For the week, the S&P500 slipped 0.6% (up 4.9% y-t-d), and the Dow dipped 0.3% (up 6.6%). The S&P 400 Mid-Caps slipped 0.5% (up 8.3%), and the small cap Russell 2000 declined 0.7% (up 6.6%). The Banks dropped 2.5% (down 2.1%), and the Broker/Dealers declined 0.8% (down 1.2%). The Morgan Stanley Cyclicals fell 1.7% (up 3.5%), while the Transports gained 1.1% (up 3.5%). The Morgan Stanley Consumer index increased 1.3% (up 2.4%), and the Utilities added 0.2% (up 1.7%). The Nasdaq100 declined 0.6% (up 4.0%), and the Morgan Stanley High Tech index fell 0.8 % (up 1.8%). The Semiconductors dropped 1.9% (up 4.7%). The InteractiveWeek Internet index dipped 0.4% (up 3.0%). The Biotechs jumped 3.2% (up 10.0%%). Although bullion added $12 to another new record, the HUI gold index retreated 3.6% (up 1.8%).
One-month Treasury bill rates ended the week at 3 bps and three-month bills closed at 8 bps. Two-year government yields dropped 11 bps to 0.69%. Five-year T-note yields ended the week down 18 bps to 2.12%. Ten-year yields fell 17 bps to 3.41%. Long bond yields ended the week down 17 bps to 4.49%. Benchmark Fannie MBS yields were 15 bps lower to 4.23%. The spread between 10-year Treasury yields and benchmark MBS yields widened 2 bps to 82 bps. Agency 10-yr debt spreads were little changed at negative 3 bps. The implied yield on December 2011 eurodollar futures dropped 8.5 bps to 0.50%. The 10-year dollar swap spread declined 1.5 to 8.5 bps. The 30-year swap spread was little changed at negative 23 bps. Corporate bond spreads were mostly wider. An index of investment grade bond risk was little changed at 94 bps. An index of junk bond risk increased 12 bps to 445 bps.
Investment grade debt issuers included Wal-Mart $5.0bn, Fuel Trust $1.5bn, Alcoa $1.25bn, Monsanto $300 million, Northern Natural Gas $200 million, and Colonial Pipeline $250 million.
Junk bond funds saw inflows of $230 million (from Lipper). Issuers included Texas Competitive $1.75bn, IGate $770 million, Burger King $685 million, Nortek $500 million, Calumet Specialty Products $400 million, Vail Resorts $390 million, Chesapeake Midstream $350 million, Georgia Power $250 million, Commercial Vehicle Group $250 million, Sugarhouse Casino $235 million, American Rock Salt $175 million, Spencer Spirit $175 million, and Sizzling Platter $135 million.
I saw no convertible debt issued.
International dollar debt issuers included Societe Generale $3.5bn, Royal Bank of Canada $1.75bn, Credit AG Home Loan $1.5bn, Export Development Canada $1.0bn, Poland $1.0bn, MDC-GMTN $750 million, Hypermarcas $750 million, Export-Import Bank of Korea $700 million, Cie Financement Foncier $500 million, Santander $500 million, Hyundai Steel $500 million, Promsvyazbk $500 million, CMA $475 million, Turkiye Garanti Bankasi $800 million, and Taseko Mines $200 million.
U.K. 10-year gilt yields dropped 21 bps this week to 3.60% (up 9bps y-t-d), and German bund yields fell 10 bps to 3.38% (up 42bps). Ten-year Portuguese yields rose 32bps to 8.87% (up 229bps). Spanish yields increased 16 bps to 5.41% (down 3bps). Irish yields surged 45 bps to 9.51% (up 46bps), and Greek 10-year bond yields surged 97 bps to 13.71% (up 125bps). The German DAX equities index slipped 0.5% (up 3.8% y-t-d). Japanese 10-year "JGB" yields declined 3.5 bps to 1.28% (up 16bps). Japan's Nikkei fell 1.8% (down 6.2%). Emerging markets were mixed. For the week, Brazil's Bovespa equities index dropped 3.0% (down 3.8%), and Mexico's Bolsa declined 1.3% (down 4.1%). South Korea's Kospi index rose 0.6% (up 4.4%). India’s equities index slipped 0.3% (down 5.5%). China’s Shanghai Exchange added 0.7% (up 8.6%). Brazil’s benchmark dollar bond yields fell 9 bps to 4.59%, and Mexico's benchmark bond yields declined 5 bps to 4.48%.
Freddie Mac 30-year fixed mortgage rates increased 4 bps to a seven-week high 4.91% (down 16bps y-o-y). Fifteen-year fixed rates added 3 bps to 4.13% (down 27bps y-o-y). One-year ARMs were 3 bps higher to 3.25% (down 88bps y-o-y). Bankrate's survey of jumbo mortgage borrowing costs had 30-yr fixed jumbo rates down 2 bps to 5.43% (down 45bps y-o-y).
Federal Reserve Credit jumped $23.7bn to a record $2.643 TN (23-wk gain of $363bn). Fed Credit was up $236bn y-t-d and $346bn from a year ago, or 15.0%. Elsewhere, Fed Foreign Holdings of Treasury, Agency Debt this past week (ended 4/13) jumped $10.4bn to a record $3.418 TN. "Custody holdings" were up $383bn from a year ago, or 12.6%.
Global central bank "international reserve assets" (excluding gold) - as tallied by Bloomberg – were up $1.742 TN y-o-y, or 28.4%, to a record $9.649 TN.
M2 (narrow) "money" supply jumped $26bn to a record $8.924 TN. "Narrow money" has expanded at a 3.7% pace y-t-d and 4.7% over the past year. For the week, Currency increased $1.2bn. Demand and Checkable Deposits were little changed, while Savings Deposits surged $29.6bn. Small Denominated Deposits slipped $2.8bn. Retail Money Funds declined $1.8bn.
Total Money Fund assets added $2.3bn last week to $2.746 TN. Money Fund assets were down $64bn y-t-d, with a decline of $167bn over the past year, or 5.7%.
Total Commercial Paper outstanding rose $6.0bn to $1.099 Trillion. CP was up $130bn y-t-d, or 39% annualized, and $25bn from a year ago (2.3%).
Global Credit Market Watch:
April 14 – Bloomberg (Zeke Faux): “Moody’s… and Standard & Poor’s adjusted the way they graded securities after Goldman Sachs…, UBS AG and at least six more banks pressured them, according to a U.S. Senate report. The world’s two largest bond-ranking companies… made exceptions to rules when bankers asked for better safety ratings on complex mortgage-backed securities, the Senate Permanent Subcommittee on Investigations said… When Moody’s and S&P changed their assessments of hundreds of those bonds in July 2007, it helped trigger the financial crisis, the panel said. ‘The ratings agencies weakened their standards as each competed to provide the most favorable rating to win business and greater market share… The result was a race to the bottom.’”
April 12 – Bloomberg (Ben Martin): “Europe’s junk bond market is set for a year of record sales, with even companies from the region’s most troubled nations issuing four times as much debt as this time in 2010… Even as their governments flounder, borrowers from Europe’s so-called periphery account for $7.4 billion of the issuance, up from $1.7 billion a year ago.”
April 13 – Bloomberg (Daniel Ten Kate): “Surging oil and food costs may swell budget deficits in Asia as governments spend on subsidies to keep consumer prices low and avoid inflation protests that helped topple regimes in the Middle East this year. India, Indonesia, Malaysia and Thailand, Asia’s biggest fuel subsidizers, will probably all miss fiscal deficit targets due to higher oil outlays, according to a… Bank of America Merrill Lynch research note.”
April 14 – Bloomberg (Emre Peker and Sapna Maheshwari): “The rally in high-yield debt that fostered the biggest ever refinancing boom is showing signs of faltering as relative yields on U.S. junk bonds jump to a five- week high and leveraged-loan prices slump to a two-month low.”
Global Bubble Watch:
April 11 - Dow Jones: “A prominent Chinese economist and former adviser to the country's central bank Monday likened the market for U.S. Treasury bonds to a giant ponzi scheme, and argued China should float the yuan in part so it doesn't have to acquire so many Treasury assets. ‘China should have retreated from the U.S. government bond market a long time ago,’ Yu Yongding, currently an economist at a state think tank and formerly a member of the People's Bank of China monetary policy committee, wrote… ‘The (U.S government) bond market was essentially bolstered by a ponzi scheme. The U.S. Federal Reserve's policy of quantitative easing has artificially kept the bonds at a high price. However, the market price of the bonds will eventually fall to a level determined by the fundamentals of the U.S economy,’ Yu added. China should allow a free floating yuan, he argued, intervening in the foreign exchange market only when necessary, as this would reduce the need to acquire U.S. dollar assets. An appreciation of the yuan would also help control money supply growth and inflation, he added. Yu has no official sway over policy, and his views could hardly be considered the consensus among policymakers. But his sharply worded essay is a window into the contentious debate, taking place largely behind closed doors, between various top officials and scholars in China on the country's exchange rate and foreign investment policies."
April 11 – Bloomberg (John Detrixhe): “China’s decision to keep its currency weak has caused the government to lose control of inflation and risks fuelling wage-price gains, billionaire investor George Soros said. While the policy helped insulate China from the financial crisis in 2008, the world’s second-biggest economy has missed its chance to allow the yuan to appreciate to tame inflation, Soros… said… ‘It would be very advantageous to allow the currency to appreciate as a way of controlling inflation,’ Soros said. ‘The authorities missed that opportunity. You now have inflation somewhat out of control, and causing some serious danger of wage-price inflation.’”
Municipal Debt Watch:
April 13 – Financial Times (Aline Van Duyn): “The $3,000bn US municipal bond market is facing a fresh threat: tax reform. After the heated fight over how to cut the US budget deficit almost resulted in the shutdown of the US government last week, the arguments over money are not likely to cool any time soon. Still on the agenda are numerous suggestions for eliminating tax benefits. US states, local governments and municipalities have been able to borrow cheaply for years, in part because most buyers do not have to pay tax on the interest paid on bonds. Removing this loophole would bring in extra revenues for the federal government – but would require a complete rethink of one of the biggest debt markets in the world.”
April 15 – Bloomberg: “China’s foreign-exchange reserves exceeded $3 trillion for the first time, highlighting global imbalances that Group of 20 finance chiefs aim to tackle at meetings in Washington. China’s currency holdings, the world’s biggest, swelled by $197 billion in the first quarter… New loans were a more-than-estimated 679.4 billion yuan ($104bn) in March… Premier Wen Jiabao’s policy of controlling the currency, along with trade surpluses and flows of capital into the fastest-growing major economy, have boosted the reserves by $1 trillion in two years.”
The U.S. dollar index slipped 0.3% to 74.83 (down 5.3% y-t-d). On the upside for the week, the New Zealand dollar increased 2.1%, the Japanese yen 2.0%, the Swiss franc 1.6, the Singapore dollar 1.1%, the Mexican peso 0.6%, the Swedish krona 0.3% and the Norwegian krone 0.2%. On the downside, the South African rand declined 2.4%, the South Korean won 0.6%, the Brazilian real 0.5%, the Canadian dollar 0.4%, the Danish krone 0.4%, the Euro 0.4%, the British pound 0.3%, and the Taiwanese dollar 0.3%.
Commodities and Food Watch:
April 11 – Bloomberg (Jeff Wilson): “All the soybeans in Iowa won’t be enough to meet the anticipated surge in China’s imports over the next four years as the nation feeds a record pig herd and drives bean prices to an all-time high. China, which doubled meat consumption in the past two decades, may boost international soybean purchases 33% to 66.9 million metric tons by 2014… Almost half the world’s pork comes from China, which has 689 million pigs and will be responsible for all of this year’s increase in global supply… That’s adding to China’s dependence on raw-material imports from Brazil to Australia to the U.S., making it vulnerable to inflation… ‘China is building a livestock and meat industry in five years that took the United States 50 years,’ said Michael Swanson, the senior agricultural economist…Wells Fargo… ‘U.S. farm trade with China may double in the next five years.’”
The CRB index retreated 1.6% (up 9.0% y-t-d). The Goldman Sachs Commodities Index declined 2.3% (up 17.6%). Spot Gold gained 0.8% to a record $1,487 (up 4.6%). Silver surged 4.8% to $42.57 (up 38%). May Crude fell $3.13 to $109.66 (up 20%). May Gasoline added 0.9% (up 34%), and May Natural Gas jumped 4.0% (down 5%). July Copper fell 5.4% (down 4%). May Wheat sank 6.7% (down 6.3%), and May Corn declined 3.1% (up 18.3%).
China Bubble Watch:
April 15 – Bloomberg: “China’s economy grew a more-than-estimated 9.7% in the first quarter and inflation accelerated in March to the fastest pace since 2008, adding pressure for more monetary tightening. Consumer prices rose 5.4% from a year earlier…”
April 13 – Financial Times (Robert Cookson in Hong Kong and Jamil Anderlini): “Chinese companies have this year embarked on an unprecedented borrowing spree in international bond markets, a trend driven by property developers starved of credit by state-owned banks. Mainland groups have already borrowed $12.2bn from international investors so far in 2011 – more than five times the amount they had secured by the same point last year, according to… Dealogic. Dealmakers calculate that within a couple of months the total will break the record $15.8bn that Chinese companies raised from offshore bond sales during the whole of 2010. ‘It’s been a phenomenal start to the year for the China market,’ said Terence Chia, of Citigroup’s Asian debt syndication team. ‘We expect this trend to continue.’”
April 13 – Bloomberg: “China’s debt rating may be cut for the first time in 12 years after a record jump in lending added to risks that bad loans will overwhelm banks in the world’s fastest-growing major economy. Fitch Ratings lowered its outlook on China’s AA- long-term local-currency rating to ‘negative’ from “stable,” citing a ‘high likelihood of a significant deterioration’ in banks’ asset quality within three years… Bad loans could rise to 15% to 30% of the total, with concern at the quality of lending compounded by growth in off-balance-sheet credit, Fitch said. Chinese banks extended 7.95 trillion yuan ($1.2 trillion) of new loans last year… ‘Fitch has documented a proliferation of off-balance sheet and other more or less informal channels through which credit is being extended to the economy,’ Andrew Colquhoun, head of Fitch’s Asia-Pacific sovereign unit, told a conference… ‘This gives rise to concerns that the effectiveness of monetary policy may be decreasing.’ …Loans to companies and households in China rose to about 140% of gross domestic product last year, from 111% in 2008, Fitch said. The increase is linked to property lending and local-government financing, it said.”
April 11 – Bloomberg: “China’s faster-than-expected growth in exports and imports last month may allow Premier Wen Jiabao to strengthen his fight against inflation… Overseas shipments jumped 35.8% and imports climbed 27.3%, unexpectedly pulling the trade balance into surplus… Inbound crude oil shipments in the first quarter rose 12% by volume and 39 percent by value to $43.7 billion. The cost of iron ore imports jumped 82.5% to $27.7 billion while the amount of metal climbed 14.4%...”
April 12 – Bloomberg: “Beijing’s average new home prices fell 10.9% in March from a year ago to 19,679 yuan per square meter, the first year-on-year decline since September 2009…”
April 13 – Bloomberg: “Chinese banks may have to raise about 860 billion yuan ($131 billion) of equity through 2016 to meet stricter capital rules, according to estimates from the industry regulator… Lenders are likely to need an additional 1.26 trillion yuan in supplementary capital over the six years… The estimates, compiled in January, assume economic growth of 8% a year and 15% credit expansion…”
April 12 – Bloomberg: “China’s power demand may gain 12% this year, said the research unit of the nation’s largest electricity distributor. First-quarter electricity use grew 13% from a year earlier… Power demand may rise 9% to 4.5 trillion kilowatt-hours this year, slowing from a 15% gain in 2010… China’s power-station coal use may increase 9%...”
April 13 – Bloomberg: “China will invest 2.8 trillion yuan in railway infrastructure in the five years through 2015, People’s Daily reported… citing Railway Minister Sheng Guangzu. The ministry plans to add as much as 30,000 kilometers of new railways over the period…”
April 8 – Bloomberg (Frederik Balfour): “Sotheby’s eight-day Hong Kong marathon ended today with HK$3.49 billion ($450 million) sales, as mainland buyers paid top prices for the rarest items. Chinese millionaires competed for fine wines, contemporary Asian paintings and rare porcelains, pushing the series above its estimate of HK$2.67 billion. It had 3,600 lots, about 1,000 more than last April’s auction in the city that took a record HK$2 billion, beating an estimate of HK$1.3 billion.”
April 12 – Bloomberg (Aki Ito and Keiko Ujikane): “Japan’s Economic and Fiscal Policy Minister Kaoru Yosano said the March 11 earthquake may result in a larger hit to the economy than previously seen, indicating a greater appetite for stimulus one month after the disaster.”
April 11 – Bloomberg (Siddharth Philip): “Mumbai intends to begin work next year on a bridge costing as much as 110 billion rupees ($2.5bn) as it acts on an idea first proposed in the 1960s to curb traffic jams. The 22-kilometer ‘Mumbai Trans Harbour Link,’ connecting the island city with the mainland Navi Mumbai district, will open before a new airport begins operations in 2014…”
Asia Bubble Watch:
April 13 – Bloomberg (Seonjin Cha and Eunkyung Seo): “South Korea’s inflation will probably accelerate more than previously forecast while economic growth stays in line with expectations, the Bank of Korea said. Consumer prices may increase 3.9% in 2011, faster than the previous estimate of 3.5%...”
Latin America Watch:
April 12 – Bloomberg (Eliana Raszewski): “The International Monetary Fund raised its 2011 and 2012 growth forecast for Latin America and the Caribbean and said it sees a ‘significant’ risk of overheating in the region’s largest countries. The IMF forecasts Latin America will grow 4.7% this year and 4.2% in 2012…”
April 13 – Bloomberg (Andre Soliani and Mark Lee): “Brazilian President Dilma Rousseff said Foxconn Technology Group may spend $12 billion over five to six years to expand production in the country, in what would be the Taiwanese company’s biggest investment overseas. The maker of Apple Inc.’s iPhone and Dell Inc. computers is holding talks with the government…”
April 15 – Bloomberg (Charlie Devereux): “Venezuela raised price caps on powdered milk and vegetable oil by as much as 48%, according to a resolution published today in the Official Gazette.”
Unbalanced Global Economy Watch:
April 14 – Bloomberg: “When Chinese President Hu Jintao greets the leaders of Brazil, India, Russia and South Africa on the tropical island of Hainan today, the rising clout of the world’s emerging markets will be on display. …The combined gross domestic product of the five so-called BRICS nations will eclipse the U.S. economy by the end of 2014, according to International Monetary Fund projections… The eurozone will be overtaken this year… By 2016, the BRICS countries will have a combined GDP of $21 trillion compared to a projection of $18.8 trillion for the U.S…. Developing countries, led by the BRICS nations, are increasingly driving economic growth, according to the IMF. Emerging and developed economies will grow more than 4 percentage points faster than Group of Seven advanced industrial economies every year through 2016, according to IMF projections.”
April 14 – Bloomberg: “The leaders of Brazil, Russia, India, China and South Africa said excessively volatile commodity prices pose a threat to the global economy and called for greater regulation of derivatives markets. Volatility ‘poses new risks for the ongoing recovery of the world economy,’ the leaders said… The BRICS… also called for greater vigilance over the impact of the flow of capital from developed economies into emerging markets and agreed on a plan to make more loans in local currencies. Rising food and fuel prices are pressuring importers such as China and India to hold down prices for their 2.6 billion people.”
April 15 – Bloomberg (Svenja O’Donnell and Jennifer Ryan): “Bank of England policy maker Andrew Sentance said a slowdown in inflation may prove short-lived as the pound’s weakness threatens to push it above 5%, bolstering the need for higher interest rates.”
April 12 – Bloomberg (Christian Vits): “German inflation unexpectedly accelerated to the fastest pace in two and a half years in March after energy prices jumped. The inflation rate… increased to 2.3% from 2.2% in February…”
April 13 – Bloomberg (Mark Deen and Jennifer Ryan): “French inflation accelerated in March and German wholesale prices jumped the most in almost three decades, adding pressure on the European Central Bank to continue raising borrowing costs. French consumer prices… increased 2.2% from a year earlier… German wholesale-price inflation quickened to 10.9%, the fastest since 1981.”
April 13 – Bloomberg (Johan Carlstrom): “Sweden predicted a budget surplus and raised its economic growth forecast for the next two years, allowing Europe’s fastest-growing economy to cut taxes while the rest of the region struggles through austerity cuts. The largest Nordic economy will expand 4.6% this year…”
April 13 – Bloomberg (Katya Andrusz): “Poland’s inflation rate in March soared to the highest in more than two years, boosting chances the central bank will raise interest rates for a third time this year. Consumer prices rose an annual 4.3%...”
U.S. Bubble Economy Watch:
April 12 – Bloomberg (Bob Willis): “Prices of goods imported into the U.S. rose in March at the fastest pace since June 2009, led by a gain in crude oil and the biggest jump in food costs since 1994. The 2.7% increase in the import-price index followed a 1.4% rise in February… Compared with a year earlier, import prices increased 9.7%, the most since April 2010.”
April 12 – Bloomberg (Sandrine Rastello): “The U.S. is set to have the largest budget deficit of major developed economies this year and should narrow it now rather than face tough adjustments in the next two years, the International Monetary Fund said. The U.S. shortfall will reach 10.8% of its gross domestic product this year, ahead of Japan and the U.K. …‘Market concerns about sustainability remain subdued in the U.S., but a further delay of action could be fiscally costly, with deficit increases exacerbated by rising yields,’ the IMF wrote in its Fiscal Monitor report…”
April 12 – Bloomberg (Vincent Del Giudice): “The U.S. government, on course to reach a record annual budget deficit, posted a monthly shortfall of $188.2 billion in March, wider than a year earlier… Last month’s deficit was up from a $65.4 billion gap in March 2010, when the government marked down the cost of the Troubled Asset Relief Program by $115 billion.”
Central Banking Watch:
April 12 – Dow Jones (Luca Di Leo): “The Federal Reserve is unlikely to have to raise interest rates soon because the surge in global commodity prices should have a temporary impact on U.S. inflation, a key Fed official said… However, Federal Reserve Vice Chairman Janet Yellen said… The sharp rise in prices for oil, grains and other commodities appear ‘unlikely to have persistent effects on consumer inflation or to derail the economic recovery and hence do not, in my view, warrant any substantial shift in the stance of monetary policy,’ Yellen said.”
April 13 – Bloomberg (Steve Matthews): “Federal Reserve Bank of St. Louis President James Bullard said that when the central bank begins withdrawing record monetary stimulus it should sell assets and ensure that inflation remains low. ‘First take back some of the balance sheet policy and then later move off zero on the policy rate,’ Bullard told reporters… ‘This is very much a live debate within the Federal Reserve. There is a lot of uncertainty about the optimal way to proceed as we haven’t been in that situation.’ Bullard has said since February that the Fed should trim its plan to buy $600 billion in U.S. Treasuries through June amid reports of stronger economic growth… ‘We have an ultra-easy, uber-easy monetary policy in the U.S. and we have to think of how we are going to exit from this policy in a way that keeps inflation low and stable,’ Bullard said.”
April 8 – Bloomberg (Vivien Lou Chen): “Federal Reserve Bank of Dallas President Richard Fisher said the central bank faces a ‘significant’ risk of providing record stimulus for too long and should weigh curtailing its $600 billion bond-purchase plan. ‘We at the Fed are near a tipping point,’ the… bank chief said… ‘Just as we pressed on in doing our duty through extraordinary, exigent measures, we must now discipline ourselves to just as persistently normalize our operations in a timely way.’”
April 14 – Bloomberg (Christine Harper and Joshua Gallu): “Goldman Sachs… mortgage traders tried to manipulate prices of derivatives linked to subprime home loans in May 2007 for their own benefit, according to a U.S. Senate report. Company documents show traders led by Michael J. Swenson sought to encourage a ‘short squeeze’ by putting artificially low prices on derivatives that would gain in value as mortgage securities fell, according to… by the Permanent Subcommittee on Investigations. The idea, abandoned after market conditions worsened, was to drive holders of such credit-default swaps to sell and help Goldman Sachs traders buy at reduced prices, according to the report. ‘We began to encourage this squeeze, with plans of getting very short again,’ Deeb Salem, a trader in the structured product group, said in a 2007 self-evaluation… Swenson, Salem’s supervisor, sent e-mails in May 2007 urging traders to offer prices that will ‘cause maximum pain’ and ‘have people totally demoralized.’”
April 13 – Financial Times (Jeremy Grant): “Low market volumes and stiff competition have led to a sharp fall in ‘high frequency’ trading as industry experts warn that the past two years of rapid growth may be coming to a halt. Instead, high-frequency traders are flocking to emerging markets such as Russia, Brazil and Mexico… Larry Tabb, chief executive of Tabb Group, a consultancy, said high-frequency trading now accounted for 54% of overall US equity trading, down from an earlier Tabb estimate of 61% in 2009. The level in Europe fell from 38% last year to 35%, although Tabb is expecting a small uptick towards the end of the year.”
April 13 – Bloomberg (Andres R. Martinez and Jonathan J. Levin): “Investors are stepping up purchases of the shortest-term Mexican government bills to a seven-month high to tap into a rally in the peso. The government sold 11 billion pesos ($929 million) of 28- day notes during the past two weeks… The 28-day cetes, as the securities are known, drew bids in an April 5 auction worth 4.9 times more than the 5.5 billion pesos sold… Cetes due on May 12 yield 4.28%, compared with 0.02% for similar-maturity U.S. Treasuries. Purchases of the securities are rising as accelerating growth in Latin America’s second-biggest economy fuels a 4.2% gain in the peso this year and near-zero rates in the U.S. spur demand for higher-yielding assets. Foreign investor holdings of Mexican government debt maturing in less than a year surged to 33% this month from 7% a year earlier…”
April 12 – Bloomberg (Tomoko Yamazaki): “Hedge funds returned 0.2% in March, completing their longest winning streak in more than three years, as they weathered Japan’s record earthquake and nuclear crisis, according to Eurekahedge Pte.”
Making Room for China:
Foreign exchange reserves held by the People’s Bank of China surpassed $3.0 TN in March – not shabby for holdings that began year-2000 at $155 million. China’s international reserves surpassed $1.0 TN for the first time in October 2006 and jumped past $2.0 TN during April 2009. Reserves expanded $590bn over the past nine months, a 28% annualized pace. This unprecedented growth is even more noteworthy considering the rapid shrinking of China’s trade surpluses. Indeed, Q1’s near record $197bn increase in reserves compares to a trade surplus for the period of $13bn (smallest surplus in seven years).
When it comes to Bubble Analysis, the stunning expansion of Treasury debt and Federal Reserve Credit offers an easy target. Yet I’ve posited for two years now the emergence of something quite more expansive - a “Global Government Finance Bubble.” The key dynamics involve an extraordinary expansion of government borrowings and central bank balance sheets around the world – developed and “emerging.” I have argued that China is in the midst of the “terminal phase” of Credit Bubble excess, a circumstance that has created powerful financial and economic interplays with respective U.S. and global Bubbles.
The current environment could not be more fascinating from the standpoint of analyzing Credit and Bubble dynamics. Most everyone is dismissive of the notion of some new Bubble, in the U.S. or elsewhere. Few are willing to see anything resembling huge excess or market distortions. Meanwhile, charts of Treasury debt, the Fed’s assets, and Chinese reserve holdings confirm that something unique in the history of finance is unfolding right before our eyes.
It’s worth a brief review of the week’s economic data out of China. At 9.7%, first quarter Chinese growth was stronger-than-expected - and the fastest pace of expansion since 2008. March exports were 35.8% higher y-o-y, outpacing imports that expanded 27.3%. Also above consensus forecasts, industrial production advanced 14.8% and retail sales jumped a brisk 17.4%. The value of first quarter home sales increased a notable 26% from the year ago period. New home construction was up 20% during the quarter. It all points to another record year of Credit growth.
There is not yet much to show for Chinese government efforts to impose some monetary restraint. March bank lending increased to $104bn, 16% ahead of estimates. At almost $380bn, first quarter bank lending was significantly above target. March M2 money supply growth of 16.6% was also above estimates. In its warning this week on Chinese debt, Fitch noted that loans to the Chinese corporate and household sectors last year jumped to 140% of GDP, up from 111% back in 2008. At 5.4%, March year-over-year consumer price inflation was the highest since 2008, with food inflation jumping to 11.7%. And while on the subject of inflation, consumer prices have been rising at an almost 9% pace in India.
It is a tenet of Credit Bubble analysis that Bubbles over time become progressively impervious to government tightening measures. A key facet of a Bubble’s “terminal” phase is that only aggressive intervention will work to restrain broadening lending, speculating, and spending excesses. Excess begets excess. Meanwhile, the perception of escalating risks associated with intervention virtually ensures policymaker timidity. This remains my expected course for China.
China has clearly reached the point where it plays a critical role as marginal buyer of global energy, commodities and, increasingly, goods and services, while at the same time operating as a key source of liquidity for global financial markets. Central to the global Bubble thesis is that government stimulus from Washington to Beijing has boosted growth, while also profoundly impacting marketplace liquidity, global financial flows and the perception of risk throughout the markets. The global liquidity backdrop is increasingly a serious problem for China, and Chinese inflation is a growing issue for the world.
The weak dollar, in particular, has been critical to the unleashing of Credit and speculation excess throughout the so-called “emerging" markets. China and the other Bric countries continue to operate in a highly unusual environment of rampant Credit growth and mounting imbalances, while at the same time enjoying rock solid currencies relative to the soft dollar. QE2 incited a whirlwind of “hot money” flows out to various “undollar” destinations, including energy and commodities, the emerging economies and China. And the incredible growth in Chinese international reserves is confirmation of the scope of today’s global “hot money” flows. It is worth noting that Chinese reserve growth had slowed markedly in 2010, before accelerating rapidly after the Fed’s decision to proceed with another round of quantitative easing.
The Fed is keen to absolve its rate policy and “QE2” as responsible for surging energy and commodities prices - pointing instead to robust Chinese and the developing world demand. I would be curious to hear how they see zero rates and quantitative easing as having impacted the dollar, as well as what role the weak dollar has played on global speculation and financial flows. Do they see a connection between their monetization of Treasury debt, resurgent speculative trading and asset inflation, enormous “hot money” flows, the rapid expand expansion of Chinese reserve holdings, and the “recycling” of these dollar balances right back to the Treasury market? Are they oblivious to the self-reinforcing nature of these Monetary Processes – to such Bubble Dynamics?
Pronouncements from this week’s meeting of the Brics countries (Brazil, Russia, India, China and, included in meetings for the first time, South Africa) made it rather clear where they stand: “Excessive volatility in commodity prices, particularly those for food and energy, poses new risks…” “We call for more attention to the risks of massive cross-border capital flows now faced by the emerging economies.” Brics leaders are calling for more regulation of derivatives markets. They also seek a modified global monetary system with a reduced role for the dollar and less dictated by U.S. and developed world monetary policies. And one of these days they may actually impose their will.
Curiously, some leading analysts have become more sanguine on China. Talk has shifted from the risk of a bursting Bubble to confidence in a “soft landing” scenario. Astute Chinese policymakers are thought to have tools to sustain strong growth, while ensuring that inflation doesn’t get out of hand. With an overheated Credit system and strong inflationary biases percolating throughout China’s economy and asset markets, few tools will be required to sustain their expansion in the short-term. In the intermediate term, the incredible hoard of international reserves would seem to provide sufficient resources to recapitalize an increasingly susceptible banking system - a few times over.
I still buy into the Chinese growth story. But count me skeptical on their capacity to manage an increasingly complex inflation problem. It is today unclear that they are succeeding in attempts to slow rapid bank lending. At the same time, they confront massive inbound financial flows. I am not convinced that they have a handle on the myriad sources of non-bank Credit expansion (domestic and international) impacting their economy and various price levels. The overall financial environment remains too loose, yet aggressive rate hikes would lead to only more destabilizing “hot money” inflows.
Chinese authorities have apparently achieved success in reducing trade imbalances. One could argue that they are meeting the global call to boost consumption, a least partially accomplished through the rapid inflation in wages and incomes. Indeed, the historic inflation of system Credit, incomes, corporate cash flows, asset prices, and household net worth greatly surpasses even the Japanese Bubble experience. And, increasingly, this enormous expansion in purchasing power is stoking inflationary pressures at home and abroad – and risks an inflationary wage-price spiral.
Pimco’s Mohammed El-Erian, while espousing a bullish view on China, suggested that there was a potential issue with the “world making room” for China. This is a good way of thinking about it.
Until recently, the ultra-loose liquidity backdrop ensured that China (and others) invested enormous amounts in manufacturing capacity. Despite global Credit Bubble excesses, price pressures were mainly relegated to securities and real estate prices. Many argued that China – and the emerging economies – were “exporting deflation.” There are indications that the nature of inflationary forces is changing.
I am of the view that we have likely passed a tipping point where China and the “emerging” economies now exert increasingly strong inflationary pressures upon the global economy. Rapidly growing developing world incomes would tend to support elevated energy and commodities prices, while ensuring an upward inflationary bias in much that is produced globally. The cheap wages and low cost structures that combined with cheap finance to ensure seemingly endless goods seem to have run their course. It is worth noting that U.S. March import prices were up 9.7% y-o-y, with Producer price inflation trailing somewhat at 5.8%.
The Fed sees things altogether differently, clinging to the notion that the recent jump in energy and commodities prices will have only a “transitory” impact on inflation. They view “inflation” through a myopic focus on “core CPI” - and just don’t discern much having changed in the world. But when I examine global price pressures, I see important dynamics that have been years in the making. The confluence of a persistently weak dollar, booming real and speculative demand for commodities, massive “hot money” flows, and rapid Credit and wage growth throughout the increasingly powerful “developing” world is in the process of fundamentally altering global price structures. Meanwhile, developed world structural debt problems and vulnerable recoveries ensure unrelenting monetary looseness.
Yield charts for Greek, Irish and Portuguese debt suggest that the world is neither oblivious to structural debt problems nor the difficulties in trying to rectify them. At the same time, expectations for ongoing near-zero Fed funds place a low ceiling on Treasury (and related) yields. I would argue that a heavily distorted “Bubble” market for determining U.S. Treasury yields disregards risks associated with U.S. structural debt issues and a rapidly deteriorating inflation backdrop. One of these days, China and fellow Brics nations may arrive at the conclusion that the best hope they have for reining in “hot money,” surging commodities prices, and increasingly unwieldy inflation is to back away from supporting our debt markets.