Sunday, December 14, 2014

September 26, 2014: What We Know

There’s much that we simply don’t know. There is as well a lot we know with an important degree of confidence.

Some months back I highlighted an exceptional Bank of America Merrill Lynch research report, “Pig in the Python – the EM Carry Trade Unwind” (Ajay Singh Kapur, Ritesh Samadhiya and Umesha de Silva). In light of recent market developments, it’s a good time to revisit this thesis and highlight some of their data.

From “Pig in the Python,” February 2014: “Since 3Q2008, the US Federal Reserve QE has unleashed a massive $2 TN debt-driven carry trade into emerging markets, disproportionately increasing their forex reserves (by $2.7 TN from end-3Q 2008), their monetary bases (by $3.2 TN), their credit and monetary aggregates (M2 up by $14.9 TN), consequently boosting economic growth and asset prices (mainly property and bonds). As the Fed continues to taper its heterodox policy, we believe these large carry trades are likely to diminish, or be unwound.”

Most standard analysis on the balance of payments recognizes external debt as issued by residence, not by the nationality of the issuer. Given the proliferation of EM banks and corporates borrowing in offshore bond and inter-bank markets, and using BIS data, we rectify this. It makes a huge difference… For externally-issued bonds, $1042bn has been raised by the nationality of the EM borrower since 2009, $724bn by residence of the borrower – a gap of $318bn, or 44%. This undercount is $165bn in China, $100bn in Brazil, and $62bn in Russia. External bond-issuing EM non-financial corporates are behaving as quasi-financial intermediaries, executors of a vast carry trade.”

I agree completely with the “Pig in the Python” thesis that “Emerging market banks and corporates have gone on an international leverage binge, yet another carry trade, the third in 20 years.” I closely monitored and studied all three. The first ended in the spectacular collapse of the Asian Tiger Bubble Economies in 1997 and the second with the 2008 global financial crisis. The post-crisis EM Bubble has been fundamental to my “Granddaddy of them all” “global government finance Bubble” thesis. There has been nothing remotely comparable in history – built, by the way, on increasingly suspect premises.

For starters (from “Pig in the Python” data), outstanding external EM bonds doubled since the end of 2008 to $2.051 TN. In addition, outstanding EM banking system international bank borrowings jumped 39% to $2.992 TN. As such, Total EM International (“external”) Borrowings increased almost $1.9 TN (59%) in five years to surpass $5.0 TN. Never have EM governments, corporations and banks piled on so much debt, much of it denominated in dollars or other foreign currencies. And keep in mind that this borrowing and lending binge unfolded in a world anticipating aggressive Federal Reserve stimulus, ongoing dollar devaluation, rising commodity prices and a general global reflationary backdrop. It just didn’t play out as expected, so there will now be a huge price to pay.

Looking first to Asian data, outstanding Asia (ex-Japan) external bonds jumped 112% in five years to $921bn. By country, we see China’s external bonds were up $194bn, or 421%, to $240bn. Including bank international forex borrowings, total China external debt jumped $642bn, or 310%, since the end of 2008 to $849bn. Hong Kong external bonds jumped $49bn, or 71%, to $117bn (total up $223bn, 63%). Elsewhere in Asia, Indonesian external bonds jumped 197% to $70bn (total up $67bn, 101%), Singapore 82% to $93bn, Malaysia 59% to $53bn, South Korea 58% to $179bn and India 73% to $74bn (total up $86bn, 54%).

Russia external bonds jumped 85% in five years to $263bn, with total external debt up $104bn, or 32%, to $424bn. Turkey’s external bond borrowings surged 63% to $83bn, and Poland saw external bonds jump 73% to $70bn. South African external bonds rose 51% to $57bn.

In Latin America, the region’s outstanding external bonds jumped 126% in five years to $562bn, with extraordinary increases in debt almost across the board. Notably, Brazil saw external bonds jump 141% to $296bn. Including international bank borrowings, total external debt increased a remarkable 104% to $487bn. Mexico external bonds jumped 87% to $164bn, with total external debt up 47% to $164bn. Chile external bonds rose 220% to $32bn, Colombia 123% to $40bn (total up 109% to $32bn) and Peru 178% to $30bn. It’s as if the region’s sordid financial past was completely erased from history.

Now examining recent market performance, we see that the Brazilian real was this week hit for 2.1%, the Colombian peso 2.3%, the Mexican peso 1.8%, the Russian Ruble 1.9%, the South African rand 1.3% and the Turkish lira 1.2%. One-month performance is even more telling. The Russian ruble was down 7.6%, the Brazilian real 6.6%, the South African rand 4.9%, the Turkish lira 4.3%, Colombian peso 4.3% and Polish Zloty 3.5%. There seems to be a rather striking correlation between recent currency weakness and the countries that piled on huge amounts of international debt over recent years.

On the bond side, this week saw Brazilian (local) yields surge 26bps to 11.88% (yields traded as high as 12.19% intraday Friday), with yields up almost 100bps from early September trading lows. Mexico’s (local) yields rose 16bps this week to an almost four-month high 6.09%. Turkish (local) yields jumped 38 bps this week to 9.55%, the high since April, with yields also up more than 100 bps from late-July lows.

So what else do we know? We know many commodity prices have been hammered, closing the week near multi-year lows. This week’s small decline boosted the Goldman Sachs’ Commodities Index’s 2014 loss to 7.9%, closing Friday at the lowest level since mid-2012. Many price collapses have been nothing short of brutal. Corn prices have sunk 37% from April highs, with wheat down about 36% and soybeans almost 40%. Cotton prices are down 27% from May highs and sugar 18% from June highs. Crude prices are down 11% from June highs, with natural gas down 17%. Silver was down 19% from June highs, Platinum 14% and gold 9%. Palladium prices were down 13% in four weeks.

What else do we know? We know that China is a financial accident in the making.

September 25 – Bloomberg (Jake Rudnitsky and Anton Doroshev): “China uncovered almost $10 billion in fraudulent trade nationwide as part of an investigation begun in April last year, including many irregularities in the port of Qingdao, the country’s currency regulator said… Companies ‘faked, forged and illegally re-used’ documents for exports and imports, Wu Ruilin, a deputy head of the State Administration of Foreign Exchange’s inspection department, said… The trades have ‘increased pressure from hot money inflows and provided an illegal channel for criminals to move funds,’ Wu said… ‘Some companies used the trade channel to bring in hot money,’ said Zhou Hao, a Shanghai-based economist at Australia & New Zealand Banking Group… SAFE’s investigation ‘will likely further cool down hot money inflows and commodity imports could slow as banks will likely conduct more careful checks on documentation.’”

We can safely assume that the $10bn of uncovered fraud in the commodities financing area is the tip of the iceberg. I feel comfortable with my assumption that the financial world has never seen fraud and malfeasance to the extent that has manifested throughout China over the past decade, particularly during the post-crisis stimulus fiasco.

We also know that weak commodities prices, massive industrial overcapacity and faltering corporate earnings have exacerbated market concerns over Chinese financial and economic stability. At the same time, we know that the powerful “too big to fail” dynamic still permeates Chinese financial markets. We know that bond prices for the big property developers have rallied, despite rapidly deteriorating housing fundamentals. Risk premiums have actually increased for fringe developers and manufactures, on the view that Beijing would prefer to impose a little market discipline. At the same time, the vast majority of corporate and bank bonds benefit from the perception that the central government has absolutely no tolerance for a crisis. Chinese stocks have rallied on expectations of more aggressive stimulus measures. International markets have remained amazingly accommodative to Chinese borrowers.

We know that Chinese total Bank Assets have increased about $17 TN, or 168%, since the end of 2008 to an astounding $27.3 TN (from Bloomberg data). On various levels, the unprecedented inflation of Chinese Credit has been at the nucleus of a historic investment boom and “global reflation trade.” Rapidly expanding Chinese consumption created a huge increase in global commodities demand. At the same time, Chinese companies with virtually unlimited access to cheap finance (bank loans, domestic and international bond issuance) scoured the world to amass vast commodity holdings.

We also know that enormous amounts of “hot money” finance flowed into China through commodity-financing vehicles. With attractive yield differentials and a semi-pegged currency being steadily revalued higher against the dollar, Chinese Credit has offered an extraordinarily favorable risk vs. reward "carry." We know that Chinese authorities began to devalue their currency earlier in the year, before rather abruptly altering course this summer. Perhaps it was mere coincidence that authorities changed their mind on devaluation just as significant problems surfaced within China’s vast “commodities” financing scheme (spurring worries of “hot money” flight).

And I know the bullish view that stress in China will be met with limitless fiscal and monetary stimulus. We know that the Chinese central bank is sitting on Trillions of reserves. But I also believe that the tightly intertwined Chinese and EM booms at this point represent history’s greatest financial and economic Bubble. And there are serious cracks – cracks in China, cracks Russia, cracks in Brazil and throughout EM generally, along with cracks in commodities and, increasingly, currency markets. King dollar has begun inflicting self-reinforcing stress and instability. Struggling Chinese industry is hurt by a strengthening renminbi (tied to the King), while the values of Chinese commodity and related assets around the globe suffer at the hands of falling prices. Key Chinese trade partners are seeing their currencies falter and bond yields rise, placing highly levered banks and corporations at mounting risk. At this point, it appears the feared “hot money” exodus away from increasingly fragile EM economies and financial systems has gained important momentum.

I found myself this week thinking back again to the extraordinary year 1998. Keep in mind that just the previous year all bloody hell had broken loose. The collapse in the Thai baht incited a domino breaking of currency pegs that unleashed incredible collapses in Thailand, Indonesia, Malaysia, Philippines and South Korea. The financial, economic and social upheaval wrought from these bursting Bubbles was nothing short of horrific.

By mid-1998, at least in the U.S., all was forgiven and forgotten. I was convinced that Russia was vulnerable to similar Bubble dynamics that had brought down the Asia Tiger “Miracle” economies. Yet U.S. and global markets were incredibly complacent.

There were a couple key market misperceptions at work. One was the view that the West would never allow a Russian collapse. Secondly, after a perilous 1997, global policymakers were on the case and would not allow the reemergence of crisis dynamics. The perception that authorities were there to backstop the risk markets ensured the type of egregious risk-taking and speculative leverage that almost brought the global financial system down with the near-simultaneous collapses of Russia and Long-Term Capital Management. From a record high on July 20, 1998, the S&P500 traded down 22% to the low posted on October 8th. The bank index (BKX) traded down 42% from July 17th highs to October 8th lows.

I raise the subject of 1998 because global market participants these days are remarkably confident that Chinese, U.S., Japanese, European and other global policymakers will not allow a major crisis. They will all “Do Whatever it Takes.” They will print “money” and they will spend “money” – without constraint and without a conscience. And it is this now deeply embedded complacency that has ensured the type of lending, speculating, leveraging, investing and spending excesses that basically ensure one very problematic global crisis. As always, the bursting of a Bubble is near-impossible to time. At the same time, various cracks are increasingly apparent. That we know.

I also think I know a couple likely transmission mechanisms from increasingly unstable global markets to highflying U.S. securities. Interestingly, there was talk of hedge fund liquidations pressuring stock prices lower during Thursday’s swoon. With performance struggling, much of the hedge fund industry may be at risk of the weak hands dilemma. Faltering markets would force many to move quickly to cut losses.

We know that back during the summer of 2013 “tapper tantrum” global market “risk off” was transmitted to U.S. markets through outflows and resulting liquidations of ETF holdings, notably from corporate and municipal debt funds (often with liquidity-challenged underlying holdings). We know that some incipient instability and liquidity concerns have returned to the U.S. corporate debt marketplace. Headlines this week included from Dow Jones, “Junk-Bond Investors Start to See Warning Signs.” From Bloomberg “BlackRock Junk-Bond ETF Sinks as Debt Yield Spikes to 2014 High” and “BlackRock Says ‘Broken’ Corporate Bond Market Needs Change.” In the markets, junk bond CDS jumped 33 bps this week to a near eight-month high.

Market liquidity is a fascinating – often robust, occasionally fleeting - thing. When markets perceive liquidity abundance, attendant risk-taking and speculative leveraging ensure an easy-flowing liquidity environment (reflexivity!). We know that ultra-loose financial conditions have provided seemingly endless cheap finance for stock buybacks, M&A, LBOs and all kinds of financial engineering. And we know that incredibly loose corporate Credit conditions have fueled exuberance and Bubbling equity prices. It would appear we’re at the tenuous stage of the cycle where borrowers line up as far as the eye can see.

Yet a bout of de-risking/de-leveraging – especially if it incites a big reversal of flows away from fixed-income funds – would appear a reasonable catalyst for general market liquidity issues. A weakened corporate debt market would hurt stock market sentiment – and faltering stock prices would further weigh on vulnerable debt market confidence. And when the legendary founder and head of one of the world’s largest “bond” funds suddenly departs for another shop, well, this creates yet another layer of complexity on an already highly complex backdrop. Looking at markets at home and abroad, it’s now difficult for me to envisage a backdrop were liquidity is not a growing concern. We know without a doubt that this is one heck of a fascinating market environment. 

For the Week:

The S&P500 declined 1.4% (up 7.2% y-t-d), and the Dow lost 1.0% (up 3.2%). The Utilities were hit for 1.6% (up 9.4%). The Banks dropped 2.2% (up 4.1%), and the Broker/Dealers fell 2.0% (up 6.5%). Transports declined 1.7% (up 14.7%). The S&P 400 Midcaps dropped 2.3% (up 3.3%), and the small cap Russell 2000 was hit for 2.4% (down 3.8%). The Nasdaq100 declined 1.1% (up 12.9%), and the Morgan Stanley High Tech index fell 1.5% (up 7.5%). The Semiconductors slipped 1.0% (up 20.2%). The Biotechs added 0.6% (up 34.2%). Although bullion recovered $3, the HUI gold index was down 3.3% (up 2.0%).

One-month Treasury bill rates closed the week at zero and three-month bills ended at one basis point. Two-year government yields added a basis point to 0.58% (up 20bps y-t-d). Five-year T-note yields slipped two bps to 1.80% (up 5bps). Ten-year Treasury yields fell five bps to 2.53% (down 50bps). Long bond yields dropped seven bps to 3.21% (down 76bps). Benchmark Fannie MBS yields declined four bps to 3.21% (down 40bps). The spread between benchmark MBS and 10-year Treasury yields widened one to 68 bps. The implied yield on December 2015 eurodollar futures was little changed at 1.09%. The two-year dollar swap spread was little changed at 23 bps, and the 10-year swap spread was little changed at 13 bps. Corporate bond spreads widened meaningfully. An index of investment grade bond risk jumped eight to 64 bps. An index of junk bond risk surged 33 to an almost eight-month high 356 bps. An index of emerging market (EM) debt risk rose five to 286 bps.

Ten-year Portuguese yields fell eight bps to 3.10% (down 303bps y-t-d). Italian 10-yr yields added two bps to 2.39% (down 174bps). Spain's 10-year yields were little changed at 2.20% (down 195bps). German bund yields dropped seven bps to 0.97% (down 96bps). French yields were down eight bps to 1.31% (down 125bps). The French to German 10-year bond spread narrowed one to 34 bps. Greek 10-year yields surged 39 bps to 6.16% (down 226bps). U.K. 10-year gilt yields fell eight bps to 2.47% (down 55bps).

Japan's Nikkei equities index declined 0.6% (down 0.4% y-t-d). Japanese 10-year "JGB" yields fell four bps to 0.52% (down 22bps). The German DAX equities index sank 3.2% (down 0.6%). Spain's IBEX 35 equities index fell 1.4% (up 9.4%). Italy's FTSE MIB index declined 0.8% (up 9.6%). Emerging equities were mostly lower. Brazil's volatile Bovespa index declined 1.0% (up 11.1%). Mexico's Bolsa was hit for 1.9% (up 5.1%). South Korea's Kospi index fell 1.1% (up 1.0%). India’s bubbly Sensex equities index dropped 1.7% (up 25.8%). China’s Shanghai Exchange increased 0.8% (up 11%). Turkey's Borsa Istanbul National 100 index sank 3.0% (up 10.1%). Russia's MICEX equities index increased 0.2% (down 4.7%).

Debt issuance slowed somewhat. Investment-grade issuers included Sysco Corp $5.0bn, Roche $5.75bn, Branch Banking & Trust $800 million, MIT $456 million, Old Republic International $400 million, American Transmission Systems $400 million, Trinity Industries $400 million, Niagara Mohawk Power $400 million and Tiffany $550 million.

Junk funds saw inflows of $528 million (from Lipper). Junk issuers included GM Financial $1.25bn, RSP Permian $500 million, CB Richard Ellis Services $300 million, The Geo Group $250 million, Irongate Energy Services $210 million, DPL $200 million and Good Technology Corp $160 million.

Convertible debt issuers included SolarCity $500 million and Tesaro $175 million.

International dollar debt issuers included ING $1.5bn, Kommuninvest Sverige $1.0bn, Oesterreichische Kontrollbank $1.0bn, Asian Development Bank $1.0bn, Thomson Reuters $500 million, International Bank of Reconstruction & Development $750 million, Nordic Investment Bank $500 million, Virgin Media $500 million, Semiconductor Manufacturing International $500 million, International Finance Corporation $500 million, Samarco Mineracao $500 million, Magyar Export-Import Bank $500 million, NongHyup Bank $300 million, Hana Bank $300 million, El Puerto de Liverpool $300 million and Cimento Tupi $185 million.

Freddie Mac 30-year fixed mortgage rates declined three bps to 4.20% (down 12bps y-o-y). Fifteen-year rates slipped a basis point to 3.33% (down 1bps). One-year ARM rates were unchanged at 2.43% (down 20bps). Bankrate's survey of jumbo mortgage borrowing costs had 30-yr fixed rates up 26 bps to 4.89% (up 24bps).

Federal Reserve Credit last week expanded $10.1bn to a record $4.418 TN. During the past year, Fed Credit inflated $723bn, or 19.6%. Fed Credit inflated $1.607 TN, or 57%, over the past 98 weeks. Elsewhere, Fed holdings for foreign owners of Treasury, Agency Debt jumped $12.5bn last week to a record $3.360 TN. "Custody holdings" were up $12.5bn year-to-date and $70.5bn from a year ago.

Global central bank "international reserve assets" (excluding gold) - as tallied by Bloomberg – were up $835bn y-o-y, or 7.5%, to $12.010 TN. Over two years, reserves were $1.369 TN higher for 13% growth.

M2 (narrow) "money" supply gained $7.4bn to a record $11.505 TN. "Narrow money" expanded $715bn, or 6.6%, over the past year. For the week, Currency increased $1.6bn. Total Checkable Deposits jumped $34.6bn, while Savings Deposits fell $27.2bn. Small Time Deposits added $0.7bn. Retail Money Funds declined $2.3bn.

Money market fund assets jumped $15.1bn to $2.591 TN. Money Fund assets were down $127bn y-t-d and dropped $103bn from a year ago, or 3.8%.

Total Commercial Paper rose $6.0bn to a three-month high $1.058 TN. CP was up $12bn year-to-date, with a one-year decline of $6.3bn, or 0.6%.

Currency Watch:

The U.S. dollar index jumped 1.1% to 85.64 (up 7.0% y-t-d). For the week on the downside, the New Zealand dollar declined 3.3%, the Brazilian real 2.1%, the Australian dollar 1.8%, the Mexican peso 1.8%, the Canadian dollar 1.7%, the Norwegian krone 1.6%, the Swedish krona 1.1%, the South African rand 1.3%, the euro 1.1%, the Danish krone 1.1%, the Swiss franc 1.1%, the Singapore dollar 0.6%, the British pound 0.2%, the Japanese yen 0.2%, and the Taiwanese dollar 0.2%.

Commodities Watch:

The CRB index added 0.3% this week (unchanged y-t-d). The Goldman Sachs Commodities Index slipped 0.1% (down 7.9%). Spot Gold recovered 0.2% to $1,218 (up 1.1%). September Silver fell 1.7% to $17.54 (down 10%). November Crude rallied $1.89 to $93.54 (down 5%). October Gasoline gained 1.9% (down 5%), and November Natural Gas jumped 3.2% (down 5%). December Copper dropped 1.8% (down 11%). December Wheat slipped 0.1% to a four-year low (down 22%). December Corn fell another 2.6% to a new five-year low (down 24%).

U.S. Fixed Income Bubble Watch:

September 26 – Bloomberg (Sridhar Natarajan, Christine Idzelis and Ben Bain): “Bill Gross’s departure from Pacific Investment Management Co. is sparking a selloff in markets from credit derivatives to the Mexican peso as traders contemplate the potential fallout from the sudden exit of the world’s biggest bond trader. Credit derivatives indexes that Pimco has used to wager billions weakened as traders speculated those positions will be among the easiest for the firm to unwind should it face a wave of redemptions. Treasuries slumped on concern Gross’s departure may prompt a shift away from U.S. government debt. Mexico’s currency and Italian and Spanish government bonds, other big bets by the firm managing almost $2 trillion of assets, also dropped. ‘There’s a fear that there’ll be large redemptions and forced liquidation,’ Mark Pibl, head of U.S. fixed income research and strategy at Canaccord Genuity Inc., said… ‘When you’re so big, you can’t get in and out of the market easily.’”

September 26 – Bloomberg (Joseph Ciolli and Oliver Renick): “In the stock market, investors didn’t wait around to assess the implications of Bill Gross’s departure from Pacific Investment Management Co. -- they sold. Pimco’s Global StocksPlus & Income Fund slipped 7.4% to $22.25…, while the firm’s High Income Fund decreased 7.4% to $11.53, the biggest drop in almost two years. The Pimco Corporate & Income Opportunity Fund slid 5.2% to $17.44… The retreat whipsawed investors who were used to hearing Gross praise the same securities as a good way to navigate his ‘new neutral’ era of slowing growth and falling interest rates. He owned shares in 14 Pimco closed-end funds as of the start of July after adding almost $60 million of his own money in May and June…

September 26 – Bloomberg (Susanne Walker and Cordell Eddings): “Treasuries fell on speculation the exit of Bill Gross from Pacific Investment Management Co. may prompt the world’s biggest manager of bond funds to shift away from U.S. government debt. Janus Capital Group Inc. said in a statement today that it hired Gross to manage a global bond fund. Treasuries and government-related securities are the biggest holdings in the $222 billion Total Return Fund that was managed by Gross at Pimco for almost three decades.”

September 26 – Bloomberg (Margaret Collins): “Pacific Investment Management Co. may see asset withdrawals of as much as 30% after the surprise departure of Bill Gross, a legend in the bond world who became a familiar face to Main Street investors as they poured money into the firm’s funds through retirement plans. Money managers said they are monitoring developments at… Pimco, which manages $1.97 trillion in assets and has seen record redemptions… Sanford Bernstein said in a report… that Pimco could see withdrawals of 10% to 30%.”

September 23 – Bloomberg (Mary Childs): “BlackRock Inc. said the corporate bond market, which is one of the cornerstones of global finance, is ‘broken’ and must be retooled to improve liquidity. BlackRock, a major competitor in the bond market with $4.3 trillion in client assets, urged changes including unseating banks as the primary middlemen in the market and shifting transactions to electronic markets. Another solution BlackRock proposed: reducing the complexity of the bond market by encouraging corporations to issue debt with more standardized terms. Banks have retained their stranglehold on corporate debt trading despite years of effort by BlackRock and other large investors to eliminate their oligopoly. The top 10 dealers control more than 90% of trading, according to a Sept. 15 report from research firm Greenwich Associates. To BlackRock, the dangers of price gaps and scant liquidity have been masked in a benign, low interest-rate environment, and need to be addressed before market stress returns. ‘These reforms would hasten the evolution from today’s outdated market structure to a modernized, ‘fit for purpose’ corporate bond market,’ according to the research paper by a group of six BlackRock managers…”

September 23 – Bloomberg (Zachary Tracer): “U.S. life insurers are piling into the shadows of the corporate-bond market to boost income, even as rising demand reduces the extra yield they get paid to hold the debt. About $728 billion of debt known as private placements were held by insurers at the end of 2013, up from $678 billion two years earlier, according to Fitch… Insurers are shifting into harder-to-trade assets that generally offer higher yields than publicly registered and actively traded securities, causing those premiums to evaporate, according to Goldman Sachs… ‘In the investment-grade world today, that liquidity premium is virtually gone,’ John Melvin, who oversees fixed-income investments for insurers at Goldman… said… Insurers ‘really have almost an insatiable demand for investment product on the long end of the yield curve,’ he said.”

September 22 – Bloomberg (Devin Banerjee): “Julian Robertson, the billionaire founder of Tiger Management LLC, said there’s a bubble in bonds that will end ‘in a very bad way.’ ‘Bonds are at ridiculous levels,’ Robertson said today at the Bloomberg Markets Most Influential Summit… ‘It’s a wordwide phenomenon that governments are buying bonds to keep their countries moving along economically.’”

September 23 – Bloomberg (Sridhar Natarajan): “History suggests that the corporate bond market will be just fine when the Federal Reserve starts raising interest rates next year. Citigroup Inc. says investors shouldn’t be so sure this time. Each of the five times the Fed shifted rate policy since 1980 and raised its benchmark, the extra yield investors demand to own corporate bonds instead of government debt narrowed in the next six months as accelerating growth bolstered optimism, analysts at the New York-based bank wrote in a Sept. 21 note. After six years of short-term rates near zero, investors this time should be prepared for a flight by yield-seeking ‘tourists’ that may overpower any benefits, they said. ‘Nobody knows what’s going to happen because we’ve never been here before,’ Stephen Antczak, a strategist at the world’s fourth-biggest underwriter of corporate debt, said... ‘You have untraditional forces at play in the marketplace. This could prevent or diminish the likelihood of the normal pattern of spread tightening.’ After an 83% expansion in corporate debt outstanding since 2008, concern is mounting that the market has grown too much too fast.”

September 23 – Financial Times (Tracy Alloway and Gina Chonau): “US banks that flout new regulatory guidance on leveraged lending risk facing higher capital penalties when the Federal Reserve undertakes its annual stress tests of the banking sector, according to people familiar with the process. The Fed has begun to warn banks defying its guidelines that making risky leveraged loans could affect its assessment of their loan loss rates in the next stress test… That, in turn, would affect the Fed’s capital ratio projections. The decision to link leveraged lending specifically to the Fed’s annual ‘comprehensive capital analysis and review’ for the first time is likely to alarm Wall Street, since failing the test constrains a bank’s ability to pay dividends to shareholders or to its parent company… More than a third of loans sold in 2014 have come with leverage that exceeds the six-times earnings guidance. The leveraged lending guidance is one of the first US experiments with a so-called macroprudential tool aimed at counteracting the effects of loose monetary policy.”

September 23 – Bloomberg (Nabila Ahmed): “It was once the profession that inspired Sherman McCoy in the novel ‘The Bonfire of the Vanities.’ In the 1980s, the excitement in the trading room, with hundreds of people talking on the phone, was palpable, like a sporting event, said Kerry Stein, head of credit trading at Lloyds Securities Inc. Those days are gone. ‘It’s surprising how quiet a place could be compared to what I had known,’ said Stein, who began trading high-yield bonds in 1985 at Drexel Burnham Lambert Inc., the house of Michael Milken, who was nicknamed the junk-bond king. As bond-trading volumes have shrunk, so have the number of jobs, leaving even some of the most senior traders and salesmen moving from firm to firm. There’s a wave of journeymen in an industry that used to attract the young in throngs, lured by money and prestige, according to Michael Maloney, president of fixed-income recruiting firm Michael P. Maloney Inc. ‘The business model is broken and 50% of the people in our world who are in trading are stuck right now, Maloney said… ‘For every 10 of them there’s going to be three or four left,’ he said. ‘What’s the timeframe? Well, everybody I know is looking for a job -- not looking for a job, looking for a career.’”

Federal Reserve Watch:

September 22 – Bloomberg (Craig Torres): “Inflation running below the Federal Reserve’s target argues for ‘patience’ on interest-rate increases and may require letting the economy run ‘a little hot,’ New York Fed President William C. Dudley said. ‘Depending on where inflation is, I can certainly imagine a scenario where the unemployment rate dips a little below’ what the Fed considers maximum employment, he said… ‘We really need the economy to run a little hot, at least for some period of time’ to push inflation back up to the central bank’s 2% objective, he said.”

September 24 – Bloomberg (Simon Kennedy): “As William Dudley goes, so often goes the Fed. In October 2010, he said the outlook for U.S. job growth and inflation was ‘unacceptable’ and probably warranted more monetary stimulus. A month later, the central bank deployed its second round of quantitative easing. Just this May, Dudley said the Fed’s plan to cease reinvesting assets on its balance sheet before raising interest rates ‘may not be the best strategy.’ Last week, Chair Janet Yellen said fellow policy makers agreed… And this week he became the first Fed official to comment on the U.S. dollar since the Bloomberg Dollar Spot Index touched its highest level on a closing basis since June 2010. ‘If the dollar were to strengthen a lot, it would have consequences for growth,” the 61-year-old Dudley, a former Goldman Sachs Group Inc. economist, said…”

U.S. Bubble Watch:

September 22 – Bloomberg (Lu Wang): “American companies have seldom spent more money than they are now buying back shares. The same can’t be said for their executives. A total of 7,181 insiders bought their own stock this year through Sept. 12 and 23,323 sold shares… The ratio of buys to sells is near the lowest since 2000. At the same time, corporate repurchases reached $275 billion in the first half of the year, the second busiest since S&P Dow Jones Indices began tracking the data in 1998… While companies are pouring money into their own stock because they have nothing better to do with it, officers and directors aren’t -- and that’s a bearish signal for share prices, said Brad McMillan, chief investment officer at Commonwealth Financial Network. ‘It doesn’t say anything very good about the growth prospect for the business,’ McMillan… said… ‘Who would know the business better than an executive in the middle of it? Even executives are buying on the corporate level, their hearts are not in it personally.’”

September 24 – Bloomberg (Oshrat Carmiel): “Sales at One57, the ultra-luxury Manhattan condominium tower that set off a high-end residential construction boom, have slowed to a trickle amid competition from newer properties reaching the market. Only two units at Extell Development Co.’s Midtown property went under contract this year through June 30… There were no sales in the final three months of 2013 at the building, which had earlier found buyers for two penthouses at more than $90 million each. About 25 of the 94 units on the market were unsold as of June 30…”

September 24 – Bloomberg (Neil Callanan): “Offices on the highest floors of skyscrapers in San Francisco and New York soared in value since March, boosted by growing technology and energy businesses, Knight Frank LLP said. The upper floors of office towers, which command the highest rent, are valued at $2,260 a square foot in San Francisco, a gain of more than 60% from March… In Manhattan, values have climbed 25% to $2,980… ‘The U.S. is proving to be the comeback kid, boosted by new technology firms and shale gas,’ James Roberts, the firm’s head of commercial research, said… ‘Growth has been fastest in the city with the most tech exposure, namely San Francisco.’”

Central Bank Watch:

September 21 – Bloomberg (Jana Randow): “The European Central Bank may not need to add stimulus measures after steps in the past three months pushed down the euro, said Governing Council member Ignazio Visco ‘Inflation expectations have to be back where they were,’ Visco said… ‘This doesn’t mean that there will be a next step. We have been bold enough to reduce interest rates to a level that was unexpected to the market.’"

EM Bubble Watch:

September 26 – Bloomberg (Lyubov Pronina and Nguyen Kieu Giang): “Emerging-markets posted the longest stretch of weekly declines this year as faster U.S. economic growth boosts prospects for higher interest rates. AFK Sistema slid as a Russian court froze its stake in OAO Bashneft. Sistema, controlled by the Russian billionaire placed under house arrest last week amid a probe into alleged money laundering, sank 21%. Bashneft fell to a record and the ruble plunged. China Petroleum and Chemical Corp. led a 0.5% drop in a gauge of Hong Kong-traded Chinese shares. Indonesian equities lost 1.3% and the rupiah weakened after the nation scrapped direct local elections. Mexico’s peso fell to a seven-month low.”

September 26 – Bloomberg (Vladimir Kuznetsov and Ksenia Galouchko): “The ruble fell to a record and AFK Sistema shares slid as Russian prosecutors sought to regain ownership of the investment company’s oil unit, stoking concern the state will bolster its presence in the economy. The currency weakened 1.6%..., bringing this week’s drop to 1.7%. OAO Bashneft, controlled by billionaire Vladimir Evtushenkov’s Sistema, retreated 5.1%. Sistema tumbled 21%.”

September 26 – Bloomberg (Selcuk Gokoluk): “Turkish bonds fell, sending the yield to a five-month high, as the central bank raised funding costs while banking shares declined after Bank of America Merrill Lynch cut Turkiye Halk Bankasi AS to underperform. The yield on the nation’s two-year notes jumped 17 bps to 9.58%..., bringing this week’s increase to 40 bps, the largest since the period ended Aug. 8.

September 26 – Bloomberg (Paula Sambo): “Grupo Virgolino de Oliveira SA bondholders are losing confidence the sugar producer can pay its debt as the slumping price of the sweetener undermines its ability to conserve cash. The company’s $735 million of notes have tumbled since Sept. 17, when GVO said that profit decreased 24% in the first quarter… The 12.7% decline in the bonds over that span is the biggest among 958 developing-nation corporate debt securities…”

September 24 – Bloomberg (Sarmad Khan): “Saudi Arabian shares retreated the most in a year, leading declines in the Middle East amid investor concern that Arab nations may be at risk of retaliatory attacks by Islamic State militants. The Tadawul All Share Index lost the most since September 2013, sliding 2.1%... Dubai’s DFM General Index slipped 1.2% at the close… Saudi Arabia, the United Arab Emirates, Bahrain, Qatar and Jordan all joined the first wave of U.S.-led airstrikes against the Islamic State in Syria yesterday, the broadest Arab-U.S. military coalition since the 1991 Gulf War.”

Europe Watch:

September 22 – Bloomberg (Stefan Riecher and Alessandro Speciale): “Mario Draghi’s stimulus pledge didn’t convince investors for long. Exactly one month since the European Central Bank president told his global peers he was ready to act to avert deflation in the euro area, bets on consumer prices have collapsed. Even after surprise interest-rate cuts and an asset-purchase program, inflation expectations fell to an almost four-year low and business surveys this week may show a faltering economy. Investors are speculating that Draghi… is running out of options…”

September 26 – Bloomberg (Macarena Munoz and Angeline Benoit): “Mario Draghi’s plan to channel as much as 1 trillion euros ($1.3 trillion) into the euro region’s economy is running into a blockage: some companies in the countries hardest hit by the debt crisis don’t want the money. ‘We’re getting calls from lenders every day,’ said Miquel Fabre, 34, whose family-run beauty products firm Fama Fabre employs 43 people… ‘They can see that they’ll benefit from a loan because we’re doing good business and will return the money. Whether it’s in our interest as well is a different question.’”

September 23 – Bloomberg (Alessandro Speciale): “Euro-area manufacturing and services growth unexpectedly slowed to the weakest pace this year, increasing pressure on the European Central Bank to add stimulus to the economy. Purchasing Managers Indexes for both industries fell and a composite gauge dropped to 52.3 in September from 52.5 in August… The currency bloc’s economic expansion halted in the second quarter as its three largest economies failed to grow and inflation slowed to the lowest level in almost five years. ‘Growth momentum is very weak,’ said Martin van Vliet, senior economist at ING Groep… ‘Fortunately, the ECB is well aware of the need for further stimulus and has expressed an intention to increase its balance sheet.’”

September 23 – Bloomberg (Alessandro Speciale): “Euro-area manufacturing and services growth unexpectedly slowed in September to the weakest pace this year, adding to signs that the economy is faltering. Purchasing Managers Indexes for both industries fell and a composite gauge dropped to 52.3 from 52.5 in August, …Markit Economics said… Economic expansion in the currency bloc halted in the second quarter as the region’s three largest economies failed to grow and inflation fell to the lowest level in almost five years… ‘The survey paints a picture of ongoing malaise in the euro zone economy,’ said Chris Williamson, an economist at the London-based company. ‘Prices continued to fall as firms fought for customers, which will inevitably heighten concerns that the region is facing deflation. There are also worrying signs that growth could slow further in the fourth quarter.’”

Germany Watch:

September 22 – Reuters (Annika Breidthardt and John O’Donnell): “The head of Germany's Bundesbank has criticised the European Central Bank's (ECB) recent cut in borrowing costs and its pledge to buy repackaged debt, saying they took pressure off governments to implement needed reforms. Jens Weidmann told Der Spiegel magazine that the moves went beyond previous attempts to encourage banks to lend more, and could free banks of risk at the cost of the taxpayer. ‘In my view the recent decisions by the ECB Council (are) a fundamental change of course and a drastic change for the ECB's monetary policy,’ he said… ‘No matter how you think about the content of the decisions, the majority of the ECB Council members are signalling with it that monetary policy is ready to go very far and to enter new territory.’ Though this is not the first such criticism of the ECB from Germany's influential central bank, the forthright tone underscores the challenges for the ECB should it ever need to extend its programme of asset purchases to government bonds.”

September 21 – Bloomberg (Cornelius Rahn): “Bundesbank President Jens Weidmann says measures represent a ‘fundamental change in direction for the ECB’s monetary policy,’ Der Spiegel reports… Goal is no longer solely to spur lending, but also to pump money directly into economy: Spiegel cites Weidmann. Asset-backed security purchase program may shift risks to tax payers from banks. ECB should only buy low-risk securities, though it is ‘doubtful’ whether there are enough of those to allow ECB to reach purchase targets…”

September 21 – Bloomberg (Jana Randow): “Bundesbank President Jens Weidmann said the room that governments have to stimulate growth through fiscal policy often is more limited than commonly believed. Fiscal leeway ‘is usually much smaller than many think,’ Weidmann told reporters… ‘It is limited by European rules, national rules, it is impacted by high debt levels, the demographic burdens we will face, but also by the credibility of a sustainable fiscal policy.’ And that’s true specifically for Germany, which has to cater to its role as confidence anchor in the monetary union,’ he said…”

September 23 – Bloomberg (Alessandro Speciale): “German manufacturing expanded at the slowest pace in 15 months in September as new orders fell, signaling uneven momentum in Europe’s largest economy… The data add to the uncertainty facing the German economy.”

Global Bubble Watch:

September 22 – (Pilita Clark): “China is for the first time emitting more carbon pollution per person than the EU, birthplace of the industrial revolution. In a notable turning point for the world’s most populous nation, China produced 7.2 tonnes of planet-warming carbon dioxide a head last year, compared with 6.8 tonnes in the EU. Its total C02 emissions outstrip those of both the EU and the US combined, scientists reported.”

September 26 – Bloomberg (Cecile Gutscher and Ari Altstedter): “China’s deepening slump is re- establishing one of the oldest relationships in global markets: the link between currencies and commodities. Shrinking demand from China for the raw materials of Australia, New Zealand and Canada is raising concern their economies will slow, weakening those nations’ dollars and outweighing the lure of their relatively high interest rates. Correlations that were lost around mid-year are being revived as currencies catch up with declines in everything from oil to dairy products. ‘You can only resist gravity for so long,’ Shahab Jalinoos, the head of global foreign-exchange strategy at Credit Suisse… said…”

September 22 – Bloomberg (Jason Scott, Theophilos Argitis and Raymond Colitt): “Group of 20 finance chiefs and central bankers said low interest rates are contributing to a potential increase in financial market risk, as major policy makers rely on monetary stimulus to bolster growth. ‘We are mindful of the potential for a build-up of excessive risk in financial markets, particularly in an environment of low interest rates and low asset price volatility,’ the G-20 officials said today in a communique… ‘We welcome the stronger economic conditions in some key economies, although growth in the global economy is uneven.’”

September 25 – Financial Times (Elaine Moore): “The effects of the global financial crisis have pushed ‘supranational’ organisations such as the World Bank to borrow record sums from international investors. Pan-national borrowers such as the European Investment Bank, World Bank and Inter-American Development Bank have raised $219bn on global debt markets so far this year, the largest sum raised year to date since records began, according to… Supranational borrowers are usually given top-tier triple A credit ratings because of the multiple government guarantees behind them, and the debt they issue is in demand from central banks and commercial banks with ultraconservative investment criteria.”

September 22 – Bloomberg (Liz Capo McCormick, Wes Goodman and Anchalee Worrachate le): “The prospect of higher U.S. interest rates is proving to be a boon for the biggest owners of Treasuries outside of the Federal Reserve. While the government bonds have fallen this month as the Fed boosted its forecast for how much rates will rise next year, the dollar climbed to its highest level since 2010 against a broad range of currencies. That’s transformed losses into gains for most foreign holders, who own $6 trillion of Treasuries. The U.S. currency has appreciated so much that Treasuries are the developed world’s best-performing sovereign debt this quarter for investors based in euros, pounds and yen.”

September 26 – Bloomberg (Lilian Karunungan and Elffie Chew): “Malaysia’s ringgit has gone from being Southeast Asia’s best carry-trade bet to its worst as the swap market cuts the odds on another interest-rate increase. In a strategy where investors borrow in a country with low rates in favor of higher yields elsewhere, the ringgit delivered a loss of 3.1% this month…”

September 22 – AFP (Antoine Froidefond): “The contemporary art market, buoyed by high demand and massive growth in China, smashed through the $2-billion mark for the first time in a record-breaking 2013/14… In the year from July 2013, sales of contemporary art at public auctions reached $2.046 billion dollars, up 40% on the previous year, according to Artprice… ‘As many pieces are being sold in China as in the United States, United Kingdom and France together,’ said Artprice in its annual report.”

September 23 – Bloomberg (Patrick Gower): “London surpassed Hong Kong as the world’s most expensive city for companies to locate employees after rents climbed and the pound appreciated against the dollar. London real estate costs, which combine residential and office rents, climbed 5.3% in dollar terms in the first half, Savills Plc, a property brokerage based in the U.K. capital, said… Companies pay an average of $121,000 a year to employ someone in the city, the report said.”

September 20 – Financial Times (Gregory Meyer, Jude Webber, Anjli Raval and Neil Hume): “Mexico’s oil hedging programme - a highly secretive deal that is the largest single trade in crude markets - appears to be unfolding in public for the first time, according to traders. The public disclosure of a large options trade on a new database has led to speculation that the country’s government has locked in a price for most of its oil exports next year. Put options locking in the sale of 5m barrels of crude for at least $80 per barrel were this week publicly reported on a swap data repository, a type of information warehouse… U.S. regulators now require reporting the terms of off-exchange derivatives deals to swap data repositories in a push for more transparency. ‘It’s a nightmare,’ said an oil industry executive. ‘We have reality TV shows. Now we have reality trading. Nothing is confidential any more.’”

Geopolitical Watch:

September 25 – Bloomberg (Huang Zhe): “President Xi Jinping said China will never support nor participate in sanctions against Russia no matter how much pressure China faces, Voice of Russia reports, citing Russian Federation Council Chairman Valentina Matviyenko, who made comments to reporters after meeting Xi Sept. 23.”

September 25 – Financial Times (Peter Spiegel): “Vladimir Putin has demanded a reopening of the EU’s recently-ratified trade pact with Ukraine and has threatened ‘immediate and appropriate retaliatory measures’ if Kiev moves to implement any parts of the deal. The demand, made in a letter to European Commission President José Manuel Barroso, reflects Russia’s determination to put a brake on Ukraine’s integration into Europe and other Euro-Atlantic organisations such as Nato… It also comes amid a fresh crackdown on Russia’s oligarchs, exemplified by the recent house arrest of billionaire businessman Vladimir Yevtushenkov, which was extended by a court on Thursday. The integration treaty was the spark that set off the 10-month Ukraine crisis after the country’s then-president, Viktor Yanukovich, backed out of the deal. Petro Poroshenko, the new Ukrainian president, has made integration with the EU a key objective of his presidency.”

September 25 – Bloomberg (Jake Rudnitsky and Anton Doroshev): “A United Russia lawmaker proposed a law that would allow the seizure of foreign state assets in Russia after Italy froze luxury properties belonging to a childhood friend of President Vladimir Putin. Vladimir Ponevezhsky, a parliamentarian for Russia’s ruling party, submitted a bill on compensating individuals who had property seized abroad… Italy this week froze properties worth 28 million euros ($36 million) belonging to billionaire Arkady Rotenberg… The bill proposes compensating a Russian citizen who is victim of an “unlawful” judgment in a foreign court using federal budget funds. The government would then be allowed to seize foreign state assets in Russia, including property that is covered by diplomatic immunity.’"

September 25 – Financial Times (Tobias Madrid): “Artur Mas, the Catalan president, will on Saturday sign a decree calling an independence referendum in the Spanish region, in a move that sets the government in Barcelona on a risky collision course with Madrid. The decree will be issued on the basis of a new referendum law that was passed by an overwhelming majority in the Catalan parliament last Friday. It is expected to trigger an immediate legal challenge from Spain’s central government, which argues that a plebiscite on secession is not allowed under the Spanish constitution. If it goes ahead, the Catalan plebiscite would take place on November 9, less than two months after a landmark referendum in Scotland…”

China Bubble Watch:

September 25 – Financial Times (Delphine Strauss and Ben McLannahan): “An unusually public airing of debt troubles at China’s state-owned steel trader has raised questions over Beijing’s willingness to tackle corporate indebtedness among its national champions. China has experimented with limited defaults by small private companies this year, but has been reluctant to allow the failure of larger groups, or of trust products sold to wealthy depositors… That reluctance came to the fore this week following allegations in Chinese media that Sinosteel, an importer of iron ore for many of the country’s steel mills, holds at least $12.6bn in overdue loans from nine of the country’s biggest banks… The company is one of the elite 113 companies managed directly by the central government. Although it originated as a simple trading company, it has expanded aggressively in recent years, buying into both domestic steel mills and mining projects from Africa to Australia. Both local and foreign investors have for many years operated on the assumption that Chinese state banks will refinance debts of politically important companies – an assumption that regulators attempted to burst by allowing the default of bonds issued by private solar group Chaori earlier this year.”

September 24 – Bloomberg: “Huaikuang Modern Logistics Co., a Chinese steel trading company, said it defaulted on borrowings, highlighting concern non-payment problems will spread as the nation’s economy slows. Anhui Wanjiang Logistics Group… disclosed the unit’s default in a statement to the Shanghai Stock Exchange yesterday, without giving any more details. The company cited banks’ unwillingness to extend loans to the steel industry as the reason for the nonpayment. Chinese steel traders are grappling with loan repayments after prices for the metal in the country slid 27% this year as the slumping property market exacerbates industry overcapacity… ‘The financial problem is really big in the steel industry,’ said Li Ning, a bond analyst at Haitong Securities Co., the nation’s second-biggest brokerage. ‘Maybe this is just the beginning, and it could get worse.’”

September 20 – Financial Times (Gabriel Wildau): “China has launched a fresh effort to boost its flagging economy with cash injections by the central bank, but signs are mounting that monetary stimulus is losing its effectiveness as debt-ridden companies lose their appetite for borrowing even at low rates. ‘Mini-stimulus’ measures launched since April have focused on increasing the supply of money and credit. Last week the central bank moved to inject $81bn into the banking system via loans to the five biggest banks. That followed targeted cuts to the required reserve ratio for small banks and a loosening of the regulatory loan-to-deposit ratio that gave banks greater freedom to expand lending… But bankers say that good lending opportunities have become increasingly scarce, even as regulators have relaxed the enforcement of rules like the maximum 75% loan-to-deposit ratio, which has long served as a big constraint on bank lending. ‘The LDR has been relaxed, and liquidity has increased, but it’s still hard to place loans. When the (stimulus) news broke, banks all rushed to buy bonds. The money hasn’t flowed into the real economy,’ said an executivel… The survey results help to explain data released earlier this month showing that bank loans outstanding rose by only 13.3% year-on-year in August, the weakest pace since 2005… Rising debt is at least partly to blame for waning appetite for new borrowing. The massive stimulus that China’s economic managers launched in response to the financial crisis sent China’s overall debt-to-GDP ratio soaring to 251% by the end June, from 147% at the end of 2008.”

September 24 – Bloomberg (Kyoungwha Kim): “China’s developers are the nation’s best-performing dollar bonds this quarter, even as a real-estate bubble starts to deflate. Investors say higher yields and government support will sustain returns… Cash at developers is running short after home sales fell 11% in the first eight months of 2014, forcing them to sell new shares or debt before $7.5 billion in bonds and loans falls due by year-end. ‘I like property bonds,’ Clement Chong, Singapore-based credit analyst at ING Investment, which oversees $242 billion of assets, said… ‘From an economic as well as wealth perspective, the government can’t afford to let the sector suffer too much. They won’t let the sector collapse.’”

September 23 – Bloomberg (Lulu Yilun Chen): “Alibaba Group Holding Ltd.’s finance arm aims to create a marketplace for 1 trillion yuan ($163bn) of loans in as soon as two years as the e-commerce group encourages more Chinese to borrow and lend. Alibaba in April started Zhao Cai Bao, a platform that lets small businesses and individuals borrow from investors directly, and has created a 14 billion yuan marketplace, Yuan Leiming, a general manager at Alibaba’s financial arm, said…”

September 23 – Financial Times (Jamil Anderlini): “Chinese outbound investment has fallen sharply in the first half of the year, reversing nearly a decade of rising spending as overseas dealmaking becomes the latest casualty of the country’s strident anti-corruption campaign. By the end of June, Chinese companies had spent a combined total of $39bn on overseas mergers, acquisitions and greenfield projects, down from $46bn in the same period a year earlier, according to figures from the Heritage Foundation… Analysts believe the main reason for the disappointing performance is a lack of major Chinese offshore energy investments this year, which they say is largely due to President Xi Jinping’s anti-corruption campaign, which has particularly targeted the Chinese energy sector.”

September 23 – Bloomberg: “China’s economy remained stuck in ‘low gear’ this quarter, with struggling retail and residential real-estate industries countering improvements in manufacturing and transportation, a private survey showed. Growth in investment slowed further, borrowing costs rose and the share of firms applying for and getting bank loans remained at ‘rock bottom levels,’ according to the China Beige Book…”

September 23 – Financial Times (Tracy Alloway and Gina Chonau): “How many Rolls-Royce cars can you buy for $20m? One Chinese businessman knows the answer. In the biggest ever single order, Stephen Hung, the flamboyant Hong Kong entrepreneur, has ordered 30 bespoke Rolls-Royce Phantoms to ferry guests at his new Macau gaming complex – dubbed the world’s most luxurious and extravagant hotel and casino. It is perfectly in-keeping with Mr Hung’s Louis XIII project, where the penthouse suite will cost $130,000 a night. Two of the fleet from the quintessential British motor company will be the most expensive Phantoms ever commissioned, thought to be worth about $1m each.”

Latin America Watch:

September 22 – Bloomberg (Jessica Brice, Ney Hayashi and David Biller): “In 2004, Brazil’s then-President Luiz Inacio Lula da Silva and 400 executives went on a six-day trip to China. The mission was simple: Encourage companies to strengthen ties with the Asian nation to bolster growth at home. A decade later, ties between Brazil and China have never been stronger. Growth at home is stagnant. Lula’s decision to court China and at the same time spurn some U.S. efforts to bolster trade has led to a dependence on the commodity-hungry nation and deepened a drop in manufacturing. In May 2004, the month Lula visited China in what he called his government’s ‘greatest trip,’ manufactured goods made up more than half Brazil’s exports and commodities less than a third. Last month, industrialized goods had plunged to 37% and raw materials made up almost half… ‘Lula will never admit he made a mistake, but I think if he evaluates, he’ll see that what he expected didn’t happen,’ said Jose Augusto de Castro, president of Brazil’s Foreign Trade Association. The explosion in commodities exports masked structural and infrastructure problems that make Brazil less competitive, he said. “The last decade was golden for world trade. There was never a similar decade like that for Brazil, but Brazil missed the opportunity to carry out reforms.’”

Japan Bubble Watch:

September 25 – Financial Times (Delphine Strauss and Ben McLannahan): “Japan’s government is voicing increasing concern at the speed of the yen’s decline, after a depreciation of almost 10% against the dollar in the last month that is squeezing smaller companies and stoking debate in the run-up to local elections. Shinzo Abe, prime minister, said… he would closely watch the impact of the weaker yen on small businesses and regional economies… His comments followed similar remarks by other ministers. During an interview with the FT on Friday, Akira Amari, minister for economic revitalisation, said that ‘sharp fluctuations’ in the value of the yen were ‘not good’ for the

September 19, 2014: Only For Wonks

I appreciate Bill Gross’ August Investment Outlook, “For Wonks Only,” and recommend reading (and pondering) it in its entirety.

From Gross: “A credit-based financial economy (as opposed to pure cash) depends on an ever-expanding outstanding level of credit for its survival. Without additional credit, interest on previously issued liabilities cannot be paid absent the sale of existing assets, which in turn would lead to a vicious cycle of debt deflation, recession and ultimately depression. It is this expansion of private and public market credit which the Fed and the BOE have successfully engineered over the past five years, while their contemporaries (the ECB and BOJ) have until now failed, at least in terms of stimulating economic growth. The unmodeled (for lack of historical example) experiment that all major central banks are now engaged in is to ask and then answer: What growth rate of credit is enough to pay prior bills, and what policy rate/amount of Quantitative Easing (QE) is necessary to generate that growth rate? Assuming that the interest rate on outstanding debt in the U.S. is approximately 4.5% (admittedly a slight stab in the dark because of shadow debt obligations), a Fed governor using this template would want credit to expand by at least 4.5% per year in order to prevent the necessary sale of existing assets (debt and equity) to cover annual interest costs… How are they doing? Chart 1 shows outstanding credit growth for recent quarters and all quarters since January 2004. The chart’s definition of credit includes the standard Fed definition of private non-financial credit (corporations, households, mortgages), public liabilities (government debt), as well as financial credit. The current outstanding total approximates $58 trillion and has been expanding at an average annual rate of 2% for the past five years, and 3.5% for the most recent 12 months. Put simply, if credit needs to expand at 4.5% per year, then the private and public sectors in combination must create approximately $2.5 trillion of additional debt per year to pay for outstanding interesting.

Bill Gross’ number is “approximately $2.5 trillion” to ensure sufficient new system Credit to service existing system debt. I’ve posited the U.S. system needs in the neighborhood of $2.0 TN of annual non-financial debt growth. Gross refers to a “credit-based financial economy.” Fair enough, although I believe it is also crucial to appreciate that the U.S. economy has evolved over time to be dominated by a consumption and services-based economic structure. From my analytical framework, annual $2.0 TN (non-financial) Credit growth is required to generate sufficient system-wide purchasing power to sustain various inflated price levels - certainly including incomes, corporate cash-flows, imports, investment and asset prices. An inflated/maladjusted services and consumption economic structure survives on ever-abundant cheap finance.

From the Fed’s Q2 2014 Z.1 “flow of funds” data, we see that total system Credit expanded at a seasonally-adjusted and annualized (SAAR) rate of $2.321 TN during the quarter to a record $57.529 TN. Non-financial market borrowings increased SAAR $1.542 TN (to $40.435 TN); Financial Sector market borrowings rose SAAR $353bn (to $13.954 TN); and Rest of World (ROW) market borrowings expanded SAAR $426bn.

It’s kind of a love/hate thing for me. I love the subject matter of money and Credit. I’m fascinated by monetary history, and always challenging analysis makes my heart go pitter-patter. Yet I admittedly rather despise contemporary finance – today’s “money” and Credit. The 2008/9 crisis offered another glimpse of its inherent danger to all. I believe strongly that sound money and Credit provide the bedrock for Capitalism, economies and societies. An understanding and appreciation for what constitutes stable finance (money and Credit) are fundamental to financial system, economic and social stability. Most regrettably, finance has become so complex, sophisticated and convoluted that basically no one today can feel comfortable that they really grasp what’s going on with “money.”

Mr. Gross aptly titled his piece “For Wonks Only.” And I actually think he simplified his analysis in an effort for it to at least be assessable to so-called “wonks.” He calculates $2.5 TN of required system Credit growth on total outstanding (non-financial and financial) debt of approximately $58 TN. Out of necessity, my analysis focuses on non-financial debt growth of $2.0 TN on outstanding of debt of $40.4 TN.

Analysis of Financial sector borrowings – or “Credit Market Debt Owed by Financial Sectors” – is fraught with myriad challenges. During lending Bubbles – especially booms in risky Credits – financial sector borrowings can reflect layers of financial/risk intermediation. For example, Financial Sector borrowings surged $1.336 TN (10.3%) in 2006 and another $1.834 TN (12.9%) in 2007, with outstanding GSE debt, MBS and ABS swelling as record mortgage lending was intermediated (“Wall Street alchemy”). Financial Credit then contracted $1.663 TN during the 2009 mortgage Credit dislocation.

Overall, Z.1 Financial Sector market borrowings of almost $14.0 TN remain $3.0 TN below peak levels from early 2009. This seeming contraction in Financial borrowings helped to improve ratios of total system debt to GDP, in the process providing ammo for the deleveraging thesis crowd. Importantly, Financial Sector market debt excludes the almost $4.5 TN of outstanding Federal Reserve Credit (it also excludes Trillions of bank deposit liabilities). Indeed, the almost $3.6 TN six-year expansion of Fed Credit has played a momentous role in U.S. and global system reflation, while remaining conveniently excluded from tallies of system debt.

It would meaningfully change Credit growth calculations if Federal Reserve Credit was part of the analysis. For one, it would more than reverse the $3.0 TN post-crisis contraction in Financial Sector borrowings. More importantly, it significantly alters annual Credit growth numbers/analysis (and is at the heart of my analysis that system deleveraging is a myth). From my perspective, unprecedented inflation in Federal Reserve Credit has been instrumental in inflating U.S. incomes, corporate cash flows, securities and asset prices, spending, imports and tax receipts in the face of insufficient overall Credit expansion in the real economy.

It’s impossible to quantify the various impacts from Fed Credit expansion (“money” printing), so conventional analysis simply disregards it. Most believe that Fed Credit has been sitting inertly on the banking system balance sheet. In reality this torrent of liquidity has been slushing about global securities markets. There should be no doubt that the effects have been profound – in the markets and real economy, at home and abroad.

The Fed is to wind down its “money” printing in a month or so. Markets remain uber-complacent. It remains difficult for me to envisage ongoing Credit growth sufficient to sustain levitated system price levels without the headwinds provided by massive inflation of Fed Credit. Global financial flows remain The Wildcard.

Examining the most recent Z.1, Total Non-Financial Debt expanded SAAR $1.542 TN (3.8%) during Q2, down from Q1’s SAAR $1.692 TN (4.3%). This was the weakest Credit expansion since Q3 2013. Total Household borrowings jumped to SAAR $471bn, the strongest gain since Q1 ’08. Total Business borrowings of SAAR $722bn (6.3%) were up somewhat from Q1’s SAAR $695bn. Federal borrowings grew SAAR $314bn (2.5%), down from Q1’s $741bn.

Federal Reserve Liabilities ended Q2 at a record $4.430 TN. Fed Credit was up $903bn, or 25.6%, year-on-year. Fed Credit inflated $1.546 TN, or 53.6%, over two years. In six years Fed Credit inflated $3.478 TN, or 365%. It’s my view that this unprecedented inflation in Federal Reserve “money” has unleashed major inflationary dynamics upon securities prices, perceived household wealth and incomes, while also provoking highly unstable global financial flows and market Bubbles. Impacts on securities prices, the household balance sheet and incomes are easiest to illustrate.

First of all, Incomes jumped strongly in Q2, indicative of the modest inflationary bias that has taken hold after six years of extreme monetary measures. National Income expanded at a 7.6% pace during the quarter, with one-year gains of $502bn, or 3.5%. Compensation increased at a 5.2% pace in Q2, increasing one-year gains to $389bn, or 4.4%. Chair Yellen should be pleased.

Indicative of a rather immodest inflationary bias, Household Assets increased nominal $1.552 TN during Q2 to a record $95.44 TN. This boosted one-year gains to $8.0 TN, or 9.2% , and two-year gains to $14.511 TN, or 17.9%. With Household Liabilities little changed, Household Net Worth gained $1.391 TN during Q2. Household Net Worth increased $7.679 TN over the past year to a record $81.493 TN (551% of GDP!). For reference, Household Net Worth ended 2007 at a then record $67.832 TN. Amazingly, Household Net Worth has now inflated $24.295 TN, or 42.5%, since the end of 2008.

A brief note on the composition of Household Sector Assets seems appropriate. As a component of total Household Assets, holdings of Equities and Mutual Funds jumped from $9.238 TN at the end of ’08 to $20.995 TN to end Q2 2014. Equities and Mutual Funds have jumped from 20% of total Financial Asset holdings to 31%. For comparison, since the end of ’08 Household holdings of Deposits (bank and money market fund) have increased from $8.172 TN to $9.861 TN.

Federal Reserve monetary inflation has had its most conspicuous impact on securities prices. In past analyses, I’ve combined (Z.1 categories) Treasuries, MBS, Corporate Bonds and Municipal Securities to come to a proxy for total marketable debt, and then added Equities for my proxy of Total Marketable Securities (the Fed made some significant revisions, especially to its tally of Corporate Debt). For the quarter, Total Securities increased $1.590 TN during Q2 to a record $71.184 TN. Total Securities was up $26.349 TN, or 59%, during the past 22 quarters. Total Securities has now inflated to a record 411% of GDP. For comparison, Total Securities ended 2007 at a then record $53.080 TN, or 378% of GDP.

There’s another crucial “balance sheet” especially worthy of contemplation these days. Rest of World (ROW) holdings of U.S. Financial Assets increased another $634bn during Q2 to a record $22.277 TN, with a notable one-year gain of $2.344 TN, or 11.8% (second only to 2006’s $2.49 TN). ROW holdings have jumped over $6.0 TN in four years, with flows almost equaling the levels from the 2004-2007 Bubble period. I view ROW flows as a good proxy for global “hot money” speculative flows.

I believe the Fed and global central bank QE has unleashed Trillions of liquidity into global securities markets. Moreover, extreme monetary measures (zero rates and QE) coupled with assurances of market liquidity backstops has incited unprecedented global leveraged speculation. This speculative leveraging has likely created Trillions additional liquidity that has worked surreptitiously to precariously inflate global securities markets.

This liquidity bonanza has played a crucial if unappreciated economic role. In the U.S., it has been integral in the inflation of securities markets, in the process inflating perceived wealth, spending and general economic activity. In the Emerging Markets (EM), this liquidity was instrumental in inflating domestic Credit and financing financial and economic Bubbles. With faltering economies and fragile Credit systems, EM is now acutely vulnerable to a destabilizing reversal of these investment and speculative (“hot money”) flows.

And here’s where the analysis turns even more challenging. Global QE incited strong inflationary biases throughout global securities markets. Meanwhile, the liquidity bonanza and the powerful magnetism of speculative securities Bubbles worked (perversely) to place further downward pressure on global commodities and manufactured good prices. At the same time, the Fed’s QE3 coupled with global flows ensured a general inflationary bias for both U.S. securities markets and the services/consumption U.S. economy. The inflationary U.S. backdrop in the face of strengthening global disinflationary forces has incited an increasingly self-reinforcing King Dollar Dynamic.

Thus far, King Dollar has bolstered the bullish viewpoint for U.S. economic and stock market prospects. Increasingly, however, the King is fostering instability. Commodity prices were under further pressure this week, while EM fragility becomes a bigger market worry by the day. The Brazilian real’s 1.2% decline this week pushed the currency to within easy striking distance of multi-year lows. The week saw Russian ruble decline 1.8%, the Indonesian rupiah 1.2%, the Philippine peso 1.2% and the Malaysian ringgit 1.1%. The Goldman Sachs Commodities Index declined another 0.5% to the low since the summer of 2012. Venezuela CDS jumped another 178 bps to 1,615. Wheat traded to a new four-year low and corn to a five-year low.

Helping to explain market complacency, this is clearly not the first instance in recent years that EM Bubbles appeared vulnerable. The Fed’s QE2 worked its magic for the EMs back in 2011. The reemergence of acute stress in 2012 was reversed by Draghi’s “do whatever it takes” and open-ended QE from the Fed and BOJ. Bernanke’s “the Fed will push back…” did the trick in mid-2013.

Of late, talk has been that the ECB’s balance sheet would come to the rescue. Count me as deeply skeptical of all the bullish ECB “QE” liquidity propaganda. As such, I see a world of somewhat waning liquidity abundance with an increasingly destabilizing King Dollar bias. There’s risk that escalating EM stress and attendant “hot money” outflows lead to a self-reinforcing de-risking/de-leveraging dynamic. EM companies and countries at this point have way too much dollar-denominated debt. At some point, contagion might negatively impact market expectations for the global economy at large, perhaps leading to a more generalized global “risk off” backdrop.

From the Z.1 we know that Security Credit was up $161bn year-over-year, or 13.7%, to a record $1.333 TN. Fed Funds and Repurchase Agreements were little changed y-o-y at $3.792 TN. Security Broker/Dealer Assets were actually down about 5% y-o-y to $3.388 TN. Funding Corps were down 3.3% y-o-y to $1.312 TN. Clearly, securities leveraging remains integral to overall U.S. Credit system operations.

At the same time, there are important sources of global leverage outside the purview of Fed monitoring and Z.1 reporting. There are myriad avenues for “carry trades,” securities shorting and “off-shore” securities financing vehicles, not to mention the murky world of (hundreds of Trillions of) derivatives. And it wouldn’t surprise me in the least if this is where the surprise lurks, especially now that currency markets have turned notably unstable. Seth (“Truman Show”) Klarman was said to have written that “we are recreating the markets of 2007.” For me, the world today is a whole lot scarier.

For the Week:

The S&P500 gained 1.3% trading to a new record high (up 8.8% y-t-d), and the Dow jumped 1.7% to a new high (up 4.2%). The Utilities rose 1.4% (up 11.1%). The Banks advanced 1.4% (up 6.4%), and the Broker/Dealers added 0.5% (up 8.7%). Transports gained 1.0% (up 16.7%). The S&P 400 Midcaps slipped 0.2% (up 5.7%), and the small cap Russell 2000 fell 1.2% (down 1.4%). The Nasdaq100 increased 0.8% (up 14.2%), while the Morgan Stanley High Tech index slipped 0.2% (up 9.1%). The Semiconductors jumped 1.5% (up 21.4%). The Biotechs added 0.9% (up 33.4%). With bullion down $14, the HUI gold index sank 4.8% (up 5.5%).

One-month Treasury bill rates closed the week at zero and three-month bills ended at one basis point. Two-year government yields were little changed at 0.57% (up 19bps y-t-d). Five-year T-note yields slipped a basis point to 1.81% (up 7bps). Ten-year Treasury yields fell four bps to 2.58% (down 45bps). Long bond yields declined six bps to 3.28% (down 69bps). Benchmark Fannie MBS yields fell five bps to 3.25% (down 36bps). The spread between benchmark MBS and 10-year Treasury yields narrowed one to 67 bps. The implied yield on December 2015 eurodollar futures was unchanged at 1.085%. The two-year dollar swap spread was unchanged at 24 bps, and the 10-year swap spread was unchanged at 13 bps. Corporate bond spreads narrowed. An index of investment grade bond risk fell four bps to 56 bps. An index of junk bond risk dropped 11 to 323 bps. An index of emerging market (EM) debt risk rose eight to 281 bps.

Ten-year Portuguese yields declined six bps to 3.17% (down 296bps y-t-d). Italian 10-yr yields fell nine bps to 2.37% (down 176bps). Spain's 10-year yields dropped 14 bps to 2.20% (down 195bps). German bund yields declined four bps to 1.04% (down 89bps). French yields were down four bps to 1.39% (down 11bps). The French to German 10-year bond spread was unchanged at 35 bps. Greek 10-year yields rose seven bps to 5.78% (down 264bps). U.K. 10-year gilt yields added two bps to 2.54% (down 48bps).

Japan's Nikkei equities index jumped 2.3% (up 0.2% y-t-d). Japanese 10-year "JGB" yields slipped a basis point to 0.56% (down 18bps). The German DAX equities index rallied 1.5% (up 2.6%). Spain's IBEX 35 equities index gained 1.0% (up 10.9%). Italy's FTSE MIB index slipped 0.5% (up 10.6%). Emerging equities were mixed. Brazil's Bovespa index recovered 1.5% (up 12.2%). Mexico's Bolsa was down slightly (up 7.1%). South Korea's Kospi index gained 0.6% (up 2.1%). India’s bubbly Sensex equities index added 0.1% (up 28%). China’s Shanghai Exchange was little changed (up 10.1%). Turkey's Borsa Istanbul National 100 index fell another 1.2% (up 13.5%). Russia's MICEX equities index sank 1.9% (down 4.8%).

Debt issuance remained strong. Investment-grade issuers included Teachers Insurance & Annuity $2.0bn, Humana $1.75bn, JPMorgan $1.6bn, Alcoa $1.25bn, American Express $1.0bn, PNC Bank $1.0bn, Plains All American Pipeline LP $750 million, A.P. Moeller-Maersk $1.25bn, Ameriprise Financial $550 million, Brown & Brown $500 million, Toyota Motor Credit $350 million, Realty Income $250 million, Piedmont Natural Gas $250 million, Ross Stores $250 million, Zarapito Leasing $160 million and Gulf Power $200 million.

Junk funds saw outflows jump to $1.2 billion (from Lipper). Junk issuers included CBS Outdoor Americas $1.0bn, AECOM Technology $1.6bn, Acosta $800 million, Simmons Foods $415 million, Anixter $400 million, GameStop $350 million, RCN Telecom Services $305 million, York Risk Services $270 million, SFX Entertainment $285 million, PennantPark Investment Corp $250 million, Ply Gem Industries $150 million, Midas $200 million and Jac Products $150 million.

Convertible debt issuers included Tivo $200 million and Violin Memory $105 million.

The long list of international dollar debt issuers included Mizuho Bank $2.5bn, Royal Bank of Canada $1.75bn,Toronto Dominion Bank $1.75bn, Panama $1.25bn, Municipality Finance PLC $1.05bn, Nordea Bank $1.0bn, Pacific Rubiales Energy $750 million, Corpbanca $750 million, WPP $750 million, ANZ New Zealand $500 million, Export Credit Bank of Turkey $500 million, Inter-American Development Bank $500 million, Gol Luxco $325 million, BBVA Banco Continental $300 million, DHT Holdings $250 million and Honghua Group $200 million.

Freddie Mac 30-year fixed mortgage rates jumped 11 bps to a four-month high 4.23% (down 25bps y-o-y). Fifteen-year rates rose 11 bps to 3.37% (down 17bps). One-year ARM rates declined two bps to 2.43% (down 22bps). Bankrate's survey of jumbo mortgage borrowing costs had 30-yr fixed rates up two bps to 4.63% (down 4bps).

Federal Reserve Credit last week expanded $29.9bn to a record $4.408 TN. During the past year, Fed Credit inflated $735bn, or 20.0%. Fed Credit inflated $1.597 TN, or 57%, over the past 97 weeks. Elsewhere, Fed holdings for foreign owners of Treasury, Agency Debt gained $8.8bn last week to a record $3.347 TN. "Custody holdings" were up $8.8bn year-to-date and $68bn from a year ago.

Global central bank "international reserve assets" (excluding gold) - as tallied by Bloomberg – were up $832bn y-o-y, or 7.4%, to $12.006 TN. Over two years, reserves were $1.396 TN higher for 13% growth.

M2 (narrow) "money" supply jumped $26.9bn to a record $11.498 TN. "Narrow money" expanded $712bn, or 6.6%, over the past year. For the week, Currency increased $0.2bn. Total Checkable Deposits jumped $32.1bn, while Savings Deposits slipped $3.6bn. Small Time Deposits added $1.5bn. Retail Money Funds were little changed.

Money market fund assets dropped $16.7bn to $2.576 TN. Money Fund assets were down $142bn y-t-d and dropped $82bn from a year ago, or 3.1%.

Total Commercial Paper added $0.9bn to a two-month high $1.052 TN. CP was up $6.0bn year-to-date, with a one-year gain of $5bn, or 0.5%.

Currency Watch:

The U.S. dollar index gained 0.6% to 84.735 (up 5.4% y-t-d). For the week on the upside, the Canadian dollar increased 1.2% , the Mexican peso 0.4%, the Norwegian krone 0.1% and the British pound 0.1%. For the week on the downside, the Japanese yen declined 1.6%, the Australian dollar 1.3%, the Brazilian real 1.2%, the Danish krone 1.1%, the euro 1.0%, the South Korean won 0.9%, the Swiss franc 0.8%, the Taiwanese dollar 0.7%, the South African rand 0.5%, the Swedish krona 0.4%, the Singapore dollar 0.3% and the New Zealand dollar 0.3%.

Commodities Watch:

The CRB index declined 0.9% this week (down 0.3% y-t-d). The Goldman Sachs Commodities Index lost 0.5% (down 7.8%). Spot Gold fell 1.1% to $1,216 (up 0.8%). September Silver sank 4.1% to $17.844 (down 8%). October Crude increased 14 cents to $92.41 (down 6%). October Gasoline rallied 3.7% (down 6%), while October Natural Gas declined 0.5% (down 9%). December Copper slipped 0.5% (down 9%). December Wheat sank 5.6% to a four-year low (down 22%). December Corn lost 2.1% to a five-year low (down 21%).

U.S. Fixed Income Bubble Watch:

September 18 – Bloomberg (Lisa Abramowicz): “Imagine a trillion-dollar market that runs on faxes and phone calls while routinely tying up investors’ money for months before they get any return. That’s not fiction: It’s the unregulated market for leveraged corporate loans. In a financial system that is increasingly automated, the origination and trading of loans is in the relative dark ages while money pours in from mainstream investors such as Kansas and New York pension plans and mutual funds catering to individuals seeking high yields in an era of near-zero interest rates. The antiquated structure of a market that’s ballooned from a mere $35 billion in 1997 poses a growing threat, raising the odds of gridlock in a downturn when investors expect to get their money back with a click of a button. As of yet, no regulators have taken responsibility for fixing the deficiency.”

September 16 – MarketNews International (John Shaw): “Doug Elemendorf, the director of the Congressional Budget Office, in two recent briefings on U.S. fiscal policy, has argued the nation is moving toward ‘strikingly different’ budget policies that will shape the U.S. in profound ways. In two presentations last week, Elmendorf argued that the U.S.'s federal budget is changing in two deeply consequential ways. First, federal debt will become much larger relative to the size of the economy than it has been in almost all of American history. Second, a much larger share of federal spending will go to benefits for older Americans and for health care and a much smaller share will go for all other federal programs and activities… ‘Such large and growing federal debt would have serious negative consequences,’ Elmendorf said, adding it would boost debt service costs, slow economic growth, restrict future fiscal policy options, and increase the risk of a future ‘fiscal crisis.’”

September 19 – Financial times (Michael MacKenzie): “Investors are shunning US inflation bonds as a stronger dollar and lower commodity costs negate the need for owning insurance against the risk of rising consumer prices. Expectations for inflation over the next 10 years, as measured by comparing yields on Treasury inflation protected securities and those of nominal Treasury bonds, have dropped to their lowest level in 14 months. A drop in the so-called breakeven rate to 2.04% from 2.27% earlier this summer, reflects the influence of a stronger dollar and lower commodity prices that have reduced inflationary pressure across the US economy in recent months.”

Federal Reserve Watch:

September 19 – Bloomberg (Rich Miller): “Federal Reserve policy makers signaled they won’t be raising interest rates anytime soon while suggesting they would tighten credit at a faster pace once the liftoff has begun. Fed Chair Janet Yellen and her colleagues… stuck with a pledge to hold interest rates near zero for a ‘considerable time’ after they end asset purchases, probably next month. Even so, policy makers projected a steeper increase in borrowing costs next year, raising the median forecast for the benchmark rate at the end of 2015 to 1.375% from June’s estimate of 1.125%... ‘There is a tension between the committee’s statement keeping the considerable period language versus the rate forecasts,’ said Chris Rupkey, chief financial economist at Bank of Tokyo-Mitsubishi… ‘It is quite a balancing act of the high-wire kind that still leaves the market guessing about the Fed’s intentions.’”

September 15 – Wall Street Journal (Victoria McGrane and Pedro Nicolaci da Costa): “The Federal Reserve is elevating its postcrisis efforts to monitor potential threats to financial stability, creating a high-level committee led by the central bank's No. 2 official. The committee, which includes Fed Vice Chairman Stanley Fischer and governors Daniel Tarullo and Lael Brainard, will play a role monitoring the financial system for emerging problems such as asset bubbles and analyzing how the central bank should respond… The committee's makeup, which was confirmed by the Fed, suggests it could be a powerful voice within the Fed on financial stability issues… Among the many postcrisis criticisms was that regulators didn't spot or respond to problems quickly enough, failing to address deteriorating underwriting standards and missing the exposure of big banks to the asset-backed commercial-paper market, which collapsed under the weight of investments in troubled mortgage debt.”

September 13 – Bloomberg (Alister Bull): “The Federal Reserve has created a committee led by Vice Chairman Stanley Fischer to monitor financial stability, reinforcing its efforts to avoid the emergence of asset-price bubbles. Joining Fischer on the Committee on Financial Stability are Governors Daniel Tarullo and Lael Brainard… Fed officials want to ensure that six years of near-zero interest rates don’t lead to a repeat of the excessive risk- taking that fanned the U.S. housing boom and subsequent financial crisis. ‘They’re putting the varsity team on it, but whether or not they’re going to be able to call bubbles better than anyone else is really is an open question,’ Drew Matus, deputy U.S. chief economist at UBS…, said… Sharpening the issue, measures of volatility across stocks, bonds and currencies worldwide have declined to record or multi- year lows this year, in a potential sign of investor complacency.”

U.S. Bubble Watch:

September 19 – Bloomberg (Naomi Christie and Shruti Date Singh): “Shipping companies probably will miss out on exports from the record U.S. grain harvest because the shale-oil boom is clogging up rail lines to ports. While the U.S. will reap the most crops ever, fourth-quarter export cargoes will be 15% lower than last year, according to RS Platou Markets AS, a Norwegian bank specialized in shipping. Rates for Panamaxes, the most commonly used vessels for grains, averaged $7,574 a day this year, headed for the lowest level since at least 1999… The U.S. shale-oil boom means energy shipments are dominating rail networks at the expense of grains. The Association of American Railroads says crude moved by rail almost doubled last year. The bottlenecks may persist because the Energy Department is predicting the most oil output in 45 years in 2015.”

September 15 – Wall Street Journal (Alexandra Scaggs and Steven Russolillo): “The U.S. stock market's bears have gone into hibernation. With no end in sight to a market rally now in its fifth year, once-pessimistic Wall Street forecasters are espousing rosier views. For some investors, the disappearance of negative views is cause for concern. They worry that with bulls so dominant, whenever any shocks do hit, the damage could be much worse than if there were more skeptical investors around. But a healthier U.S. economy, solid corporate profits and low interest rates have persuaded many bearish analysts that a major pullback for stocks isn't in the cards at least well into next year.”

September 16 – Bloomberg (Chris Christoff): “A $450 million bond sale to finance a Detroit hockey arena neared final approval with consent of the city taxing authority that will help pay for it. The Detroit Downtown Development Authority approved terms that may be considered tomorrow by the Michigan Strategic Fund, which would issue the bonds. The 18,000-seat arena is the anchor for a 250-acre (101-hectare) redevelopment to be financed by Olympia Development… The new venue will replace Joe Louis Arena, where the Red Wings have won four Stanley Cup championships since it opened in 1979.”

September 18 – Bloomberg (Nick Baker): “It hasn’t been high-frequency trader Vincent Viola’s best year. His trading firm, Virtu Financial Inc., shelved plans for an initial public offering amid the furor stirred up by author Michael Lewis’s ‘Flash Boys,’ a critique of the industry… His hockey team, the Florida Panthers, won only a third of its games last season. Now he’s cut the offering price for his six-floor, 19-room Manhattan townhouse, nine months after putting it on the market. The home, described in a real estate listing as exuding the ‘ultimate in sophistication and grandeur,’ was reduced last week to $98 million from $114 million…”

Central Bank Watch:

September 17 – Bloomberg: “China’s central bank joined its European counterpart in boosting liquidity to address weakening growth, underscoring a divergence in direction among the world’s biggest economies as the U.S. reduces stimulus. The People’s Bank of China is injecting 500 billion yuan ($81bn) into the nation’s largest banks… China’s credit expansion builds on targeted measures to shore up growth while stopping short of broad-based stimulus seen in the U.S. in the wake of the global financial crisis and still being pushed in Europe and Japan. By attaching a three- month term to its injection, China is taking a step down that path while maintaining control of a process designed to fuel demand for credit in an already debt-laden economy.”

September 18 – Financial times (Claire Jones, Sam Fleming and Christopher Thompson): “Mario Draghi’s latest attempt to stave off economic stagnation in the eurozone had a faltering start on Thursday when demand for the European Central Bank’s first offer of cheap four-year loans fell far short of expectations. The low take-up of the loans piles pressure on the ECB to consider more radical measures such as quantitative easing, though the idea continues to face resistance in Germany, Europe’s largest economy. Europe’s banks borrowed €82.6bn through the first of the ECB’s Targeted Longer-Term Refinancing Operations, or TLTROs, out of a possible €400bn, much less than analysts had forecast.”

September 18 – Bloomberg (Stefan Riecher): “The European Central Bank’s first targeted-loan program came in below estimates in a sign that President Mario Draghi has a way to go to meet his stimulus target. The… central bank said it allotted 82.6 billion euros ($106.5bn) at a fixed interest rate of 0.15% in its targeted longer-term refinancing operations today. Estimates in a Bloomberg News survey of economists ranged from 100 billion euros to 300 billion euros, with a median of 150 billion euros. The lending program is part of a range of ECB measures to stave off deflation in the euro area that Draghi says will boost the institution’s balance sheet to as much as 3 trillion euros from 2 trillion euros.”

Europe Watch:

September 14 – Bloomberg (Katie Linsell): “Catalan President Artur Mas must deliver a referendum on independence despite Prime Minister Mariano Rajoy’s claims it’s unconstitutional, Oriol Junqueras, leader of separatist party Esquerra Republicana de Catalunya tells El Mundo in an interview. The time has come to break Spanish law, view referendum under law of independent Catalonia, Junqueras tells Mundo…”

September 15 – Bloomberg (Roxana Zega and Charles Daly): “Asset quality of South Europe’s biggest banks diverged in the first half of 2014, as Spanish lenders showed improving non-performing loans and provisions, a Bloomberg First Word analysis of earnings reports shows. Italian banks’ ratios are higher than elsewhere in Europe, reflecting slow bankruptcy procedures in Italy, ECM Asset Management analyst Robert Montague says… The impaired loan ratio for the 5 largest banks in Italy increased by an average of 86 bps over 1H 2014 to 19.5% at end-June.”

September 15 – Bloomberg (Mark Deen): “Francois Hollande is finding out that the European Central Bank is about the only friend he has left. A majority of the French said in a poll last week that they’d like their president to step down before his term ends in 2017; his ex-girlfriend Valerie Trierweiler has written a scathing tell-all book that paints him as cold and calculating; and Prime Minister Manuel Valls faces a confidence vote in parliament tomorrow with mounting opposition in the governing party to his business-friendly policies. To top that, the French economy is barely growing, joblessness is at a record high and rising, and the country’s budget deficit is widening for the first time in five years. Yet investors have not lost their enthusiasm for French bonds.”

September 15 – Bloomberg (Johan Carlstrom and Niklas Magnusson): “Sweden’s election threw the nation’s political establishment into turmoil as backing for the anti-immigration Sweden Democrats more than doubled, leaving the largest Nordic economy facing a hung parliament. The three-party Social Democratic opposition led by Stefan Loefven won 43.7%, versus 39.3% for the four-party government of Prime Minister Fredrik Reinfeldt, with all the votes counted. The Sweden Democrats garnered 12.9% to become the third largest party.”

September 16 – Bloomberg (Stefan Riecher): “German investor confidence dropped to the weakest in 21 months amid increasing political tension in Europe, even as the European Central Bank steps up its stimulus.”

Germany Watch:

September 15 – Bloomberg (Patrick Donahue and Arne Delfs): “Germany’s anti-euro party swept into two eastern state parliaments, expanding its challenge to Chancellor Angela Merkel in a region mostly dominated by her Christian Democrats since the Berlin Wall fell 25 years ago… Alternative for Germany, whose positions range from breaking up the euro area to promoting three-children families and fighting crime on Germany’s eastern border, took 12.2% in Brandenburg and 10.6% in Thuringia. The party, known as AfD, won its first state parliament seats in Saxony last month.”

September 15 – Wall Street Journal (Gabriele Steinhauser): “The head of Germany's central bank said… he is against public guarantees for asset-backed securities as part of the European Central Bank's ABS purchase program, contradicting comments a day earlier from ECB President Mario Draghi. The ABS program, which is expected to kick off in October, forms part of ECB efforts to improve the supply of credit in the eurozone… Mr. Draghi said Friday that the ECB's asset purchase program would be more effective if it was extended to the mezzanine tranche of ABS, which is riskier than the senior tranche that the program is targeting for now. However, Mr. Draghi said that for such an extension, the ECB would require public guarantees for these tranches, effectively moving the risk of such purchases off the ECB's balance sheet. Deutsche Bundesbank President Jens Weidmann warned… that he was concerned about any purchases of ABS that resulted in a big transfer of risk from banks to taxpayers. ‘One has to be aware of this transfer of risk when the Eurosystem [of eurozone central banks] buys risky papers or when… the European Investment Bank issues public guarantees for ABS,’ Mr. Weidmann said… Such a transfer of risk to taxpayers contradicts efforts in recent years to make banks' investors and creditors, rather than taxpayers, pay for losses, Mr. Weidmann said.”

Global Bubble Watch:

September 14 – Bloomberg (Boris Groendahl): “Cross-border lending by global banks rose by $580 billion in the first quarter, the first ‘substantial’ increase since 2011, the Bank for International Settlements said. Cross-border claims of banks reporting to the BIS rose 2% to $29.4 trillion in the three months through March… That was driven by a 1.7 percent expansion of lending to other banks, the first quarterly rise in more than two years, the BIS said… ‘The expansion was broadly spread across countries and sectors,’ said the BIS, the record-keeper of the world’s central banks. ‘Claims on both advanced and emerging-market economies grew considerably.’”

September 16 – Bloomberg (Nabila Ahmed and Matt Robinson): “One year after pulling off the largest bond offering ever, Wall Street debt underwriters are pitching their clients on the possibility of something even bigger. With investors clamoring for higher-yielding assets and companies on the biggest acquisition spree since 2007, bankers are talking up the ability of credit markets to fund a ‘mega deal’ that Citigroup Inc. says could be backed by $100 billion or more of financing… ‘We are prompting issuers to think outside of the box -- in terms of the art of the possible,’ said Tom Cassin, the… co-head of investment-grade finance at JPMorgan… ‘We have got clients that are certainly intrigued by it and interested in it.’”

September 19 – Bloomberg (Caleb Melby and David De Jong): “China’s richest person got even wealthier today as Alibaba Group Holding Ltd. soared on its first day of trading. Jack Ma, who started the e-commerce company in his apartment in 1999, has added $4.7 billion to his net worth. His stake surged $3.9 billion after the Chinese company’s shares rose 35.8%... The gain makes him second-richest person in Asia, trailing Hong Kong’s Li Ka-Shing, according to the Bloomberg Billionaires Index.”

September 15 – Bloomberg (Anchalee Worrachate): “Some of the very factors that have becalmed developed nations are increasing risks for emerging markets, affecting $1.4 trillion in funds focused on those assets, the Bank for International Settlements said. Unprecedented stimulus by central banks and historically low volatility levels across asset classes have made it more likely that emerging markets destabilize, the… institution said… in its quarterly report. Governments and companies from Latin America to Asia have boosted borrowing in local and foreign currencies, leaving them more vulnerable when interest rates climb or their exchange rate falls. The stability that has developed since the worst days of the global financial crisis has encouraged investors to funnel money into higher-yielding assets in emerging markets, swelling them by about 55% to $1.4 trillion in May compared with October 2007…”

September 17 – Bloomberg (Ye Xie): “It’s back. The rout that gripped emerging-market currencies last year is again threatening to send exchange rates to their weakest levels since 2009. An index of 20 major developing-nation exchange rates fell yesterday to within 0.3% of a 5 1/2-year low reached in February. Options betting on a drop in the ‘fragile five,’ or those currencies vulnerable to capital flight such as South Africa’s rand and Turkey’s lira, cost the most in seven months. As recently as July, developing-nation currencies were enjoying a renaissance, flirting with their highest levels of the year…”

September 16 – Bloomberg (Christopher Langner and Lilian Karunungan): “Southeast Asia’s 100 largest publicly traded companies are becoming more vulnerable to default as their debt surges and profitability weakens. Debt-to-earnings ratios rose last year at the fastest pace since 2011, as average return on capital at the biggest firms by market value fell for the first time since 2008… In the past four years, their debt rose 89% to the equivalent of $501 billion. Average economic growth in Indonesia, Malaysia, Singapore, Philippines, Thailand and Vietnam fell to just under 5% last year from 8.5% in 2010, forcing companies to rely more on borrowing than earnings to finance their investments. Outbound acquisition activity from the Asean region has tripled in the past five years as companies sought growth abroad. ‘More and more debt is financing less and less growth,’ Singapore-based Xavier Jean, a director of corporate ratings for Standard & Poor’s, said… ‘The only way for these companies to keep growing seems to be leveraging up.’ S&P released a study last week that said the escalating debt levels among Asean’s blue-chip companies will increase vulnerability when interest rates start to rise. Internal cash flows and cash balances funded only about half of the $300 billion the region’s largest companies spent on expansion and acquisitions between 2008 and the first quarter of 2014, S&P said. About $150 billion of debt was issued to bridge the gap.”

September 16 – Bloomberg (Lisa Abramowicz): “Bond buyers have generally grown more risk-averse as 2014 drags on -- except when it comes to emerging-market debt. Dollar-denominated notes of developing nations from Mexico to Indonesia have returned 7% this year, more than U.S. high-yield and investment-grade bonds… While these more-fragile economies have benefited from low borrowing costs across the globe, they may stumble when those rates rise as cash starts leaving, according to analysts at the Bank of International Settlements, which is based in Basel, Switzerland. Investors tend to move in herds in these markets, ‘accentuating both booms and busts,’ BIS analysts Ken Miyajima and Ilhyock Shim wrote… While foreign investors may boost growth now, ‘this comes at a price,’ they wrote… Cheap borrowing costs have prompted companies in emerging- market nations to sell a lot of debt overseas, relying more on investors and less on banks… The amount of notes outstanding on the Bank of America Merrill Lynch U.S. Emerging Markets External Sovereign & Corporate index has surged to $1.6 trillion from $546 billion at the end of 2007”

September 17 – Bloomberg (Dakin Campbell): “Citigroup Inc. is diving deeper into derivatives. In the past five years, the firm that took the largest U.S. bank bailout of the financial crisis increased the total amount of derivatives on its books by 69%... At the end of June, Citigroup had $62 trillion of open contracts, up from $37 trillion in June 2009… The third-largest U.S. lender has amassed the largest stockpile of interest-rate swaps, a type of derivative that can swing in value when central banks raise rates. More than 92% of the bank’s derivatives don’t trade on exchanges, making it harder for regulators to spot dangers in the market.”

September 16 – Bloomberg (Zijing Wu, Fox Hu and Leslie Picker): “Alibaba Group Holding Ltd. raised the amount it’s seeking in its initial public offering to as much as $21.8 billion, coming a step closer to breaking a global fundraising record…”

September 15 – Bloomberg (Narayanan Somasundaram and Nichola Saminather): “Sydney mortgage broker Luke Gardiner, who started his business just last year, is already overwhelmed with customers. ‘There has not been a slow period in the last 12 months,’ said the broker, whose Gardiner Financial Services Pty arranged more than A$5 million ($4.5 million) in mortgages in both June and July… ‘I’ve been waiting for a break, but it hasn’t come.’ Driving the growth is demand for high-risk mortgages such as interest-only loans and financing to buy rental properties.”

Geopolitical Watch:

September 19 – Bloomberg (Nicole Gaouette): “The U.S. intelligence community published its blueprint for confronting threats at a time when the number and complexity of challenges have exploded and -- officials say -- its capabilities have eroded. ‘The United States is facing the most diverse set of threats I’ve seen in my 50 years in the intelligence business,’ Director of National Intelligence James Clapper said. The 2014 National Intelligence Survey outlines strategic and emerging threats facing the U.S. and lays out priorities for the intelligence community in the coming four years. This year’s survey examines long-standing challenges posed by China, Russia, North Korea and Iran and newer dynamics, including the rise of non-state actors such as Islamic State, the destabilizing impact of food and water shortages, the disruptive effects of social media and demographic changes. As the rise of China and other nations diffuses global power and transnational criminal groups seek to destabilize governments and economies, the U.S. will have to find new ways to defend itself… ‘There’s never been a time when we’ve faced the number and complexity of security threats,’ John Brennan, director of the Central Intelligence Agency, said…”

September 19 – Bloomberg (Volodymyr Verbyany and Aliaksandr Kudrytski): “Clashes in eastern Ukraine flared, further rattling a cease-fire signed two weeks ago, as government troops fought with pro-Russian separatists and the country’s currency plunged to a record.”

China Bubble Watch:

September 18 – Bloomberg: “China’s new-home prices fell in all but two cities monitored by the government last month… Prices dropped in 68 of the 70 cities in August from July, including in Beijing and Shanghai... Home sales slumped 11% in the first eight months of this year… Prices fell in 19 cities from a year earlier, led by a 5.4% slide in Hangzhou, as compared to three cities in July… New-home sales in the first 14 days of September in the 40 cities tracked by Centaline fell 4.7%, when measured by the combined space of homes sold, from the same period in August, trailing expectations for a traditionally strong month…”

September 17 – Bloomberg: “Property trusts are funneling the least amount of money into Chinese developers in almost five years as maturing debt balloons, escalating default concerns. Issuance of trusts for real-estate projects, which target wealthy individuals, slid to 30 billion yuan ($4.9bn) this quarter from 67.8 billion yuan in the three months to June 30, the least since the start of 2010… Borrowing costs are rising as developers face $9.1 billion in bonds and loans maturing by year-end… Cash from operations are also facing a squeeze as home sales fell 10.9% in the first eight months of the year… Standard & Poor’s sees a risk that a developer may default in the coming 12 months, highlighting weak earnings at Renhe Commercial Holdings Co. and Glorious Property Holdings Ltd. ‘Given the bad housing sales, fewer trust companies are willing to help property companies raise money,’ said Li Ning, a bond analyst in Shanghai at Haitong Securities Co., the nation’s second-biggest brokerage. ‘Default risks are rising rapidly before so much debt is due next quarter.’ Glorious Property’s $300 million of 13 percent notes due October 2015 yield 22.62%... Renhe Commercial, a developer of underground shopping centers, has $300 million of 11.75% bonds due in May, which yield 39.88%... The amount of property developers’ bonds and loans due in 2015, including both dollar-denominated and yuan debt, is $24 billion… The ratio of debt-to-equity on a Bloomberg Industry gauge of 84 Chinese property companies has climbed to 129.9 percent, the highest since at least 2005 and almost double the Bloomberg World Real Estate Index’s 76%.”

September 14 – Bloomberg: “China’s industrial output rose at the weakest pace since the global financial crisis and fixed-asset investment growth trailed projections, adding to evidence the world’s second-biggest economy is losing momentum. Factory production rose 6.9% from a year earlier in August…, compared with 9% in July… Retail sales gained 11.9% and fixed-asset investment in the January-August period increased 16.5%. The data signal the impact of China’s property slump on the economy is deepening, with the decline in home sales accelerating last month and electricity output falling for the first time since 2009.”

September 16 – Bloomberg: “Foreign direct investment into China, a gauge of external confidence, slumped to a four-year low amid antitrust probes into multinational companies that have spurred a letter of complaint from the U.S. Inbound investment was $7.2 billion in August, down 14% from a year earlier…. after a 17% drop in July. It was the first back-to-back decline of more than 10% since 2009…”

September 15 – Bloomberg (Ambereen Choudhury): “Almost half of China’s wealthy are considering relocating to a developed market within the next five years to find better education and job opportunities for their children, according to a report by Barclays Plc… ‘The reality is that most ultra-high net worth individuals in China are probably making money in China right now,’ Liam Bailey, head of residential research at… Knight Frank LLP, said… ‘So, for business reasons, they need to be relatively close. That might prevent some of them going further afield.’”

September 16 – Bloomberg (Katya Kazakina): “A pair of Chinese porcelain vases sold yesterday for $1.2 million at Doyle New York, soaring 120 times past its low estimate. The two 16-inch tall glazed vases, painted with branches of blooming peonies on a turquoise background, each had a Qianlong- era seal on its base, referring to the reign of the Qianlong Emperor from 1736 to 1795. Estimated at $10,000 to $15,000, they were part of Doyle’s ‘Asian Works of Art’ sale in New York.”

Latin America Watch:

September 14 – Bloomberg (Anna Edgerton): “Brazil’s central bank must have autonomy, not independence, President Dilma Rousseff tells reporters at presidential palace in Brasilia. Candidate Marina Silva is proposing central bank independence by law. Central bank without employment as a goal takes food off the table, Rousseff says. Page on Rousseff’s campaign website cites Nobel prize winners Joseph Stiglitz and Paul Krugman on dangers of independent central bank.”

September 13 – Bloomberg (Jonathan Levin): “Brazilian federal prosecutors in Rio de Janeiro state accused former billionaire Eike Batista of financial-market crimes and are seeking to freeze his assets. The charges of insider trading and market manipulation carry jail sentences in Brazil of as much as 13 years… The freeze could affect assets valued at as much as 1.5 billion reais ($641 million)…”

EM Bubble Watch:

September 15 – Bloomberg: “International debt issued by corporates in emerging economies almost tripled to $1.1 trillion in the four years to 2013, according to BIS data. Debt servicing capacity deteriorated over the same period, as evidenced by an increase in debt-to-earnings ratios to about 2.8 from 2.2. Currency depreciation could exacerbate this further. With $130 billion of that debt maturing by 2018, rising interest rates may prove too prohibitive for some corporates to refinance their debt.”

September 17 – Bloomberg (Andras Gergely): “Bondholders are betting that Ukraine’s state-run gas company will pay a $1.6 billion note this month even as Goldman Sachs Group Inc. warns they may face losses of 50% on government debt maturing later. NAK Naftogaz Ukrainy’s securities due Sept. 30 climbed 2.4 cents to the dollar this month to 98.40 cents… The $17 billion International Monetary Fund bailout Ukraine signed in May is boosting optimism the government will have the cash to retire debt of its biggest employer, which posted losses in six of the eight years through 2012.”

September 18 – Bloomberg (Taylan Bilgic): “Turkish President Recep Tayyip Erdogan’s threat to cut ties with rating companies risks harming investor sentiment toward corporate borrowers, which have doubled their foreign debt holdings in the past four years. Erdogan accused two of the raters of trying to ‘bring down Turkey,’ Hurriyet reported. His comments followed Fitch Ratings’ inclusion of Turkey this month on a list of nations most exposed to possible downgrades if higher U.S. interest rates shock markets. The lira is the third-worst performing currency in Europe, the Middle East and Africa this month… Turkish borrowers have become more active on international markets since Fitch and Moody’s Investors Service raised the country to investment grade starting in 2012… Foreign debt holdings of private companies and banks due in one year or less jumped to $110 billion in July from $53 billion in the second quarter of 2010…”

September 17 – Bloomberg (Daria Solovieva and Dana El Baltaji): “A feud between Turkish President Recep Tayyip Erdogan and a U.S.-based Islamic cleric has made sukuk from Asya Katilim Bankasi AS the worst-performing in the world. Debt from the Shariah-compliant lender known as Bank Asya, which was founded by followers of Fethullah Gulen, has lost 29% this year… ‘Only 10 months ago, the leader of the banking sector had a strong record in growth and expansion, but with this political trouble the bank started to suffer,’ Montasser Khelifi, a senior manager… at Quantum Investment Bank Ltd. in Dubai, said… The government must be clear about what the ‘problem’ with Bank Asya is and decide whether it will take over the lender or impose restrictions on it, he said. Erdogan has blamed Gulen and his supporters for a corruption probe that last year implicated some cabinet members, and vowed to crack down on the cleric’s interests in Turkey.”

Japan Bubble Watch:

September 17 – Bloomberg (Grace Huang and Yuji Nakamura): “Sony Corp. Chief Executive Officer Kazuo Hirai is running out of options to turn around Japan’s iconic consumer-electronics maker. The Tokyo-based company said today it would report a wider full-year loss of 230 billion yen ($2.1bn) because it was writing down the value of its faltering smartphone business. Sony also said it won’t pay an annual dividend for the first time since its listing in 1958.”