Monday, December 15, 2014

10/31/2014 Kuroda, Bubbles and King Dollar *

When it seems almost impossible, things somehow get even crazier. By Thursday afternoon (thinking ahead to my Friday writing project), I was discerning a backdrop increasingly reminiscent of the summer of 2012. Jumping a quick 50 bps, Greek bond yields traded above 8% on Thursday. Italian bonds and CDS were under pressure, as part of general concerns weighing on Europe’s vulnerable periphery (not to mention that nine Italian banks failed ECB stress tests). German bunds were in melt-up (record low yields with widening periphery spreads).  It was also apparent that the direction of the yen and stability of yen “carry trades” were crucial to acutely unstable global markets – keys to the “risk on, risk off” speculative market dynamic. A strong yen would be problematic, perhaps even inciting deleveraging of trades in Greek, Portuguese, Italian and Spanish debt.

I guess I shouldn’t have been surprised to awaken early Friday morning and see that the Bank of Japan (BOJ) had stunned global markets with an up to 30% boost in its QE “money” printing operation (to $725bn annually!). A couple strategists offered apt quotes: “It was great timing for Kuroda.” “The timing of all this was very clever.” Clever indeed.

October 31 – Bloomberg (Kelly Bit): “Julian Robertson, the billionaire founder of Tiger Management LLC, called global monetary policy, such as Japan’s surprise expanded stimulus today, dangerous as central banks push bond yields down and create a bubble. ‘The monetary authorities all over the world are trying to cheapen their own currencies -- it’s a race everywhere and I’m not sure it’s the best thing to do,’ Robertson said… ‘We have a bubble developing because we have forced bonds to almost no yield and it’s really the thing that’s the most dangerous going on economically in the world.”

In the twelve trading sessions since the October 16th 1,813 (“Bullard”) low, the S&P500 rallied almost 11%. The semiconductors have surged about 18% from October 15th lows and the Biotechs 22%. The Nasdaq100 has jumped 12% and the Transports almost 14%. The small caps have rallied almost 13%.

With the Fed about to conclude QE, a couple weeks back global markets were facing their first serious bout of de-risking/deleveraging without certainty that the Fed was there as the market’s reliable liquidity backstop. Federal Reserve Bank presidents Bullard and Williams were quick to come to the markets’ defense, affirming market expectations that additional QE would be provided as needed. There have been as well leaks that the ECB was considering corporate bonds purchases, buying that would significantly increase the odds of Draghi making good on his talk of a Trillion euro ECB balance sheet expansion. And then Friday, the world sees more “shock and awe” from the BOJ’s Haruhiko Kuroda.

For yet another week that will draw the attention of future historians, there were scores of notable headlines: WSJ: “Kuroda Bazooka Round Two.” “Reuters: “Fed Set to End One Crisis Chapter Even as Global Risks Rise.” Financial Times: “Fed’s Grand Experiment Draws to a Close.” Wall Street Journal: “Fed Set to End QE3, but not the QE Concept.”

The week also saw commentators absolutely lavish praise upon the Fed and its QE measures. Clearly, it’s ridiculously early to pass judgment on history’s greatest monetary experiment. After all, QE is a global phenomenon that hasn’t yet come even close to running its course. And it’s a global Bubble, with both the BOJ and ECB both pushing ahead with even more aggressive global monetary inflation. Importantly, the hope that the ECB would grab the QE baton from Yellen has been fulfilled at the forceful hands of Draghi and Kuroda.

I noted above that the backdrop is reminiscent of the summer of 2012. At that time, the global financial system was at much greater risk than generally perceived. Markets were at the brink of a crisis of confidence in Italian debt, which would have triggered a crisis of confidence in Italian banks, European banks more generally and the euro currency. A run on European banks and the euro would have raised serious issues for the emerging markets and global leveraged speculating community, not to mention counter-party and derivative issues.

Importantly, the risks were deeply systemic. Policy responses were systemic. Draghi moved forward with “Do Whatever it Takes,” followed soon by open-ended QE from Bernanke and Kuroda. I never bought into the notion that Fed “money” printing was about U.S. jobs. I don’t believe Kuroda’s move Friday was about Japanese inflation. Policy responses have been akin to Benjamin Strong’s 1927 “coup de Whiskey,” but on a multi-shot global basis (with chaser). And over the past two years we’ve witnessed a 1927 to 1929-like market response, again on a globalized basis.

Predictably, throwing Trillions of “money” at a global Bubble has only exacerbated instability. Throwing Trillions of “money” at dangerously maladjusted global financial and economic “systems” will surely only worsen the addiction. I see Kuroda’s move as further evidence of global central bank desperation. Global risks have inflated profoundly since 2012.

October 28 – Bloomberg (Candice Zachariahs and Lukanyo Mnyanda): “For European Central Bank President Mario Draghi, the price of a weaker euro to boost the economy and stave off deflation is a record exodus from the continent’s financial assets. Domestic and foreign investors spurred 187.7 billion euros ($239bn) of fixed-income outflows from the euro area in the six months through August, the most in ECB data going back to the currency’s debut in 1999.”

Europe is again experiencing alarming outflows, even surpassing 2012 levels. Almost $240bn in six months, wow! And for the first time in a couple years I and others are monitoring ECB “Target2” balances (Eurozone central bank inter-bank balances). Target2 balances have surged euro 67bn in two months, the biggest move since the spring of 2012. Notably, Bank of Italy Target2 liabilities jumped $67bn in two months to $197bn, as “money” owed to the German Bundesbank moves higher. A quiet run from Italy?

I have posited that borrowing at zero in a devaluing yen to play higher global yields is likely history’s greatest speculative wager. I have pondered how Draghi’s “Do Whatever it Takes” market backstop for European periphery debt created the world’s most attractive higher-yielding securities for leveraging. I’ve as well presumed that the “yen carry trade” has likely played a significant role in financing a Europe periphery bond Bubble. Especially over recent weeks of global market instability, I’ve pondered the consequences of a “yen carry” unwind. To this point, the weak euro has not hurt those leveraged in European periphery debt – not if these speculations were financed by borrowing in a devaluing yen. But in a world of increasingly vulnerable speculators and a heightened risk of de-leveraging, a yen rally could have very well pushed European debt markets over the cliff. When it comes to global monetary policymaking, I do not believe in coincidences. Kuroda to the rescue.

There remain these two parallel universes. There’s the Truman Show World: Kuroda has essentially nothing to do with the great U.S. bull market. It is instead driven by robust economic fundamentals, including strong GDP and corporate profits. The U.S. is simply the best place in the world to invest – and American equities are a friggin’ slam dunk, all-in buy. King Dollar is confirmation of all that is good in the U.S.

The alternative universe is a totally different world: Kuroda is one of a very select group of leading central bankers working desperately to sustain a runaway global financial Bubble. There’s a historic experiment in “money” printing that is at the brink of failure. Around the world there are speculative financial market Bubbles of unprecedented proportions at risk of bursting. History’s Greatest Credit Bubble already has serious cracks. Moreover, the incredible widening gap between (Truman Show) securities prices and deteriorating (bursting Bubble) fundamental prospects boosts the likelihood of a global market accident.

One of these days, global central banks will lose control. For now, they will continue to print “money,” spur destabilizing speculation and exacerbate global imbalances. Importantly, their measures continue to promote wealth redistribution and inequality – within nations and among nations. Bernanke previously referred to Kuroda’s policy as “enrich thy neighbor.” I wonder if Japan’s neighbors these days see it in such rosy light. With Draghi and Kuroda promoting King Dollar, I wonder how commodity-related companies and countries are feeling about the state of the world. Gold sank below $1,200 this week, crude traded below $80 and the GSCI Commodities Index traded to new four-year lows. Central bank policies are inflicting some real (inequitable) damage this time around.

This was another week to ponder some of my favorite Credit Bubble adages: “Bubbles tend to go to unimaginable extremes – then double!” “Things turn crazy in the ‘Terminal Phase’ of Bubble excess.” “Liquidity loves inflation.” “Central banks can create liquidity but they cannot dictate where it flows.” “It is a myth that central banks control a general price level.” “Credit Bubbles are all about wealth redistribution.”

Despite Kurodamania and record stock prices, I contend that the great global Credit Bubble has been pierced. Energy and commodities prices have collapsed, inflicting irreparable harm on scores of highly-indebted companies and economies. Importantly, King Dollar has turned increasingly destabilizing. I ponder how Putin today views “Western” policymaking that further pressures the price of it key national resource. The Bank of Russia Friday boosted interest-rates 150 bps to support its flagging currency. Ominously, the ruble sold off on the news, ending the session down 3.5%.

The bursting global Bubble thesis holds that others at the “periphery” are now at risk of a downward spiral of sinking commodities prices, “hot money” exodus, acute financial instability and economic vulnerability. In this regard, Brazil joins Russia at the top of the watch list. Despite recessionary conditions, Brazil’s central bank raised rates Thursday to support its faltering currency. The real bounced 2.5% Thursday on the rate news, only to sink 3.0% in Friday’s Kuroda-induced King Dollar drubbing.

It’s worth noting that Brazil’s central bank has issued over $100bn of currency swaps, payable in local currency (reals). Writing these derivatives – insurance against a declining real – has allowed international speculators and investors to easily hedge their Brazilian currency exposure. And these types of arrangements work wonders – until they blow up. A big downward move in the real would require the “printing” of tens of billions of reals to pay on the central bank’s swap contracts – printing that would further depress the real and perhaps even risk a crisis of confidence. King Dollar is a big problem for a sadly vulnerable Brazil.

With the S&P500 having now recovered all losses from the recent bout of market instability, the bulls are ready for another leg higher. Certainly, investors and speculators alike have been reassured by the words and deeds from the Fed, ECB and BOJ. Worries that central bankers might not be there to backstop markets have been alleviated. The rabid bulls have been emboldened.

The mortgage finance Bubble was initially pierced in the spring of 2007, as subprime securities suffered losses and “hot money” flows abruptly reversed course. An aggressive Federal Reserve policy response helped push U.S. and global stocks to record highs in 2007’s fourth quarter. These reflationary measures spurred Bubble excess, including a speculative run in equities and $145 crude. At best, however, these measures only slowed the deflating Bubble as it gravitated from subprime to prime mortgage Credit. I’ve always been convinced that 2007 reflationary measures only exacerbated the 2008 global crisis. International risk markets turned more speculative (and highly correlated), when general stability would have been better served by a more orderly deflating of Bubble excess.

Each bout of market instability (August ’07, November ’07, January ’08, March ’08 and July ‘08) worked to solidify the view that policymakers had everything under control and would not tolerate a crisis. After trading above 30 in five separate bouts of market turbulence (August ’07 through July ’08), the VIX dipped below 20 by late August 2008. About six week later, in the midst of a so-called “black swan” financial panic (central banks actually don't have things under control!), the VIX reached 80.

And this gets right to the heart of the fundamental problem with central bank (“Keynesian”) market manipulation and “money” printing: there’s a fine line between acting to lessen the effects of a bursting Bubble and measures that inflate and prolong precarious Bubble excess. As we’ve witnessed, the deeper policymakers fall into the market intervention and manipulation trap the greater the fragility. And the more acute the fragility the more quickly officials must intervene to ensure that things don’t start to come unglued. In the end, it regresses into desperate measures to hold collapse at bay – 2012 to 2014.

October 30 – Bloomberg (Ben Moshinsky): “The shadow banking industry grew by $5 trillion to about $75 trillion worldwide last year, driven by lenders seeking to skirt regulations and investors searching for yield amid record low interest rates. The size of the shadow banking system, which includes hedge funds, real estate investment trusts and off-balance sheet investment vehicles, is about 120% of global gross domestic product, or a quarter of total financial assets, according to a report published by the Financial Stability Board… Shadow banking ‘tends to take off when strict banking regulations are in place, when real interest rates and yield spreads are low and investors search for higher returns, and when there is a large institutional demand for assets… The current environment in advanced economies seems conducive to further growth of shadow banking.’”

I’m not convinced “the current environment in advanced economies seems conducive to further growth of shadow banking.” Actually, if I am on the right track with my bursting Bubble thesis, the surprise could be that fragility lurks in “shadow banking” – from New York to London to Tokyo to Beijing.

For the Week:

The S&P500 jumped 2.7% to a new record high (up 9.2% y-t-d), and the Dow surged 3.5% (up 4.9%). The Utilities gained 2.1% (up 19.0%). The Banks advanced 4.0% (up 4.2%), and the Broker/Dealers surged 5.2% (up 8.8%). Transports rose 2.2% to an all-time high (up 18.3%). The S&P 400 Midcaps rose 3.0% (up 5.7%), and the small cap Russell 2000 surged 4.9% (up 0.9%). The Nasdaq100 gained 2.9% to a 14-year high (up 15.8%), and the Morgan Stanley High Tech index jumped 4.4% (up 8.0%). The Semiconductors surged 4.7% (up 19.8%). The Biotechs added 3.4% (up 43.9%). With bullion sinking $57, the HUI gold index collapsed 15.3% to a 12-year low (down 21%).

One- and three-month Treasury bill rates closed the week near zero. Two-year government yields jumped 11 bps to 0.49% (up 11bps y-t-d). Five-year T-note yields rose 11 bps to 1.61% (down 13bps). Ten-year Treasury yields gained seven bps to 2.34% (down 69bps). Long bond yields added two bps to 3.07% (down 90bps). Benchmark Fannie MBS yields rose five bps to 3.02% (down 59bps). The spread between benchmark MBS and 10-year Treasury yields narrowed two to 68 bps. The implied yield on December 2015 eurodollar futures rose 6.5 bps to 0.835%. The two-year dollar swap spread declined four to 21 bps, while the 10-year swap spread was unchanged at 15 bps. Corporate bond spreads narrowed somewhat. An index of investment grade bond risk declined one to 64 bps. An index of junk bond risk ended the week down two bps to 343 bps. An index of emerging market (EM) debt risk dropped 13 bps to 296 bps.

Greek 10-year yields jumped 62 bps to 7.96% (down 46bps y-t-d). Ten-year Portuguese yields declined five bps to 3.22% (down 291bps). Italian 10-yr yields fell 17 bps to 2.35% (down 178bps). Spain's 10-year yields were down 10 bps to 2.08% (down 208bps). German bund yields declined five bps to 0.84% (down 109bps). French yields dropped 12 bps to 1.18% (down 138bps). The French to German 10-year bond spread narrowed seven to 34 bps. U.K. 10-year gilt yields added two bps to 2.25% (down 77bps).

Japan's Nikkei equities index surged 7.3% to the high since 2007 (up 0.8% y-t-d). Japanese 10-year "JGB" yields declined a basis point to a record low 0.46% (down 28bps). The German DAX equities index rallied 3.8% (down 2.4%). Spain's IBEX 35 equities index increased 1.3% (up 5.7%). Italy's FTSE MIB index gained 1.5% (up 4.3%). Emerging equities were crazy volatile. Brazil's Bovespa index ended the week up 5.2% (up 6.1%). Mexico's Bolsa rose 3.1% (up 5.4%). South Korea's Kospi index rallied 2.0% (down 2.3%). India’s Sensex equities index jumped 3.8% to a new all-time high (up 31.6%). China’s Shanghai Exchange surged 5.1% to a 20-month high (up 14.3%). Turkey's Borsa Istanbul National 100 index added 1.5% (up 18.9%). Russia's MICEX equities index surged 7.8% (down 1.0%).

Debt issuance remained relatively slow. Investment-grade issuers included KLA-Tencor $2.5bn, Wells Fargo $2.0bn, TIAA Asset Management $2.0bn, PNC Bank $1.75bn, Ford Motor Credit $1.65bn, Liberty Mutual $1.05bn, Procter & Gamble $1.0bn, Boeing $850 million, Whirlpool $650 million, Tri-State Generation and Transmission Association $500 million, Children's Hospital Medical Center $300 million and GATX $250 million.

Junk funds saw inflows to $1.56bn (from Lipper). Junk issuers this week included Charter Communications $3.5bn, Building Materials Corp $1.1bn, Huntsman International $400 million and Carrizo Oil & Gas $300 million.

Convertible debt issuers included Synergy Pharmaceuticals $175 million.

International dollar debt issuers included Hutchison Whampoa $3.5bn, Toronto Dominion Bank $1.75bn, BP Capital Markets $1.25bn, Inter-American Development Bank $1.0bn, Lloyds Banking $1.0bn, CODELCO $980 million, Empresa Nacional $600 million, Scentre Group $500 million, Jaguar Land Rover $500 million, Export-Import Bank of Korea $1.0bn, Global Banking Corp $400 million and Yasar Holdings $300 million.

Freddie Mac 30-year fixed mortgage rates gained six bps to 3.98% (down 12bps y-o-y). Fifteen-year rates rose five bps to 3.13% (down 7bps). One-year ARM rates added two bps to 2.43% (down 21bps). Bankrate's survey of jumbo mortgage borrowing costs had 30-yr fixed rates up five bps to 4.28% (down 8bps).

Federal Reserve Credit last week jumped $14.2bn to a record $4.451 TN. During the past year, Fed Credit inflated $656bn, or 17.3%. Fed Credit inflated $1.640 TN, or 58%, over the past 103 weeks. Elsewhere, Fed holdings for foreign owners of Treasury, Agency Debt dropped $11.9bn last week to a five-month low $3.291 TN. "Custody holdings" were down $62bn year-to-date, and fell $25bn from a year ago.

Global central bank "international reserve assets" (excluding gold) - as tallied by Bloomberg – were up $375bn y-o-y, or 3.3%, to a six-month low $11.839 TN. Over two years, reserves were $1.071 TN higher for 10% growth.

M2 (narrow) "money" supply surged $42.5bn to a record $11.521 TN. "Narrow money" expanded $588bn, or 5.4%, over the past year. For the week, Currency increased $2.6bn. Total Checkable Deposits jumped $20.1bn, and Savings Deposits rose $21.4bn. Small Time Deposits were little changed. Retail Money Funds slipped $1.6bn.

Money market fund assets gained $6.1bn to $2.628 TN. Money Fund assets were down $91bn y-t-d and dropped $40bn from a year ago, or 1.5%.

Total Commercial Paper added $1.7bn to $1.064 TN. CP was up $19bn year-to-date but was down $17bn over the past year.

Currency Watch:

October 31 – Bloomberg (Ye Xie and Lilian Karunungan): “The yuan’s best rally since 2011 is testing China’s resolve to take a less controlling approach to its exchange rate. The yuan is the only major currency to strengthen versus the dollar since mid-year, making exports less competitive at a time when growth is slowing. It’s only been seven months since the People’s Bank of China engineered a record slide in the currency to deter speculators, and analysts say it may need to reprise the strategy if the yuan keeps climbing.”

October 31 – Bloomberg (Jiyeun Lee and Cynthia Kim): “The Bank of Japan’s surprise decision to ease monetary policy further may increase pressure on South Korea’s central bank to cut its benchmark interest rate again. The yen’s tumble after BOJ Governor Haruhiko Kuroda boosted unprecedented stimulus today will help make some Japanese products cheaper in export markets. That adds to competitive pressure for South Korea that could prompt action from Bank of Korea Governor Lee Ju Yeol, say economists.”

The U.S. dollar index jumped 1.4% to 86.92 (up 8.6% y-t-d). For the week on the upside, the Mexican peso increased 0.6% and the Australian dollar added 0.1%. For the week on the downside, the Japanese yen declined 3.7%, the Norwegian krone 2.3%, the Swedish krona 1.9%, the euro 1.2%, the Danish krone 1.1%, the Swiss franc 1.1%, the South Korean won 1.1%, the New Zealand dollar 0.8%, the Singapore dollar 0.8%, the British pound 0.6%, the Canadian dollar 0.3%, the Taiwanese dollar 0.2% and the Brazilian real 0.2%.

Commodities Watch:

The CRB index increased 0.6% this week (down 2.9% y-t-d). The Goldman Sachs Commodities Index recovered 0.5% (down 14.7%). Spot Gold fell 4.7% to $1,173 (down 2.7%). December Silver sank 6.3% to $16.11 (down 17%). December Crude slipped another 47 cents to a 28-month low $80.54 (down 18%). December Gasoline gained 0.3% (down 23%), while December Natural Gas rallied 4.7% (down 8%). December Copper was little changed (down 10%). December Wheat gained 2.8% (down 12%). December Corn surged 6.7% (down 11%).

U.S. Fixed Income Bubble Watch:

October 27 – Bloomberg (Anchalee Worrachate and Susanne Walker): “As soon as Charles Comiskey saw what was coming, he turned off his machines. It was still early in the New York trading day on Oct. 15 and investors were already pouring into U.S. government bonds as global financial markets from Asia to Europe buckled. Because yields were falling so fast, Comiskey, the head Treasury dealer at Bank of Nova Scotia, realized that he ran the risk of being stuck with losses or unwanted inventory if his computers automatically generated quotes to buy and sell with customers. So for about half an hour, as yields on 10-year Treasuries tumbled below 2% in the biggest plummet in five years, he executed client orders individually over the phone. ‘It was a very high stress, very fearful trade,’ Comiskey, whose firm is one of 22 primary dealers that trade directly with the Federal Reserve, said… ‘Once we recognized things started getting out of control, we shut it off immediately. It was like turning the clocks back to pre-electronic trading’ in the 1990s.”

October 27 – Financial Times (Tracy Alloway): “Coloured lights flashed and the pop-rock strains of Bon Jovi blared across the ballroom of the New York Marriott Marquis when members of the Loan Syndications and Trading Association gathered for their 2013 conference. Leveraged loans made to junk-rated companies were in the midst of a resurgence, an explosion in popularity fuelled by years of low interest rates that had encouraged corporates to refinance their debt and sparked an intense search by investors for the resulting higher-yielding assets. Twelve months later, however, when the loan industry met for this year’s annual LSTA gathering on a rainy day in New York last week, the mood was rather more subdued. Among the list of concerns to discuss were the sharp sell-off that had hit the market just days before, as well as new rules and regulations that seemed poised to take a bite out of what had once been one of the hottest asset classes around. ‘We were rock stars,’ Jeff Cohen, head of loan capital markets at Credit Suisse, said… Sales of leveraged loans in the US reached $607bn last year, surpassing the previous record of $535bn sold in 2007… Issuance of collateralised loan obligations, a type of securitisation that packages such loans into bonds, also soared to a record of more than $100bn this year, eclipsing the $97bn reached in 2006, at the height of the credit boom.”

October 30 – Bloomberg (Sarah Mulholland): “The credit quality of U.S. commercial mortgages being packaged into bonds slipped further in the third quarter as borrowers piled on more debt, according to Moody’s… The size of loans relative to property values, a ratio known at loan-to-value, or LTV, climbed to 112.2% from 108.3% in the prior three-month period… Higher leverage makes it harder for landlords to pay off mortgages on the properties, which include shopping malls, hotels and office buildings. ‘Loan originators continue to loosen underwriting standards, contributing to one of the largest quarter-over- quarter increases in leverage,’ said Moody’s analyst Tad Philipp… ‘The use of aggressive and pro forma underwriting, which presents a property’s net operating income as higher than sustainable levels, is on the rise.’”

October 27 – Bloomberg (Lisa Abramowicz): “When the Federal Reserve examines the trading books of the world’s largest banks, regulators may find surprisingly little exposure to one risky market: junk bonds. Wall Street’s biggest debt dealers have been dumping speculative-grade securities at the fastest pace on record ahead of annual stress tests by the Fed. They reduced their holdings by 68% in the week ended Oct. 15 as the market posted losses of 1.5% that week alone… It makes sense for banks to scale back risk tied to speculative-grade credit since regulators are going to focus on the debt in testing ‘for significant spread widening, particularly of less-liquid securities,’ said Charles Peabody, a banking analyst at… Portales Partners… ‘The odds are you’re going to see the downside of the credit cycle in the next year or so.’”

October 30 – Bloomberg (Christine Idzelis and Kristen Haunss): “Wall Street banks are either absorbing losses or getting stuck holding some of the riskiest corporate loans they agreed to underwrite before the biggest rout in more than two years… The average price in the Standard & Poor’s/LSTA U.S. Leveraged Loan 100 Index dropped 2.6 cents on the dollar during a six-week period ended Oct. 16, falling to as low as 95.69 cents on the dollar before rising to 96.9 cents yesterday. Average prices of junk bonds globally have dropped as much as 5.5 cents since June to 99.9 cents… Investors last week pulled $1.7 billion from U.S. funds that buy leveraged loans, the most since August 2011, while extending the longest stretch of outflows since 2008, according to Lipper. Net withdrawals from the funds rose to $13.1 billion, after attracting a record $62.9 billion of deposits last year. An unprecedented 95 straight weeks of inflows into loan funds was snapped in April.”

Federal Reserve Watch:

October 29 – Wall Street Journal (Pedro Nicolaci da Costa): “Federal Reserve officials meeting Tuesday and Wednesday are virtually certain to end their latest bond-buying program, but they won’t be retiring the policy for good. Their recent comments show bond purchases are now an established part of the Fed’s policy tool kit that they could employ again in times of deep economic trouble. The central bank has employed three rounds of bond-buying programs since the 2008 crisis, first to stabilize the financial system and later to spur stronger growth."

U.S. Bubble Watch:

October 29 – Bloomberg (Sarah Frier): “The numbers are in for Facebook Inc.’s acquisition of mobile-messaging application WhatsApp Inc.: The social network paid $22 billion for a startup that generated $10.2 million in revenue last year… WhatsApp’s net loss was $138.1 million for 2013. The valuation of the deal was already regarded as lofty, at 19 times projected sales. Still, the results illustrate how far Facebook has to go to get its money’s worth for the app… Chief Executive Officer Mark Zuckerberg said he’s in no rush to make money from WhatsApp, or Facebook’s other growing applications, until they reach 1 billion users.”

October 27 – Bloomberg (Nadja Brandt): “A building boom that transformed Miami into a destination for the global elite left out the city core, better known for its empty lots filled at night with tents for the homeless. Now the area awaits a $2 billion face lift. Worldcenter, a 27-acre development that languished for almost a decade, won city approval last month and is slated to break ground next year near Miami’s business district. The project will include almost 1,000 luxury condominiums and apartments, a Marriott Marquis hotel with convention space, and stores such as Macy’s and Bloomingdale’s. Developers CIM Group, Falcone Group and Centurion Partners are seeking to breathe life into a neighborhood often referred to as the ‘hole in the doughnut,’ an area of blight and weedy lots surrounded by luxury properties that are attracting South American, European and Asian buyers.”

October 28 – Bloomberg (Madeline McMahon): “The Financial Select Sector SPDR, an exchange-traded fund targeting banks and investment firms, had the biggest withdrawal last week since 2009 amid concern that low interest rates and market swings will hurt profits. Investors pulled $913.4 million from the $17.5 billion ETF…, a shift that turned its flow of funds negative for the year. About 143 million shares of the ETF have been borrowed and sold to speculate on declines, the most since June 2012…”

ECB Watch:

October 27 – Reuters (Paul Carrel and John O'Donnell): “The European Central Bank's plan to buy private sector assets may fall short of its goal and pressure is likely to build for bolder action early next year, with government bond purchases an option, ECB sources said. The euro zone's central bank started buying covered bonds last week and plans to buy asset-backed securities (ABS), or bundled loans, later this year… ECB President Mario Draghi has said he wants the purchase plans, together with the provision of new cheap loans to banks, to increase the ECB's balance sheet towards its levels of early 2012 -- up to 1 trillion euros higher than today. But the illiquid nature of the ABS market and the scarcity of quality paper available to buy means the ECB may struggle to achieve the stimulus effect it wants with the current programme… ‘Some people know that this (the current purchase plan) will not work. It's too small and the problem is much, much bigger,’ said one source… The second source added: ‘We're perfectly aware these two markets are not that simple and certainly on their own will not be sufficient to expand our balance sheet as we intend… Policymakers are desperate to revive the euro zone economy, which is barely growing and dogged by low inflation of 0.3%... To augment its stimulus, the ECB is considering buying corporate bonds and may decide on the matter as soon as December with a view to begin purchases early next year, several sources familiar with the situation told Reuters last week. Buying corporate bonds would widen out the ECB's private-sector asset-buying programme, but could also prove problematic…"

October 27 – Bloomberg (Alessandro Speciale and Alastair Marsh): “The European Central Bank said it settled 1.704 billion euros ($2.2bn) of covered-bond purchases last week as it started its latest effort to revive the euro-area economy. The… institution began purchases on Oct. 20, returning to the market for a third time in six years as part of a renewed attempt to stave off deflation and pump life into a moribund recovery. Investors have been closely watching the ECB’s first week of asset buying to gauge how quickly President Mario Draghi plans to fulfill his pledge of expanding the institution’s balance sheet by as much as 1 trillion euros. Even though the ECB will add asset-backed securities to the purchase plan this year, stimulus may not be enough to revive the region’s economy.”

October 28 – Bloomberg (Candice Zachariahs and Lukanyo Mnyanda): “For European Central Bank President Mario Draghi, the price of a weaker euro to boost the economy and stave off deflation is a record exodus from the continent’s financial assets. Domestic and foreign investors spurred 187.7 billion euros ($239bn) of fixed-income outflows from the euro area in the six months through August, the most in ECB data going back to the currency’s debut in 1999. That’s helped push the euro down 2.7% versus a basket of nine developed-market peers tracked by Bloomberg Correlation-Weighted Indexes this year, the biggest decline since 2010, when the euro-region debt crisis was getting started. ‘Foreign demand and domestic investor demand have been equally negative, and looking ahead they’ll be significant factors in driving a weaker euro,’ Phyllis Papadavid, a senior global-currency strategist at BNP Paribas… said…”

October 28 – Bloomberg (Jennifer Ryan): “European Central Bank President Mario Draghi, fighting a deflation threat in the euro region, may need to confront a concern more familiar to Americans: income inequality. With interest rates almost at zero, Draghi is moving into asset purchases to lift inflation to the ECB’s target. The more he nears the kind of tools deployed by the Federal Reserve, the Bank of England and the Bank of Japan, the more he risks making the rich richer, said economists including Nobel laureate Joseph Stiglitz. In the U.S., the gap is rising between the incomes of the wealthy, whose financial holdings become more valuable via central bank purchases, and the poor. While monetary authorities’ foray into bond-buying is intended to stabilize economic conditions and underpin a real recovery, policy makers and economists are increasingly asking whether one cost may be wider income gaps -- in Europe as well as the U.S. ‘The more you use these unusual, even unprecedented monetary tools, the greater is the possibility of unintended consequences, of which contributing to inequality is one,’ said William White, former head of the Bank for International Settlements’ monetary and economic department. ‘If you have all these underlying problems of too much debt and a broken banking system, to say that we can use monetary policy to deal with underlying real structural problems is a dangerous illusion.’”

Central Bank Watch:

October 28 – Bloomberg (Johan Carlstrom): “Sweden’s central bank ventured into uncharted territory as it cut its main interest rate to zero and delayed tightening plans into 2016 in a bid to jolt the largest Nordic economy out of a deflationary spiral. ‘The Swedish economy is relatively strong and economic activity is continuing to improve,’ the… bank said… ‘But inflation is too low.’ …The bank said it won’t raise rates until ‘inflation clearly picks up’ in mid-2016.”

Russia Watch:

October 29 – Bloomberg (Nicholas Larkin): “Russia boosted gold reserves by the most since defaulting on local debt in 1998, driving its bullion holdings to the largest in at least two decades. The country expanded its stockpile, the world’s fifth- biggest, by 37.2 metric tons in September to 1,149.8 tons… The increase, valued at about $1.5 billion, was the biggest since November 1998. Russian reserves, which overtook those of Switzerland and China this year, almost tripled since the end of 2005 and are at the highest since at least 1993…”

October 29 – Bloomberg (Vladimir Kuznetsov): “The ruble’s persistent weakening in the face of $24 billion of interventions is stoking speculation the Bank of Russia will accelerate its switch to a free float. The currency fell to a record for a sixth day today… bringing this month’s drop to 7.4%... The central bank, which plans to stop managing the ruble in 2015, should take the step now to make its interventions less predictable and keep speculators at bay, former Finance Minister Alexei Kudrin said… Russia is draining reserves, already at a four-year low, as tumbling oil prices and U.S. and European sanctions over President Vladimir Putin’s role in Ukraine exacerbate the ruble’s losses.”

Brazil Watch:

October 26 – Bloomberg (Mario Sergio Lima and Anna Edgerton): “Brazil’s President Dilma Rousseff won re-election and stretched her Workers’ Party’s rule to a record 16 years by convincing voters her opponent threatened social gains she pledged to expand in her second term.”

October 24 – Bloomberg (Cristiane Lucchesi, Ye Xie and Josue Leonel): “Fourteen months after Brazil began selling billions of dollars’ worth of derivative contracts to shore up its currency, the strategy is proving ineffective and raising concern in financial markets. The real fell to a six-year low yesterday and is the world’s most volatile currency. Some analysts say the swaps, which are equivalent to selling dollars in the futures market and now amount to 27% of foreign reserves, are approaching critical levels… ‘The swaps program has reached its limit and it needs urgent review since it is losing efficiency and credibility,’ said Tony Volpon, the head of emerging-market research at Nomura Holdings Inc., Japan’s largest brokerage.”

October 30 – Bloomberg (Mario Sergio Lima and Raymond Colitt): “Brazil’s September outstanding loans rose at the fastest pace in nine months as the government endeavors to spur credit to revive growth. Bank lending rose 1.3% in September, up from a revised 0.9% in August and the most since last December, the central bank said in a report distributed today in Brasilia. Lending rose 11.7% in the 12 months through September to 2.9 trillion reais ($1.2 trillion), faster than the 11.1% annual pace in August.”

October 28 – Bloomberg (Julia Leite and Raymond Colitt): “Brazilian President Dilma Rousseff said in her re-election victory speech two nights ago that she would implement ‘great changes’ quickly. Investors are reminding her just how urgent that task is. They drove the real down 1.9% and pushed stocks down as much as 6.2%, showing their concern that Rousseff’s second four-year term will fail to bring relief to an economy marred by recession and high inflation. The currency has lost 12% over the past three months while the Ibovespa equity benchmark tumbled 13% amid the closest presidential race since at least 1945… ‘Foreign investors are voting no, and Brazil needs foreign investment,’ Michelle Gibley, the director of international research at… Charles Schwab… said… ‘The real falling just exacerbates the inflation problem, which is persistently high. Reducing fiscal spending would be key, and a new finance minister would be a good start.’”

October 27 – Bloomberg (Paula Sambo and Filipe Pacheco): “The stagnant Brazilian economy and soaring inflation that almost cost President Dilma Rousseff her re-election bid yesterday haven’t pleased bondholders. The country underperformed developing-nation peers in both local and foreign debt markets during her first four years. Her second term may even bring worse returns as concern mounts that Brazil could lose its investment-grade rating after Standard & Poor’s cut the country to one level above junk in March…”

EM Bubble Watch:

October 27 – Financial Times (Elaine Moore): “Global market turbulence has triggered the biggest outflows from emerging market equities in more than a year. Investors removed $9bn from stocks and shares across Africa, Latin America, eastern Europe and Asia in October, according to figures from the… Institute of International Finance… Cooling sentiment towards emerging markets because of slowing growth in China and unwinding monetary stimulus in the US has been exacerbated by general nervousness about uneven global growth. The FTSE Emerging index, which consists of developing countries including China, Brazil and India, has lost more than 10% since early September. ‘Overall, flows to emerging markets have ground to a halt,’ said IIF chief economist Charles Collyns. ‘There has been some stabilisation in recent days but we expect the pattern of rising risk aversion and shifting Fed rate expectations to continue.”

Europe Watch:

October 31 – Financial Times (Andrew Bolger): “Fresh sales of European high-yield bonds have virtually ground to a halt as prices have dropped, according to Standard & Poor’s. The yield on high-yield bonds, which moves inversely to prices, jumped from 3.82% in June to 5.3% earlier this month, although it has since fallen back to 4.83%... The ratings agency said borrowers were considering turning to the loan market instead, although investors there were more frequently pushing back on structures, pricing, and terms.”

October 31 – Bloomberg (Lorenzo Totaro): “As the cost of borrowing creeps higher for Italy, Prime Minister Matteo Renzi is losing room for error while he endeavors to rein in debt exceeding 2 trillion euros ($2.5 trillion). Italy paid the most since June to sell five-year notes at yesterday’s auction of 7.2 billion euros ($9.1bn) of debt as Italian bank’s financial woes added to concerns about the country’s growth outlook… Renzi is relying on the country’s 10-year bond yields going no higher than 2.7% on average next year… ‘If the yield levels differ just a bit from the government’s assumptions, it then takes little to ruin the gift of the historically low yields Italy has enjoyed this year,’ Francesco Boccia, a lawmaker from Renzi’s Democratic Party and the head of parliament’s budget committee, said… ‘One can only hope that those who have the duty of signing off on our forecasts have this very much in mind.’”

October 26 – Financial Times (Sam Fleming, Martin Arnold, Arash Massoudi and James Politi): “Nine Italian banks have failed European Central Bank stress tests, among them Banca Monte dei Paschi di Siena, underlining the fragile state of the country’s financial system. The Italian lenders ranked among 25 euro area banks that had capital shortfalls under an ‘adverse’ scenario in stress tests of 130 lenders overseen by the ECB. Of the total, about 13 banks still had shortfalls when factoring in capital raised in 2014, ECB data showed.”

October 26 – Bloomberg (Sonia Sirletti and Dan Liefgreen): “Italian banks showed the largest combined capital shortfall in the European Central Bank’s review of the region’s lenders as the country struggles to emerge from its third recession in six years. Banca Monte dei Paschi di Siena SpA, Italy’s third-largest lender, emerged with a capital gap of 2.1 billion euros ($2.7bn) while Banca Carige SpA must replenish 814 million euros of capital after taking into account funds raised this year, the ECB said… Of the nine Italian banks that failed a stress test, four still showed holes after measures they took this year… ‘The failed nine Italian banks confirms the country’s banking sector faces significant challenges,’ Raj Badiani, an economist at IHS Global Insight wrote… ‘Italian banks need to address their capital shortfalls by forgoing dividend payouts, selling assets and cutting costs even considering some consolidation across the sector,’ he said.”

October 28 – Financial Times (James Politi): “Italian officials have no plans to use public money to prop up the banks that failed the European Central Bank’s health checks, expressing confidence that they can find ‘market solutions’ to the troubles of some of their financial institutions. Four Italian banks were judged by the ECB to have failed the so-called ‘stress tests’ – with Monte dei Paschi di Siena and Banca Carige facing the largest shortfalls – making Italy the most vulnerable of the European countries that participated in the exercise. But from the Bank of Italy to the government of Matteo Renzi, prime minister, the response has been to emphasise that there is little evidence of a systemic weakness in the Italian banking system – and no need for public intervention. In the wake of the stress test results, Italy’s finance ministry issued a statement saying Pier Carlo Padoan, the minister, was ‘confident that the residual shortfalls will be covered through further market transactions’ that would be ‘easily completed’.”

October 29 – Bloomberg (Charles Penty): “Prime Minister Mariano Rajoy apologized to the Spanish people yesterday amid mounting public outrage at a new wave of corruption allegations against officials from his party. All members of the governing People’s Party among the 51 arrested this week on bribery allegations have had their party membership suspended and will be expelled if the charges are proved, Rajoy told the Senate… ‘I understand and share fully the indignation of so many Spaniards at the accumulation of scandals,’ Rajoy said… Rajoy is battling to retain his moral authority amid evidence that local officials took bribes to hand out public contracts while he was administering the harshest budget cuts in Spain’s democratic history. This week’s arrests follow allegations from the former PP treasurer, Luis Barcenas, that Rajoy and other senior party officials including Rodrigo Rato, a former deputy prime minister, accepted cash from a party slush fund.”

Global Bubble Watch:

October 31 – Financial Times (Sam Fleming): “The scale of shadow banking relative to the overall economy is closing in on its pre-crisis peak even as mainstream lenders’ share of business declines, according to official figures… The broadest gauge of shadow banking assets tracked by the Basel-based Financial Stability Board grew by $5tn to surpass $75tn last year in 20 countries plus the euro area, or 120% of the region’s gross domestic product, approaching the high of 123.4% recorded in 2007. Shadow banking comprised 24.5% of financial assets, the highest since 2007. By contrast, traditional banks’ share of the sector slipped to 45.6% from a high of over 49% in 2008… Of the major economies, China experienced by far the strongest growth in shadow banking activity, at 38% between 2012 and 2013. Across emerging markets, 7 countries experienced expansion of more than 10% in their shadow banking sectors.”

October 27 – Bloomberg (Alaa Shahine and Nafeesa Syeed): “Gulf Cooperation Council countries may see their current-account surplus decline by $175 billion next year if oil prices stay about $80 a barrel, according to the International Monetary Fund. The projected surplus for the six GCC countries may plunge from $275 billion to about $100 billion next year, Masood Ahmed, director of the Middle East and Central Asia department at the IMF, said… The extended drop in prices would also ‘translate into an 8% reduction in the fiscal revenues of the GCC as a whole,’ he said.”

October 27 – Financial Times (Miles Johnson): “Volatile markets and a series of large concentrated bets that went awry combined to make October a brutal month for some of the world’s largest hedge funds… Several large so-called global macro funds, those hedge funds that make trades across various markets based on their views on economic growth and monetary policy, saw their performance dented by a reversal in the recent rise of the US dollar, and uncertainty over the direction of US interest rates.”

October 29 – Bloomberg (Will Wainewright): “Archipel Asset Management AB, a Swedish hedge-fund firm that makes trades based on computer algorithms, is closing after its biggest backer pulled out, citing a lackluster performance. The stock-trading fund founded in 2007 is returning cash to participants… said Stefan Nydahl, Archipel’s partner and chief investment officer. ‘The quantitative models serving as the foundation of the fund’s asset management activities have experienced difficulties generating returns,’ Nydahl said…”

Geopolitical Watch:

October 30 – Bloomberg (Daryna Krasnolutska): “Ukraine’s economy shrank 5.1% in the third quarter from a year earlier, the most in almost five years, as industrial production and the hryvnia slumped amid the bloody conflict in the country’s east.”

China Bubble Watch:

October 31 – Bloomberg: “Chinese bank deposits dropped following a crackdown on lenders manipulating their numbers and ‘illicit’ means of attracting money, threatening to weigh on credit growth and hinder efforts to reignite the economy. Four of the five biggest banks… posted a drop in deposits as they reported third-quarter earnings this week. Central bank data showed it was the first quarterly decline for the nation’s banking industry since at least 1999.”

October 31 – Financial Times (Gabriel Wildau): “Bad loans at China’s biggest banks rose at the fastest pace in at least seven years during the third quarter as a slowing economy squeezed corporate borrowers… Industrial & Commercial Bank of China and China Construction Bank, the country’s two biggest banks by assets, reported their biggest quarterly jump in bad loans in at least seven years, with rises of 9 and 10% respectively.”

October 28 – Bloomberg: “Outstanding property loans at domestic, rural and foreign banks rose 18.2% on year as of end- September. Outstanding personal home-purchase loans rose 17.5% to 11.12t yuan as of end-Sept.”

October 29 – Bloomberg (Justina Lee): “A doubling in the trust holdings of China’s insurers has prompted ratings companies to warn the industry may be taking on too much shadow banking default-risk. Insurers held 281 billion yuan ($46bn) of trust products on June 30, surging from 144 billion yuan at the end of last year, China Insurance Regulatory Commission data show. The companies’ shadow bank assets, including wealth management products and other financing kept off commercial lenders’ balance sheets, reached 1.14 trillion yuan, or 13% of their investments… Chinese insurers’ assets doubled in the past five years to 9.6 trillion yuan last month, as premium income climbed an average of 14% annually. Squeezed by competition from wealth management products sold by banks and online funds, insurers started offering policies with investment characteristics to compete for money. ‘Over the last two or three years, banking product rates have been quite competitive compared with some of the rates offered by the insurers,’ said Terrence Wong, a director at Fitch… ‘So to enhance the yield, they have to seek investment instruments with higher returns.’”

October 28 – Bloomberg (David Yong): “Goldman Sachs… says investors should avoid Chinese developer notes because they’re still the riskiest part of Asia’s bond market even as the debt recovers from the biggest selloff in 15 months. ‘We maintain our negative view on China property credits although we prefer better quality names and shorter duration exposure,’ analysts led by… Kenneth Ho wrote… Goldman Sachs downgraded the Chinese real estate sector to negative from neutral on Sept. 4, citing, among other things, worsening leverage and rising stock of unsold homes. Developers in the nation have some $50.4 billion of dollar-denominated bonds outstanding, with 72% of those notes issued in the past two years…”

October 30 – Bloomberg: “China sent investigators to the southern province of Guangdong to probe a sevenfold surge in precious-metals exports as the government intensifies scrutiny of irregularities in the country’s trade figures. The team includes staff from the Ministry of Commerce and General Administration of Customs, according to people with knowledge of the matter who asked not to be identified because the information hasn’t been made public. Shipments of precious metals, including jewelry, rose to about $10.8 billion in September from $1.39 billion a year earlier…”

Japan Bubble Watch:

October 31 – Financial Times (Ben McLannahan): “Haruhiko Kuroda, Bank of Japan governor, has defied objections from four fellow board members to crank up the bank’s monetary easing programme, arguing that a tax-hit economy and a lower oil price have led to ‘a critical moment’ in the country’s bid to escape from deflation. Mr Kuroda stunned markets last April by announcing plans to buy enough assets to pump up Japan’s monetary base at an annual pace of about Y60tn-Y70tn ($539bn-$629bn). On Friday, he stunned them again, saying that base money would now rise by about Y80tn a year… The extra action ‘shows our unwavering determination to end deflation’, Mr Kuroda said… ‘There was a risk that despite having made steady progress, we could face a delay in eradicating the public’s deflation mindset.”

October 31 – Bloomberg (Anna Kitanaka, Shigeki Nozawa and Yoshiaki Nohara): “Japan’s central bank and its $1.1 trillion pension fund landed a pair of blows for Abenomics today, with policy changes pushing Tokyo stocks to the biggest gain in a year and igniting a worldwide rally. The Government Pension Investment Fund will put half its holdings in local and foreign stocks, more than double its previous target… The overseers of Japan’s pension savings and central bank emerged again as allies to both global equity investors and Prime Minister Shinzo Abe as he seeks to spur an economic revival that would boost stocks and weaken the currency… The pension fund set allocation targets of 25% each for Japanese and overseas equities, up from 12% each…”

October 28 – Bloomberg (Masaaki Iwamoto and Kyoko Shimodoi): “Prime Minister Shinzo Abe’s economic revitalization campaign hasn’t been enough to pull Japan out of stagnation, said Naoyuki Shinohara, a deputy managing director of the International Monetary Fund. Exports aren’t getting a boost from the yen’s decline while gains in the stock market haven’t spurred domestic consumption, said Shinohara, a former Japanese vice-finance minister for international affairs. ‘Abenomics is not showing the expected results,’ he said… ‘There had been considerable fanfare about structural reforms and deregulation, but it ended up with no substance.’”