October 18 – Wall Street Journal (Alexandra Wolfe): “[Greenspan] said he is baffled by all the blame that has been piled on him. Since the recession, critics have said the increased money supply and low interest rates during his tenure at the Fed from 1987 to 2006 led to bubble investments. Mr. Greenspan first heard that theory, he says, in 2007, when John Taylor, a professor of economics at Stanford University who has advised Republicans, made the connection between easy money and the housing bubble. ‘It had absolutely nothing to do with the housing bubble,’ [Greenspan] says. ‘That’s ridiculous.’”
“As they say, ‘You just can’t make this stuff up.’” Doug Noland, October 25, 2013
“All of us go back for a long way, always understood that there’s a lot of irrational exuberance and fear and all of those various aspects of human nature affecting the GDP and the market and everything else. But we all assumed, and in fact it’s almost general, that those were random and that they would essentially wash out. And therefore you could set up your econometric models – or any model you want – looking only at the effects of people acting rationally in their long-term self-interest. And that was a general proposition – and that is what they were teaching in the universities. And that’s basically what economics was all about going all the way back into the last two centuries ago. We missed the timing badly on September 15, 2008. All of us knew that there was a Bubble. But a Bubble in and of itself doesn’t give you a crisis. In the dot.com crisis, so to speak, the stock market collapsed, asset prices collapsed, there were huge losses – you can barely see it in the GDP. A date I will always remember, October 19, 1987: the Dow went down 22% in one day, by far the record of all time. I thought we were going to run into all sorts of problems. Nothing happened. To be sure, it was touch and go for awhile and the Fed opened up the spigots. But you can’t see it in the GDP figures. So Bubbles, per say, are not what the issue is. It’s turning out to be Bubbles with leverage. And leverage is critically important. Obviously, it’s the only way you can get the issue of contagion going. The bottom line is this, I said to myself when I saw what happened on September 15th [2008], that there’s something fundamentally wrong with the way I and a lot of my colleagues look at the economy. So I tried to go on with what looked so much to me like a detective story, trying to unwind layer by layer. And the first layer I tried to unwind was the fundamental premise of everyone looking out for their own long-term self-interest.” Alan Greenspan, October 24, 2013, CNBC
I’ve been on my own little 'detective story' for a while now. When I began my weekly chronicle of the Credit Bubble back in 1999, I argued that tech stocks were not THE Bubble but instead only a primary consequence of what was the latest bout of mis-priced finance and Credit and speculative excess. Why did the “dot.com crisis” have such minimal impact that one could “barely see it in the GDP”? Well, it’s certainly worth recalling that GSE securities (debt and MBS) increased $431bn in 2000, $642bn in 2001 and another $547bn in 2002, an unprecedented $1.62 TN three-year Credit distortion that worked wonders – for a while. The Fed slashed rates from 6.5% in December 2000 to 1.75% by December 2001 (to the low of 1% in June 2003). Total Domestic Financial Sector borrowings expanded 10.7% in 2000, 10.6% in 2001, 9.6% in 2002 and 10.7% in 2003. Powerful inflationary biases throughout mortgage finance and housing provided the Fed significant capacity to readily reflate system Credit.
Total Non-Financial system Credit growth slowed only modestly after the tech bust, from 1999’s 6.2% to 2000’s 5.0%. Importantly, Total Non-financial Credit accelerated to a 6.4% rate during 2001, 7.4% in 2002 and 8.0% in 2003. This growth was primarily driven by Household mortgage borrowings which expanded 8.7% in 2000, 10.6% in 2001 and 11.8% in 2002. I began warning of the unfolding mortgage finance Bubble back in 2002. It is worth noting that Total Mortgage Debt expanded a then record $708bn in 2001 and $901bn in 2002, compared to average annual growth of $265bn during the nineties. These numbers come directly from Fed data.
Mr. Greenspan’s recent epiphanies notwithstanding, there was never a mystery surrounding post-tech Bubble economic resilience. The Fed and GSEs combined to ensure extremely loose mortgage finance, which provided a powerful backstop for leveraged speculation. This supported total system Credit growth, asset price inflation and overall spending. It’s worth noting that Household Net Worth actually posted a small advance in 2000, with inflating house and bond values more than offsetting equity market losses.
And while we’re on the subject, the Fed’s opening of the liquidity spigot after the ’87 crash ensured a continuation of booming late-eighties (“decade of greed”) Credit growth and asset inflation. The Credit system and economy were demonstrating strong inflationary biases, a dynamic only exacerbated by the Greenspan Fed’s post-crash reflationary measures. Total Non-Financial debt growth expanded 9.1% in 1987 and 9.1% in 1988, while Household Net Worth increased in both ‘87 and ‘88.
I have previously noted a fascinating anomaly of Credit Bubbles: generally, the more conspicuous the effects the less systemic the financial and economic distortions. The price inflation of a narrow group of stocks during 1999 was spectacular, but that bout of excess was relatively contained to one segment of the economy.
Mr. Greenspan these days makes a distinction: “Bubbles, per say, are not what the issue is. It’s turning out to be Bubbles with leverage.” As a long-time analyst of Credit and Bubbles, I take strong exception with this analysis. The critical issue is to distinguish between the consequences of Bubble excess and the much more important issue of the underlying Credit, policy and speculative dynamics fueling the asset inflation. Understanding the driving forces behind the over-expansion of mis-priced finance – the factors responsible for misperceptions and distortions in the marketplace - is absolutely fundamental.
Especially during the seventies, there was a major push within the economic community to raise the “dismal science” to a higher “hard” science status, incorporating sophisticated statistical analysis and econometric modeling. If this wasn’t problematic enough, there was another historic development about to really complicate the matter: Contemporary finance began transforming from the traditional bank-centric form to a non-bank, market-based Credit (securitizations, GSEs, “repo”/securities finance, derivatives, hedge funds and “Wall Street finance”) dynamic. Ironically, no one individual had more influence on this epic change than the accommodative chairman Greenspan.
I guess it took the 2008 crisis for economists to finally acknowledge that their models might be deeply flawed, though one would have thought the previous 20-years (plus) of serial global booms and busts would have raised some concerns. I have argued that we’ve been witnessing a unique period in history: For the first time, during recent decades there have seen no constraints on either the quality or quantity of Credit issued on a global basis. No one should expect that unlimited cheap Credit would prove conducive to system stability, and we’re now privy to sufficient history to be certain it’s not. All along the way, policymakers have seemed to go out of their way to avoid learning lessons.
U.S. and global finance were going through epic changes. Meanwhile, policymakers and the economics community stuck their heads in the sand, clinging steadfastly to their outdated old models and analytical frameworks. Greenspan became a vocal proponent for derivatives and Wall Street risk intermediation. He also used the rapidly expanding global leveraged speculating community as the most powerful monetary policy transmission mechanism ever (spur risk-taking and “wealth creation” with a mere hint of a 25bps rate cut!). And with Greenspan (along with the GSEs) backstopping the markets, the bubbling derivatives marketplace could mushroom to hundreds of Trillions on the specious assumption of “continuous and liquid markets.” Opportunistic hedge fund managers could incorporate enormous leverage on (Fed-assured) high probability bets – and become billionaires.
Greenspan (above) noted the traditional assumption that “irrational exuberance and fear… were random and that they would essentially wash out.” Well, in this New Age of unfettered cheap global finance and central bank market backstops, exuberance became the perfectly rational response for investor and speculator alike. Speculative leveraging blossomed like never before, and I would argue that market perceptions became dominated by the “Greenspan put” and the general perception that central banks would not tolerate market crisis (as was demonstrated repeatedly). And the greater the Bubble in market-based Credit and asset prices, the greater was market confidence that central bankers would steadfastly support the markets. Why would we expect anyone to act in their “long-term self-interest” when the monetary backdrop was ripe for incredible fortunes to be accumulated in the short-term?
In such a backdrop - replete with historic market distortions, speculative excess and financial leveraging - one can simply toss the old models and notions of “normal distributions” right out the window. At the end of the day, it’s a “fat tail” world. The proliferation of flawed models with faulty assumptions of “normal distributions” and “normal” Fed market support ensure extraordinary excess with abnormally bad outcomes. This issue is when. To be sure, financial speculation won the day; asset Bubbles inflated worldwide across major asset classes; the Fed and BOJ combined for $160bn of QE a month; Draghi backstopped European debt; the Chinese perpetrated their own historic Credit Bubble; and everyone was forced to jump on board in the greatest financial Bubble in the history of mankind.
Greenspan and others focus generally on “leverage,” “too big to fail” banks and the money-market fund complex - in a classic “fighting the last war.” The key issue today is similar to the root cause of previous system fragilities, except it’s just on a much greater global systemic scale: mis-priced finance. The big banks and their speculative holdings are an important issue. Yet I worry much more about a global leveraged speculating community employing leverage across various asset classes on a worldwide basis. I worry about the ongoing proliferation of derivative strategies and the recent bout of “structured products” which generally incorporate leverage. I fret that the perception of cheap derivative market “insurance” once again emboldens aggressive leveraging and risk-taking. I think I see speculative leveraging about everywhere I look.
I have argued that today’s Bubble is by far the most dangerous yet (the “granddaddy”). Unprecedented concerted efforts by the Bernanke Fed, Draghi ECB, Kuroda BOJ, the Chinese and others have fomented a systemic mis-pricing of finance around the globe and throughout most asset classes. This creates another key fragility that was not nearly as prevalent in previous Bubble periods.
The Fed and global central bankers collapsed short-term interest-rates, forcing savers out of “money” and into the risk markets (or, in the case of Chinese savers, to “shadow banking”). Initially, central bankers were hoping that a shot of monetary stimulus and some asset inflation would stoke “animal spirits” and spur economic recovery. Their plan didn’t work. So we’re now well into the fifth year of unprecedented stimulus, with the initial shot becoming a long-term binge addiction. This has nurtured dangerous “Monetary Process,” whereby generally risk-averse finance has flowed for years (and in increasing quantities) into progressively more distended Bubble markets.
We saw an indication in June of how quickly sophisticated “hot money” and the unsuspecting small investor can clog up the exit in the event of even modest market losses. How long do central banks believe they can sustain levitated markets? Do they realize that the more these markets inflate the more prone they become to instability and dislocation?
“Fat tails” are the product of extended periods of distorted risk perceptions. When central banks ensure access to cheap speculative finance, the resulting leverage buildup is conducive to “fat tails.” Moreover, when generally cautious investors assume unappreciated risks on such a grand scale, central bankers have created a compounding “fat tail” risk. When ultra-loose finance fuels record issuance of junk debt and leveraged lending at record low yields – in the face of major global financial and economic risks - that’s pro-“fat tail.” When abundant cheap finance fuels a mergers & acquisitions boom with attendant impacts on equities prices, markets (and M&A premiums) become vulnerable to risk aversion and a tightening of finance. When abundant cheap finance stokes aggressive company stock buybacks, the marketplace becomes susceptible.
Ultra-loose financial conditions tend to benefit the most aggressive investor, speculator and company management team. And the longer central bankers prolong loose “money” policies, the greater the flow of finance to the riskiest stocks and debt instruments, the larger the amount of speculative leverage employed and the more susceptible the business models driving growth in the real economy. From both a financial system and economic system standpoint, protracted periods of loose “money” create heightened vulnerabilities. But as long as Credit expansion, risk-taking and leveraging are uninterrupted, it doesn’t hurt to assume a “normal distribution” world. But it’s a mirage. The system is becoming progressively vulnerable to any development that might spark a bout of risk-aversion and de-leveraging.
Truth be told, I enjoyed reading Greenspan’s first book and I’m sure I’ll be enthralled by his new one. But let there be no doubt, he remains the master of artful spin, obfuscation and blatant historical revisionism. And I’ll keep Fighting what I believe is the Good Fight against revisionism. I never doubted that Greenspan would choose his legacy over statesmanship. I hold a small amount of hope for a different course at some point from Professor Bernanke.
One of these days the Fed and its flawed doctrine will be held accountable. For now, I guess, the Fed and Wall Street can continue to pretend this massive ongoing monetary inflation makes sense. They can pretend that you can’t recognize a Bubble until after it bursts – that pegging short-term rates at zero for years doesn’t foment massive financial distortions and economic maladjustment – that this is not a redistribution of wealth on an unprecedented scale - that central bankers should rely on regulation instead of monetary policy to address mounting financial excess – and that aggressive reflationary measures can always be employed to counter bursting Bubbles. They can pretend that we’re not witnessing the greatest financial Bubble in history – that trust in “money,” financial assets and central banking isn’t at stake. And they can pretend that they’ll retain effective tools for stabilizing the “system” the day this massive global Bubble begins to really unwind. If there is historic precedent for aggressive inflationism employed over an extended period without catastrophic consequences - that would be news to me.
For the Week:
The S&P500 gained 0.9% (up 23.4% y-t-d), and the Dow rose 1.1% (up 18.8%). The S&P 400 Midcaps added 0.4% (up 26.9%), and the small cap Russell 2000 increased 0.3% (up 31.7%). The Morgan Stanley Consumer index was unchanged (up 26.1%), while the Utilities jumped 1.8% (up 10.4%). The Banks declined 1.0% (up 26.5%), while the Broker/Dealers added 0.1% (up 50.7%). The Morgan Stanley Cyclicals were up 2.0% (up 31.8%), and the Transports surged 2.6% (up 32.1%). The Nasdaq100 gained 0.9% (up 27.2%), while the Morgan Stanley High Tech index slipped 0.1% (up 23.4%). The Semiconductors fell 2.0% (up 29.2%). The InteractiveWeek Internet index declined 1.3% (up 30.2%). The Biotechs jumped 2.3% (up 42.9%). With bullion jumping $35, the HUI gold index rallied 8.9% (down 44.6%).
One-month Treasury bill rates ended the week at 2 bps, and three-month rates closed at 3 bps. Two-year government yields were down a basis point to 0.30%. Five-year T-note yields ended the week 5 bps lower to 1.28%. Ten-year yields declined 7 bps to a three-month low 2.51%. Long bond yields fell 4 bps to 3.60%. Benchmark Fannie MBS yields sank 9 bps to 3.17%. The spread between benchmark MBS and 10-year Treasury yields declined 2 bps to 66 bps. The implied yield on December 2014 eurodollar futures fell 2 bps to 0.455%. The two-year dollar swap spread was little changed at 13 bps, while the 10-year swap spread increased one to 15 bps. Corporate bond spreads were little changed. An index of investment grade bond risk was about unchanged at 72 bps. An index of junk bond risk increased one to 346 bps. An index of emerging market (EM) debt risk rose 3 to 315 bps.
Debt issuance was strong. Investment grade issuers included Wells Fargo $3.5bn, Citigroup $2.0bn, Toyota Motor Credit $1.5bn, Bristol-Myers Squibb $1.5bn, PNC Bank $1.25bn, Suntrust Banks $750 million, Branch Banking & Trust $650 million, Yum Brands $600 million, Northwestern University $600 million, Prologis $500 million, Blackboard Inc $365 million, Leucadia National $250 million, Catholic Health Initiative $540 million, Union Pacific $500 million, and Sammons Financial Group $200 million.
Junk bond funds saw inflows jump to $2.02bn (from Lipper). This week's issuers included Antero Resources $1.0bn, Crestwood Midstream Partners $600 million, Ferrellgas $325 million, Alliant Techsystems $300 million, Penn National Gaming $300 million, Dole Food $300 million, Sally Holdings $200 million, Jack Cooper Finance $150 million, and William Lyon $100 million.
Convertible debt issuers this week included Sandisk $1.3bn.
International dollar debt issuers included International Bank of Reconstruction & Development $6.0bn, KFW $4.0bn, European Investment Bank $3.0bn, Brazil $3.2bn, ABN Amro $2.5bn, GLP Capital $2.05bn, Banque Federative du Credit Mutuel $1.75bn, Bank Nova Scotia $1.5bn, European Bank of Reconstruction & Development, Network Rail Infrastructure $1.25bn, JBS Investments $1.3bn, Empresa Nacional de Telecomunicaciones $1.0bn, Banco Nacional de Costa Rica $1.0bn, Dominican Republic $500 million, Turkiye Vakiflar Bankasi $500 million, Caisse Centrale Desjardins $500 million, Petroleos Mexicanos $350 million, Topaz Marine $350 million, Exopack $325 million, Kansas City Southern Mexico $250 million and Bank Caspian $200 million.
Ten-year Portuguese yields declined 4 bps to 6.11% (down 65bps y-t-d). Italian 10-yr yields rose 6 bps to 4.22% (down 28bps). Spain's 10-year yields fell 10 bps to 4.15% (down 112bps). German bund yields declined 8 bps to 1.75% (up 43bps). French yields dropped 9 bps to 2.25% (up 25bps). The French to German 10-year bond spread narrowed one to 50 bps. Greek 10-year note yields jumped 16 bps to 8.35% (down 212bps). U.K. 10-year gilt yields were down 10 bps to 2.61% (up 79bps).
Japan's Nikkei equities index sank 3.25% (up 35.5% y-t-d). Japanese 10-year "JGB" yields were unchanged at 0.61% (down 17bps). The German DAX equities index rose 1.4% to another all-time high (up 18.0%). Spain's IBEX 35 equities index reversed course and fell 1.9% (up 20.2%). Italy's FTSE MIB dropped 2.1% (up 16.0%). Emerging markets were mostly under pressure. Brazil's Bovespa index sank 2.2% (down 11.2%), while Mexico's Bolsa added 0.6% (down 6.9%). South Korea's Kospi index declined 0.9% (up 1.9%). India’s Sensex equities index fell 1.0% (up 6.5%). China’s Shanghai Exchange dropped 2.8% (down 6.0%).
Freddie Mac 30-year fixed mortgage rates fell 15 bps to an 18-week low 4.13% (up 72bps y-o-y). Fifteen-year fixed rates were down 9 bps to 3.24% (up 52bps). One-year ARM rates declined 3 bps to 2.60% (up one bp). Bankrate's survey of jumbo mortgage borrowing costs had 30-yr fixed rates down 16 bps to a four-month low 4.35% (up 34bps).
Federal Reserve Credit jumped $20.4bn to a record $3.782 TN. Over the past year, Fed Credit was up $953bn, or 33.7%.
Global central bank "international reserve assets" (excluding gold) - as tallied by Bloomberg – were up $673bn y-o-y, or 6.3%, to a record $11.424 TN. Over two years, reserves were $1.196 TN higher, for 12% growth.
M2 (narrow) "money" supply jumped $28.8bn to a record $10.933 TN. "Narrow money" expanded 7.0% ($712bn) over the past year. For the week, Currency increased $5.1bn. Total Checkable Deposits surged $95.0bn, while Savings Deposits fell $67.2bn. Small Time Deposits declined $3.7bn. Retail Money Funds were little changed.
Money market fund assets rose $54.5bn to $2.668 TN. Money Fund assets were up $99bn from a year ago, or 3.8%.
Total Commercial Paper jumped $28.2bn to $1.062TN. CP was down $4bn y-t-d, while increasing $138bn, or 14.9%, over the past year.
Currency Watch:
October 23 – Bloomberg (Daniel Kruger): “China, the largest foreign lender to the U.S., reduced its holdings of Treasuries as yields on the debt rose for a fourth month amid speculation the Federal Reserve would reduce the pace of its bond purchases. China’s holdings fell by $11.2 billion, or 0.9 percent, in August to $1.268 trillion, the fewest since February. The Chinese position has dropped by $29.2 billion since peaking this year at $1.297 trillion in May… Foreign holdings of Treasuries declined for a fifth month for the first time since 2001… Overseas holdings have fallen by $133 billion during that period. ‘Central banks are like any other investor -- they’re charged with preserving the value of the assets they hold,’ said Aaron Kohli, an interest-rate strategist BNP Paribas… “
The U.S. dollar index slipped 0.6% to 79.19 (down 0.7% y-t-d). For the week on the upside, the Swedish krona increased 1.6%, the Swiss franc 1.0%, the euro 0.8%, the Danish krone 0.8%, the Japanese yen 0.3%, the Singapore dollar 0.3%, the Norwegian krone 0.1% and the Taiwanese dollar 0.1%. For the week on the downside, the New Zealand dollar declined 2.6% the Canadian dollar 1.6%, the Australian dollar 1.0%, the Brazilian real 0.8%, the South African rand 0.4%, the Mexican peso 0.2% and the South Korean won 0.1%.
Commodities Watch:
October 22 – Bloomberg (Jen Skerritt): “Canadian wheat and canola grower Mike Bast spent five years building silos to store 100,000 bushels on his 2,000-acre farm in La Salle, Manitoba. It wasn’t enough. He’s already dumping grain into his neighbor’s bins. Harvests this year across the Prairie provinces of Canada, the world’s top canola producer and the second-largest exporter of wheat, will jump 14% to a record 80.8 million metric tons… The supply surge is eroding prices and testing the limits of domestic storage. Farmers are leaving crops in uncovered mounds amid a shortage of silage bags and a lack of space at grain elevators and export depots. ‘I’ve never seen this much grain out in fields, in bags or in piles,’ said Tyler Russell, the national grain-marketing manager for processor Cargill Inc.’s Canadian unit… ‘We have a monster crop.’ Most storage space will be ‘pretty much full’ during harvest months, he said. Bin-busting output in Canada is compounding record global supplies as planting expanded from Brazil to Ukraine to the U.S.”
The CRB index was down 1.5% this week (down 4.2% y-t-d). The Goldman Sachs Commodities Index fell 2.2% (down 3.4%). Spot Gold gained 2.6% to $1,351 (down 19.4%). Silver jumped 3.3% to $22.64 (down 25%). December Crude dropped $3.26 to $97.85 (up 7%). November Gasoline sank 3.2% (down 6%), and November Natural Gas fell 1.5% (up 11%). December Copper declined 0.9% (down 11%). December Wheat fell 2.1% (down 11%), and December Corn slipped 0.3% (down 37%).
U.S. Fixed Income Bubble Watch:
October 22 – Bloomberg (Bill Faries, Martin Z. Braun and Michelle Kaske): “Seven years ago, in the wake of a government shutdown caused by a $740 million budget deficit, Puerto Rican officials vowed to fix the island’s finances by 2010. Now investors are calling their bluff. In the $3.7 trillion municipal-bond market, Puerto Rico and its agencies more than doubled their borrowing since 2004 to $70 billion this year. Even as the island’s population shrank and the economy contracted 16% since 2004, the government kept selling enough bonds to saddle each man, woman and child with $19,000 in debt. Wall Street banks selling Puerto Rican bonds to mutual funds, money managers and individuals fueled the borrowing. Investors were lured by the debt’s tax-exempt status in all 50 U.S. states and yields above those on the mainland. In August, the binge collided with shockwaves from Detroit’s record bankruptcy and prospects for higher interest rates, sending tax- equivalent yields on the commonwealth’s bonds higher than those of Venezuela and forcing the island to turn to private lenders.”
October 23 – Bloomberg (Michelle Kaske): “Hedge funds such as Maglan Capital LP and MeehanCombs LP are helping fuel a rally in Puerto Rico debt… As yields on obligations of the struggling U.S. territory soared to records in recent weeks, David Tawil, 38, co-founder of… Maglan Capital, has been buying. The purchases mark the first foray into municipal debt for the fund, which typically focuses on distressed U.S. companies. The moves add demand to the $3.7 trillion municipal market at a time of record withdrawals by individuals.”
October 22 – Bloomberg (Kristen Haunss): “Safeguards on speculative-grade debt are weakening at a record pace as the neediest U.S. companies obtain financings that don’t offer typical lender protection. Peabody Energy Corp., the largest U.S. coal producer, Apollo Global Management LLC-controlled industrial components maker Rexnord Corp. and other companies have raised $238.4 billion in covenant-light loans this year, more than double the amount in 2012… A Moody’s… index of covenant quality on bonds sold by North American companies rose to a record 4.05 last month from 3.85 in August, where a reading of 5 is the weakest and 1 is the strongest… Mutual funds that buy the senior ranking debt have received $55.6 billion in deposits this year…”
October 25 – Bloomberg (Sarah Mulholland): “Wall Street banks that package commercial mortgages into bonds are forgoing a ranking from Moody’s… on the riskier portions of the deals, a sign the credit grader isn’t willing to stamp the debt investment-grade amid deteriorating underwriting standards. Moody’s didn’t grade the lower-ranking debt in 9 of the 14 commercial-mortgage bond transactions it’s rated since mid-July, according to Jefferies… ‘We have been observing a degradation in credit quality for some time’ in the CMBS market, said Stuart Lippman, the chief investment officer and founder of hedge-fund firm TIG Advisors’s securitized-assets fund.”
Federal Reserve Watch:
October 25 – Bloomberg (Richard Rubin and Peter Cook): “U.S. Senator Rand Paul, a Kentucky Republican, is considering placing a hold on the nomination of Janet Yellen to lead the Federal Reserve… A hold probably won’t imperil her nomination… A hold might spur several days of debate and means 60 votes would be needed to advance the nomination. ‘This was expected,’ Jaret Seiberg, a senior policy analyst with… Washington Research Group, said… ‘It is very similar to a filibuster. And like a filibuster it can be overturned with 60 votes.’ Starting Oct. 31, Democrats will have a 55-45 seat Senate majority, meaning at least five Republicans are needed to reach the 60-vote threshold. Paul is using the hold to seek a vote on his legislation to require regular audits of Fed finances… The bill would cover all Fed operations, including deliberations over changes to the benchmark interest rate and its bond-purchasing programs known as QE for quantitative easing.”
October 21 – Bloomberg (Zachary Tracer): “Roger W. Ferguson, a former U.S. Federal Reserve vice chairman, said the Fed’s push for transparency amid quantitative easing tripped up the central bank this year. ‘They got themselves in trouble when they tried to be very transparent, give us our forward guidance, promise things, and then they don’t deliver,’ Ferguson, head of insurer TIAA-CREF, said… Over the U.S. summer, the Fed created the expectation that it would begin to taper bond buying, Ferguson said. ‘They got to September, and they didn’t do that,’ he said… The Fed should recognize that it has multiple tools and ‘take some time to try to sort of optimize only one of them,’ Ferguson said. ‘Recognize that they’re brand-new tools and figure out how to use just one of them really well, as opposed to try to toggle back and forth across them.’”
October 21 – Bloomberg (Jeanna Smialek): “Federal Reserve Bank of Chicago President Charles Evans, an advocate of monetary stimulus, said fiscal strife in Washington will probably delay the central bank’s tapering of its monthly bond purchases. ‘October’s a tough one,’ Evans said… ‘We need a couple of good labor reports, and evidence of increasing growth, GDP growth, and it’s probably going to take a few months to sort that one out.’”
October 24 – Bloomberg (Kristen Haunss): “Federal banking regulators in the U.S. are recommending banks bolster underwriting standards for leveraged commercial loans as borrowing of the high-risk debt approaches levels not seen since before the financial crisis… The Federal Reserve and the Office of the Comptroller of the Currency sent letters to some of the biggest banks asking them to avoid originating loans that can be considered ‘criticized,’ or debt classified by regulatory agencies as having some deficiency that may result in a loss, said the people, who asked not to be identified… Forty-two percent of leveraged loans were placed in that category this year.”
U.S. Bubble Economy Watch:
October 24 – Bloomberg (Prashant Gopal and Oshrat Carmiel): “Josh Guberman paid $3.4 million in 2011 for a house that had lingered on the market in New York’s Hamptons for almost a year. He knew what it was missing. Guberman tripled the size of the 3,400-square-foot (316-square-meter) property in Southampton, creating nine bedrooms, a wine cellar and zen garden, before putting it on the market again. In July, a buyer paid $8.8 million, $50,000 more than the asking price. ‘There was a time when everyone thought the market was done,’ said Guberman… ‘I found opportunity.’ Hamptons real estate deals are surging, fueling a boom in knock-downs, expansions and quick resales in the beachfront towns favored by Wall Street financiers and celebrities. Home purchases in the three months through September jumped 32% from a year earlier to 534, the most for a third quarter since 2005, appraiser Miller Samuel Inc. and brokerage Douglas Elliman Real Estate said…”
October 25 – Bloomberg (Kathleen M. Howley): “Home purchases by institutional buyers reached a record high in September and all-cash buyers accounted for almost half of sales as investors responded to rising demand from renters. Institutional purchases accounted for 14% of sales, according to… RealtyTrac. That was the highest share since the real estate data firm began in 2011 to track transactions by that group… All-cash sales rose to 49% from 40% in August and 30% a year earlier… ‘Both investors and traditional buyers are trying to snap up cheap homes before prices go higher, but the investors have the advantage of paying cash and not having to go through a convoluted mortgage process,’ said Michael Hanson, a former Federal Reserve economist now working for Bank of America… ‘People are being bid out of some markets because of investor demand.’ Wall Street’s influence on the residential real estate market is growing as the biggest investors, Blackstone Group LP and American Homes 4 Rent, have together bought about 60,000 homes across the country to benefit from low prices and rental demand from millions of former home owners who have lost properties through foreclosures.”
October 23 – Bloomberg (John Gittelsohn and Heather Perlberg): “Steve Schwarzman’s Blackstone Group LP has spent $7.5 billion acquiring 40,000 houses in the past two years to create the largest single-family rental business in the U.S. The private-equity firm is now planning to sell bonds backed by lease payments, the latest step in turning a small business into a mature industry… Blackstone has led hedge funds, private-equity firms and real estate investment trusts raising about $20 billion to purchase as many as 200,000 homes to rent after prices plunged 35% from the 2006 peak.”
October 21 – Reuters (Deepa Seetharaman): “The recent surge in U.S. auto production is hurting vehicle quality because automotive parts suppliers have less time to fix problems that emerge on the line, Ford Motor Co's new global purchasing chief told reporters… Hau Thai-Tang, who led the overhaul of Ford's Mustang sports car in 2005, also said the No. 2 U.S. automaker is exploring a cost-cutting strategy that requires Ford to tweak the design of its global models for specific regions. Auto parts suppliers, which closed scores of factories during the financial crisis, are operating around the clock to meet consumer demand for cars and trucks that is marching toward pre-recession levels. Everyone is running flat out and it’s contributing to some of the quality challenges that we’ve seen,’ said Thai-Tang…”
October 24 – Bloomberg (Toluse Olorunnipa): “Rangel Dockery and her husband bought a waterfront house in Florida four months ago, assuming their $2,000-a-year flood-insurance premium would remain about the same. After reading recently about a change in the federal flood program, they checked on next year’s rates and were stunned: Their bill will grow to $14,000 annually. Now the elementary school teacher and her husband, Clint, an information technology specialist, are considering selling their two-bedroom St. Pete Beach home, probably at a loss, because she said they can’t afford the bill, and their mortgage requires flood coverage.”
Global Bubble Watch:
October 24 – Bloomberg (Simon Kennedy and Jeff Kearns): “The era of easy money is shaping up to keep going into 2014. The Bank of Canada’s dropping of language about the need for future interest-rate increases and today’s decisions by central banks in Norway and Sweden to leave their rates on hold unite them with counterparts in reinforcing rather than retracting loose monetary policy. The Federal Reserve delayed a pullback in asset purchases, while emerging markets from Hungary to Chile cut borrowing costs in the past two months. ‘We are at the cusp of another round of global monetary easing,’ said Joachim Fels, co-chief global economist at Morgan Stanley in London.”
October 21 – Financial Times (Christopher Thompson): “A burst of investor ‘animal spirits’ has boosted the value of mergers and acquisitions-related bonds to the highest raised since the financial crisis. Global acquisition-related bond issuance from non-investment grade, or high yield, companies has risen by 15% to $62.9bn for the year to date compared with the same period in 2012. This is the highest amount since 2007, according to Dealogic… Overall, global high yield issuance rose 18% for the year to date to $395.5bn, the highest ever. Much of the issuance came from Europe, where there have been signs of a tentative economic recovery in some areas since the height of the debt crisis, while many of the regions’ banks have been deleveraging.”
October 23 – Financial Times (Tracy Alloway and Vivianne Rodrigues): “Neiman Marcus, the upscale US department store chain, is no stranger to fashion trends. But in the autumn of 2005 the luxury retailer started a very different kind of fad – this time for an unusual new bond structure known as a ‘payment-in-kind toggle’. Pik-toggle notes, as they became known, gave Neiman Marcus the option to pay its lenders with more bonds instead of cash if the retailer ever ran into financial difficulty. For a company that was at the time being bought by private equity giants TPG and Warburg Pincus, in a leveraged buyout involving about $4.3bn worth of debt, that additional financial flexibility was considered a savvy move. Pik notes proliferated over the course of the next three years, until the financial crisis led many borrowers – including Neiman Marcus – to ‘toggle’ the bonds… Now, eight years since the Pik-toggle entered the market, companies are again using the esoteric structures, along with a host of riskier borrowing practices associated with the buyout boom that helped inflate the 2006-07 credit bubble. That has fuelled concerns that the return of practices last seen before the financial crisis could be indicative of overheating in credit markets… ‘We’re in the third year of the greatest leveraged finance markets of all time because of the efforts by the Fed, and all the central banks around the world, to keep rates at zero,’ said Craig Packer, who helped build the first Neiman Pik-toggle and is now head of leveraged finance at Goldman Sachs… The average amount of debt used to finance LBOs has jumped from a low of 3.69 times earnings in 2009 to an average 5.37 so far this year, according to data from S&P Capital IQ. At the height of the LBO boom, average leverage was 6.05.”
October 22 – Financial Times (Vivianne Rodrigues and Tracy Alloway): “Risky lending practices that were a hallmark of the boom years before the financial crisis are staging a comeback in the US as companies take advantage of investor hunger for higher returns. The issuance of payment-in-kind toggle notes, which give a company the option to pay lenders with more debt rather than cash in times of squeezed finances has surged in recent months. The esoteric debt structures last gained prominence during the leveraged buyout boom that defined the 2006-2007 credit bubble, and their return has raised concerns that markets could once again be overheating.”
October 25 – Bloomberg (Mikael Holter): “Norway’s sovereign wealth fund, the world’s largest, warned that stock market gains may reverse as Europe’s biggest equity investor said it won’t use new inflows to buy more shares. ‘Our share in the stock market has been stable or falling even though markets are rising, and that means in practice that we’re not using inflows to buy stocks,’ Yngve Slyngstad, chief executive officer of Norges Bank Investment Management, said… The fund is preparing for a ‘correction’ in stock prices, he said.”
EM Bubble Watch:
October 23 – Bloomberg (Blake Schmidt and Boris Korby): “Brazil’s state development bank is pushing out maturities on loans to Eike Batista’s OSX Brasil SA as it seeks to limit fallout from the former billionaire’s imploding oil producer. BNDES last week agreed to postpone for another 30 days the due date on a 518 million-real ($238 million) bridge loan to the shipbuilder that was originally due Aug. 15. OSX said that it’s in talks with state-controlled savings bank Caixa Economica Federal to extend the maturity on a 400 million-real loan that matured Oct. 19.”
China Bubble Watch:
October 25 – Financial Times (Simon Rabinovitch): “Chinese financial markets remained tense on Friday, with money rates creeping higher and stocks selling off amid concerns about the central bank’s shift to tighter policy. The seven-day bond repurchase rate, a gauge of short-term liquidity in China, rose 21 bps to 4.88%... its highest since the closing days of a cash crunch in June that roiled global markets. The repo rate has risen nearly 150 bps over the past week, indicating a sudden increase in the cost of funding.”
October 22 – Bloomberg: “Home prices in China’s four major cities jumped the most since January 2011, heightening concerns a bubble is forming as the government refrains from introducing more property curbs that would hinder economic growth. New home prices in September rose 20% in the southern business hubs of Shenzhen and Guangzhou, 17% in Shanghai and 16% in Beijing from a year earlier as prices climbed in 69 of the 70 cities the government tracks… ‘Home prices, especially in big cities, are a bit out of control,’ said Liu Li-Gang, a Hong Kong-based economist at Australia & New Zealand Banking Group… ‘China’s facing an increasing risk of a property bubble.’”
October 24 – Wall Street Journal (Shen Hong): “Yields on Chinese government bonds have risen to their highest level in nearly six years, as a confluence of factors makes investors more demanding, analysts say. The yield on the benchmark 10-year bond hit 4.20% Thursday, the highest since it reached 4.60% in November 2007. ‘Rising inflationary pressures, a rebound in economic growth and the central bank’s shift toward a slightly more hawkish monetary policy have led to tighter liquidity conditions,’ said Chen Long, an analyst at Bank of Dongguan. ‘These have made bonds less attractive to investors.’ …And then there is the People's Bank of China, which refrained from injecting cash into the financial system for the second consecutive week even as lenders scrambled to meet funding needs. Money-market interest rates jumped, recalling the severe credit crunch Chinese banks suffered in June. The weighted average of seven-day repurchase agreement rate, a benchmark of Chinese interbank funding costs, rose to 4.77% Thursday from 4.05% Wednesday—the highest since it hit 4.99% July 31.”
October 23 – Financial Times (Josh Noble): “Since the days of Marco Polo, China has been stuck with the label of the world’s largest untapped market. While the success of Louis Vuitton, General Motors, KFC and others has chipped away at that notion, there is one place the description remains apt: the bond market. At roughly $4tn, China’s domestic bond market is the world’s fourth largest after the US, Japan and France, and far larger than the Shanghai equity market’s $2.4tn. It is also growing about 30% a year, according to HSBC.”
October 21 – Bloomberg (Novrida Manurung): “Sunac China Holdings Ltd., the Chinese developer in which buyout firm Bain Capital LLC has a stake, expects home sales to rise at least 11% this year from last year amid strong demand from rich buyers. The developer’s home sales will exceed 50 billion yuan ($8.2bn) this year as it focuses on mid-to-high-end properties in major cities including Beijing and Shanghai, Chairman Sun Hongbin told reporters… Sunac is expanding amid resilient demand for luxury housing in big cities even as the government maintains residential curbs, Sun said. New home prices in China’s four major cities rose in August the most since January 2011, led by a 19% jump from a year earlier in Guangzhou in southern China…”
October 23 – Bloomberg: “China’s biggest banks tripled the amount of bad loans written off in the first half, cleaning up their books ahead of what may be a fresh wave of defaults. Industrial & Commercial Bank of China Ltd., the world’s most profitable lender, and its four largest rivals expunged in the first six months 22.1 billion yuan ($3.65bn) of debt that couldn’t be collected, up from 7.65 billion yuan a year earlier… China has eased rules for writing off debt to small businesses since 2010 and policy makers are pushing the lenders to increase risk buffers following an unprecedented credit boom that began in 2009.”
October 23 – Bloomberg: “Baidu Inc. isn’t allowed to offer guaranteed returns on fund products sold on the Internet, China’s securities watchdog said, as the country’s largest search engine joins competitors in expanding into finance. The China Securities Regulatory Commission said it will investigate media reports… that said Baidu promised an 8% return on investment products… That probe will be carried out using information provided by the company, it said. Baidu, which this week announced plans for an investment platform, joins rivals Alibaba Group Holding Ltd. and Tencent Holdings Ltd. in entering financial services after authorities said they wanted more private capital to invest in the industry.”
Japan Bubble Watch:
October 22 – Bloomberg (Masaki Kondo, Mariko Ishikawa and Shigeki Nozawa): “Japan’s largest lenders are shifting their debt portfolios to longer-maturity sovereign notes, seeking to squeeze out higher returns and betting that central bank buying will shield them from potential losses. So-called city banks including the Bank of Tokyo-Mitsubishi UFJ Ltd. and Mizuho Bank Ltd. boosted holdings of Japanese government bonds maturing in 10 years for a record fifth- straight month in September, while selling notes due in two to five years…”
India Watch:
October 23 – Bloomberg (Siddhartha Singh and Anto Antony): “India will inject 140 billion rupees ($2.3bn) into government-run banks including State Bank of India and Central Bank of India to guard against soured loans amid forecasts for the slowest economic growth in a decade. The recapitalization of state-controlled banks will enable them to raise money through share sales, Rajiv Takru, the Finance Ministry’s banking secretary, told reporters… Bad debt as a percentage of Indian bank lending rose to a six-year high in June, with government-run banks holding a higher share of non-performing loans…”
Asia Bubble Watch:
October 22 – Reuters (Ian Chua and Kevin Lim): “Inflation fears heightened in Asia on Wednesday as price pressures in Australia intensified and as China’s short-term interest rates shot higher on concerns the central bank may soon tighten liquidity. The pick-up in price pressures could limit the ability of policymakers to inject more stimulus if needed as a weak global recovery dampens demand for the region's exports… Australia’s quarterly headline inflation sped up to a much higher than expected 1.2% in the third quarter from 0.4% in the second… Australia’s data came a week after neighboring New Zealand, India and China all reported inflation was running hotter than expected. Super-loose monetary policies in the West have sparked a wash of speculative ‘hot money’ flows into Asia, aggravating price pressures and threatening to create potentially destabilizing asset bubbles in some countries.”
October 23 – Bloomberg (Novrida Manurung): “Indonesia’s most aggressive monetary tightening since 2005 is set to slow economic growth without denting soaring property demand in the world’s fourth-most populous nation. A young population, elevated inflation and property-price gains that outpace interest rates are spurring real-estate sales from Jakarta to Manado. Home prices in the third quarter probably rose 14.6% from a year earlier, according to a Bank Indonesia survey, while the Indonesian Real Estate Association predicts housing sales will climb more than 50% this year.”
October 25 – Bloomberg (Suttinee Yuvejwattana): “The Bank of Thailand said risks to financial stability, including high levels of household debt, have reduced the scope for further monetary easing, even as it cut its growth forecast for the second time this year. The central bank pared its estimate for gross domestic product growth this year to 3.7%, compared with a July projection of 4%, and said exports may expand 1%, down from an earlier forecast of 4%.”
Europe Watch:
October 22 – Bloomberg (James G. Neuger): “Thomas Bellinck, a Belgian theater director, has put a date on the European Union’s collapse: 2018. The doomsday timeline of his Brussels exhibition called ‘Life in the Former EU: Final Years of the Long Peace,’ presented the bloc’s six-decade run as a peaceful interregnum before the continent’s relapse into nationalism, an interlude where technocrats were too focused on regulating the diameter of tomatoes as their experiment in multinational democracy withered. ‘We need national politicians who are either prepared to defend the project and redo it or admit that they don’t want to do it,’ says the 30-year-old Bellinck. ‘But now we have something in-between.’ What the EU’s founders in the 1950s intended as ‘ever closer union’ now risks going in the opposite direction: Britain is threatening to secede; the euro, battered by the four-year debt crisis, remains at risk of splintering; anti-euro forces are advancing in France, the EU’s heartland; separatists are pushing to burst the U.K., Belgium and Spain. Economic lethargy combined with a deepening political quagmire and mounting debt load as leaders struggle to tame the legacy of the financial crisis risk condemning Europe to lag further behind emerging powers like China.”
October 23 – Bloomberg (Saleha Mohsin and Johan Carlstrom): “Central bankers in Sweden and Norway are finding their efforts to steer inflation are being disrupted by a persistent threat of housing bubbles. While policy makers in both countries will keep interest rates unchanged tomorrow…, distortions in the two nations’ property markets are adding a layer of uncertainty to outlooks. In Sweden, the largest Nordic economy, a brief lull in the housing market after a series of measures to curb demand has been replaced by accelerating prices. Apartment prices rose 14% in the 12 months through August after more than doubling since 2000. That’s prompted Swedes to take on bigger mortgages to help finance their homes, driving debt relative to disposable incomes to a record high. Riksbank Governor Stefan Ingves has repeatedly sounded the alarm and says the central bank needs to use rates to help Sweden avert a property bubble.”
Germany Watch:
October 22 – Financial Times (Michael Steen and Alice Ross): “The Bundesbank has warned that apartment prices in Germany’s biggest cities could be overvalued by as much as 20%, stepping up its concern about a real estate boom in the powerhouse of the European economy. The warning will feed into German concern that the European Central Bank’s monetary policy is far too loose for the country. The bank’s main refinancing rate is 0.5%, a record low. It also adds to signs that international investors are fueling rising property prices around the world… Rapid price rises have particularly affected the seven largest cities in Germany, the central bank said… Flats in Berlin, Munich, Hamburg, Cologne, Frankfurt, Stuttgart and Düsseldorf had, on average, seen prices rise more than 25% since 2010.”
October 23 – Bloomberg (Birgit Jennen and Tony Czuczka): “Germany’s Social Democrats want to strip euro policy making from the Finance Ministry in Chancellor Angela Merkel’s third term, according to three people familiar with the party’s negotiating strategy. The SPD is pushing in coalition talks with Merkel’s bloc… to confine the powers of the ministry currently run by Wolfgang Schaeuble to the budget and to financial ties between the federal and state governments… Responsibility for Europe, the euro and banking would be split off into another ministry, they said… The fate of Schaeuble, Merkel’s top lieutenant and an advocate of austerity to counter Europe’s debt crisis, is one of the battlegrounds in coalition-building talks that may last until Christmas.”
