various proposals, including the one named after Paul Volcker, the former Federal Reserve chairman, which bans banks from trading for their own profit and significantly restricts their investments in risky ventures such as hedge funds and private-equity firms. Another pending rule threatens to raise costs for foreign banks by ratcheting up their capital requirements.

The IMF staff paper may buttress arguments made by foreign regulators and officials who have complained about proposals they say could harm foreign banks or drive up sovereign borrowing costs because leading U.S. banks may limit their activities.

But the IMF paper stops short of fully endorsing claims made by these authorities, including those from Germany and Japan. Instead, the IMF officials said that national proposals to restructure large banks, limit their activities or heighten requirements on foreign banks may be justified if regulators are unable to effectively supervise complex financial institutions or if foreign officials refuse to rein in banks considered to be “too important to fail”….”

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“Without corrective action the U.S. retirement system is headed for a “train wreck,” according to John C. “Jack” Bogle, senior chairman and founder of The Vanguard Group.

He identified three pillars of the retirement system: Social Security; the defined-benefit plan and the defined-contribution plan.

“They are all in terrible shape,” Bogle told philly.com. “Social Security, I could fix it in five minutes. I’d change the cost-of-living adjustment, not to cheat the retired people, but to get a formula that was right. It would result in savings. That, in itself, would probably cure it.”

He also suggested other changes, including raising the maximum taxable earnings for Social Security “to, maybe, $140,000, $150,000.” This year the maximum is $113,000.

“Raising it would pour money into the Social Security system,” he said. “Just those couple of little adjustments are easy to conceptualize, easy to prove the economics of, and impossible to get through our Social Security system. We have a fundamental conflict in the way Social Security is done. It’s essentially younger people paying for the retirement of older people,” he said.

“The younger people are going to be unhappy with this because they have to pay more. The older people are going to be unhappy because they calculated benefits under the old, and I think, incorrect, system, and they will be getting less.”

As of June 30, 2011, 54.8 million people, or 17.6 percent of the U.S. population, were receiving monthly Social Security benefits, according to justfacts.com….”

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“Billionaire investor Daniel Loeb’s proposal to separate Sony Corp. (6758)’s movie, music and TV businesses would give the Tokyo-based company a chance to join the 3 1/2-year media rally it has missed.

Loeb, founder of Third Point LLC, yesterday recommended selling as much as 20 percent of Sony’s entertainment unit in an initial public offering that would free it from the struggling electronics business. As an independent company, the maker of “Spider-Man” movies would benefit from more disciplined management, investor attention and fatter profits, giving a $6.1 billion lift to Sony’s market value, he wrote in a letter to Chief Executive Officer Kazuo Hirai.

The move from Sony’s largest shareholder comes as media stocks surge to all-time highs amid growing optimism that makers of films and television shows will weather a decline in home-video sales by signing online outfits like Netflix Inc (NFLX). and Amazon.com Inc. (AMZN) as distributors. With Sony the top-grossing U.S. film studio last year with year with $4.4 billion in worldwide ticket sales, the spinoff could boost the value of its entertainment unit as much as 50 percent, according to Paul Sweeney, a senior analyst at Bloomberg Industries.

“Media stocks have been ripping over the past three-and-a-half years,” said Sweeney, who estimates Sony’s entertainment units, valued at an implied $8 billion, could fetch as much as $12 billion. “Investors have a hard time valuing those businesses within the greater Sony conglomerate.”

Entertainment Boom

Media stocks including Walt Disney Co. (DIS), Lions Gate Entertainment Corp. (LGF) and CBS Corp. (CBS) are at or near all-time highs. Since January 2010, the S&P 500 Media Index has more than doubled, while Sony, with one of the world’s largest collections of movie, television and music businesses, has declined 28 percent….”

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“The Dow Jones Industrial Average has been increasing aggressively all year, and investors see no end in sight. The Dow ETF (DIA) is now over $150 and at an all-time high. Arguably, central banks have started to buy equities, and because they tend to be attracted to safer investments, we could surmise that central bank equity investments are targeting the Dow Jones Industrial Average as well. But are they right to do so?

Historically, the Dow Jones Industrial Average has been comprised of safer equity investments, companies capable of weathering substantial hits to the stock market, but more importantly, companies with business models that have been proven to work over time.

Given what we all have known about the DJIA in the past, and what we know about its composition today, we can still agree that the companies that comprise the index are solid companies that are likely to withstand major economic catastrophe, but at a certain point, valuation must come into play. In this specific instance, it is a concern….”

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“Top real estate investor Sam Zell is predicting stocks will soon tumble.

“Right now you are buying at an all-time high,” Zell said at a hedge fund conference in Las Vegas, according to Fortune magazine. “And there are times when stocks hit a high, and then go higher, but that’s when you have a good economy.”

Stocks are up 15 percent so far this year and the Dow Jones Industrial Average has passed 15,000 for the first time. But while stock prices are booming, underlying fundamentals remain weak, said Zell, chairman of Equity Group Investments, noting his own companies are still struggling to increase revenues.

Editor’s Note: Billionaires Dump Stocks. Prepare for the Unthinkable.

“The current euphoria in the stock market will be adjusted,” Zell stated, Fortune reported. “And I hope that’s all that happens.”

Besides the weak U.S. economy, other causes for concern are the turmoil in the Middle East and the Bank of Japan’s push to re-energize its economy by increasing inflation.

“That’s not QE [quantitative easing],” he said of Japan’s policy. “I don’t know what you call it.”

Zell believes the housing market might also be in a bubble, as large investors are buying houses in large quantities, pushing up prices. They might end up losing money, warned Zell, who noted that managing houses is more difficult that owning apartment buildings…”

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“Last July, when stocks weren’t doing so hot and the Dow Jones Industrial Average rested below 12,900, Seth Masters, chief investment officer of Bernstein Global Wealth Management, made a bold call.

He predicted the Dow would reach 20,000 by the end of the decade. And he’s sticking to his guns, The New York Times reports, even though the prediction isn’t quite so controversial with the Dow closing at 15,091 Monday.

“It seems we’re somewhat ahead of schedule, but I think we’re still on track for Dow 20,000 by the end of the decade,” Masters told the paper. “The odds have just gotten better.”

He still thinks stocks are cheap as compared with bonds.

“It’s not that the expected return on stock right now is really that high,” he said. “It’s that the return on government bonds is indubitably very low.”

The 10-year Treasury yield stood at 1.92 percent early Tuesday morning.

To be sure, the rise in stocks won’t be straight up, Masters says. “I don’t think the path to Dow 20,000 will be linear. … There will be declines, you can count on that.” …”

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“David Tepper is on CNBC arguing that stocks are still a buy.

During his appearance, he held up a chart from the blog Liberty Street Economics, which is a blog hosted by the New York Fed.

The chart he shows shows the Equity Risk Premium, which is the gap between expected return on stocks vs. bonds.

Based on traditional measures of the Equity Risk Premium (ERP) stocks are about as cheap as they’ve been in 50 years, a function somewhat of ultra-low bond yields.

From the Liberty Street Economics blog, here’s an explanation of the ERP and the chart which shows that stocks are really cheap.

We surveyed banks, we combed the academic literature, we asked economists at central banks. It turns out that most of their models predict that we will enjoy historically high excess returns for the S&P 500 for the next five years. But how do they reach this conclusion? Why is it that the equity premium is so high? And more importantly: Can we trust their models?

The equity risk premium is the expected future return of stocks minus the risk-free rate over some investment horizon. Because we don’t directly observe market expectations of future returns, we need a way to figure them out indirectly. That’s where the models come in. In this post, we analyze twenty-nine of the most popular and widely used models to compute the equity risk premium over the last fifty years. They include surveys, dividend-discount models, cross-sectional regressions, and time-series regressions, which together use more than thirty different variables as predictors, ranging from price-dividend ratios to inflation. Our calculations rely on real-time information to avoid any look-ahead bias. So, to compute the equity risk premium in, say, January 1970, we only use data that was available in December 1969…..”

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