Credit Bubble Bulletin : April 2015

The lesson should have been learned by 1994. After a period of extraordinarily loose monetary policy, bloody market chaos was unleashed when the Fed bumped up rates 25 bps (to 3.25%) on February 4, 1994. Treasury and corporate bond markets were clobbered - and leveraged mortgage derivative strategies were obliterated.

At that point, the Federal Reserve should have become focused on the new reality that market-based Credit, leveraged speculation, derivatives and loose monetary policy make for a toxic mix. The Fed needed to have adopted Financial Stability as a primary objective, with a determination to minimize policy-induced market distortions and fledgling Bubbles. Instead, the lesson drawn from that experience was for the Fed to move even more cautiously and transparently when “tightening” policy. All the justification and rationalization in the world does not change a harsh reality: The Fed had turned Pro-Bubble and there was, apparently, no turning back.

With Amazon this week up 18.5%, Microsoft 15.0%, Starbucks 8.9%, Lam Research 8.6% and Google 7.8% - and NASDAQ surpassing year-2000 highs (up 290% from 2009 lows!) - my thoughts returned to the forces underpinning the late-nineties Bubble period. The year 1998 was critical. It’s worth recalling that NASDAQ was up 28% y-t-d through July 20, 1998. The Bank index had surged 27%, with the S&P500 gaining 22% through mid-July. Markets were Bubbling in spite of unfolding global turmoil. To be sure, there are important parallels to the current backdrop.

In the face of growth that had accelerated to 4.5% in 1997, the Fed maintained its tightening bias yet refrained from adjusting rates up from the 5.5% level set in March 1997. Financial sector Credit was expanding rapidly and general Credit conditions were loosening. Yet the “Asian Tiger” collapse and other global instabilities were weighing on our central bankers. A fledgling "tech" Bubble took complete advantage.

After beginning 1995 at 752, the NASDAQ Composite traded at an intra-day high of 2,028 on July 21st 1998. Bubble Dynamics were on display throughout 1998 – including a show of how quickly air could come bursting out. NASDAQ lost a third of its value in less than three months (July 21 to October 8), trading to a low of 1,357 at the height of the Russia/LTCM crisis. Demonstrating that the Fed was much more concerned with bursting Bubbles than inflating ones, rates were cut from 5.5% to 4.75% in a two-month period (Sept 29 to Nov. 17).

The Fed orchestrated an extraordinary bailout of the hedge fund Long-Term Capital Management (LTCM), less than four years after global crisis fears spurred the Mexican bailout. NASDAQ then proceeded to rally 62% in less than three months to trade above 2,200 during 1998’s final trading session. NASDAQ ended 1999 at 4,091 and then reached its cycle peak at 5,133 on March 10, 2000. Not until late-1999 did Fed funds even make it back to the pre-crisis 5.5% level.

Fed rate manipulations and market distortions remain integral to Bubble Dynamics. Global fragilities remain fundamental as well. Back in the late-nineties, an unsettled backdrop kept the Fed from tightening what was clearly dangerously loose U.S. monetary and Credit conditions. While few at the time appreciated the underlying finance inflating the Bubble, the sources were not difficult to discern at the time.

GSE balance sheets expanded an unprecedented $151bn in 1994, $305bn in 1998 and $317bn in 1999. During the six-year period 1994 through 1999, GSE assets surged $1.092 TN, or 173%, to $1.723 TN. Total GSE Securities (borrowings and MBS) over this period ballooned $2.009 TN, or 105%, to $3.916 TN. In a transformative market development, the GSEs assumed the role of reliable market liquidity backstops, willing and able to aggressively intervene in the markets during period of market stress.

The U.S. dollar index ended 1995 at 84.76. Between the Fed’s Pro-Bubble “asymmetrical” policy approach, GSE market backstops and heightened global fragilities, few global markets could compete with the risk vs. reward profile enjoyed by U.S. securities markets. The dollar index ended 1999 at almost 102 and peaked in 2000 at about 119.

“King dollar” “hot money” and foreign investor buying were key sources of demand for booming U.S. securities markets. Corporate borrowing surged 8.6% in 1997, 10.8% in 1998, 9.6% in 1999 and 8.3% in 2000. Much of corporate borrowings were high-risk loans feeding the technology Bubble. With NASDAQ fueling historic wealth accumulations, a torrent of liquidity was inundating the market and technology industry.

At the time, the bullish American “New Era” and “New Paradigm” mottos were compelling (parallels to today). Yet it was clear to me at the time that the finance fueling the Bubble was unsound and unsustainable. Bubbles burst. And that was the fate awaiting NASDAQ, the corporate debt market and king dollar. Anyone discussing such a fate in 1999 was considered a hopeless lunatic.

While also pertinent to the current Bubble backdrop, I’ll avoid rehashing the analysis of the unsound finance that fueled the mortgage finance Bubble. In short, mortgage debt doubled in less than seven years. There was huge growth in (to name a few) the broker/dealers and speculator leveraging. There was spectacular expansion in “repos,” special purpose vehicles (SPVs), Eurodollar borrowings, the ABS marketplace and derivatives (subprime CDOs!). Underpinning the historic expansion of Credit and mortgage risk was the market view that Washington would never allow a housing bust. Very few at the time saw serious issues. And it all appeared sustainable – that is so long as housing prices continued to inflate.

After failing to heed the lessons from 1994 and 2000 experiences, we shouldn’t have been surprised by another failure. The number one lesson global policymakers gleaned from the 2008 debacle: Lehman Brothers should never have been allowed to fail. Somehow, Trillions of high-risk loans, Trillions of leverage, Trillions of fraud/corruption, Trillions of mispriced securities, and resulting unprecedented economic maladjustment could have been sustained had Lehman been bailed out (a modern version of “the Great Depression could have been avoided had the Fed recapitalized the banking system.”). Given determination and some time, it’s always possible to inflate out of debt troubles. Really Dangerous Thinking.

So global policymakers have come to believe that Bubbles can be accommodated – even used as a policy tool. Market perceptions can be readily manipulated – and the Fed has a role, a moral obligation to do so. Market risk aversion, liquidity and tumult can be expertly managed. Do whatever it takes to assure the markets that crisis will not be tolerated. Act with sufficient resolve to ensure the speculator community bets with policy and not against it. Above all, guarantee abundant, uninterrupted cheap marketplace liquidity. And this all goes directly counter to what I believe is the critically important analysis of our times: There is no alternative but to develop a systematic approach to suppressing Bubbles – and the earlier the better.

Here in the U.S., there’s been zero effort to downsize the GSEs. Despite the Trillions that have flowed into “bond” funds, ETFs and risk assets more generally, the Fed has made no attempt to extricate itself from crisis-period market manipulations and move toward a more normalized risk market backdrop. Leveraged speculation has never been so popular. The marketplace for Credit and market derivative “insurance” poses as big a systemic risk as ever. Arguably, securities markets have never been so distorted.

Today’s policy debate centers on when to commence transparent, slow-motion little baby step rate increases – and on the eventual pace of reducing the Fed’s bloated balance sheet. It’s all Pro-Bubble. The critical issue is the market perception that the Fed will immediately reemploy QE at the first sign of market tumult. This is the fundamental Pro-Bubble Market Distortion that desperately needs to be addressed and rectified (reminiscent of the Pro-Bubble market perception that the Treasury and Fed would back GSE obligations that was at the heart of mortgage finance Bubble excesses). Why would market participant fret inflating Bubbles when they only increase the probabilities of additional QE?

Central to Credit Bubble Theory is the view that systemic risk rises exponentially during the “Terminal Phase” period of Bubble excess. Policymakers are on a fool’s errand when they set a policy course to patiently and innocuously deflate a Bubble. After all, bailing out Lehman would have only led to a bigger Bubble. “Kicking the can” on an insolvent Greece has only worsened a really bad situation. Draghi’s QE is Pro-securities Bubbles and is only worsening systemic fragility. Reckless BOJ QE is setting the stage for collapse. Meanwhile, no one is working more diligently to manage a runaway Bubble than the Chinese.

A Thursday evening Bloomberg headline resonated: “If China Sees Capital Outflows Now, What Happens in Crisis?” Considering the scope of Credit excess, an unprecedented Bubble in shoddy apartments, massive corruption and historic economic maladjustment, there’s a stunning lack of concern for China’s faltering Bubble. Another Bloomberg headline was direct and spot on: “China Has a Massive Debt Problem.”

The aged global Bubble is in a precarious late-phase dynamic (that somehow passes for financial nirvana). Having survived previous scares, close calls, panics and even deep crises, the world has grown convinced that policymakers now have everything under control. “Money” printing works. Manipulating securities markets (for the greater good) has become adeptly refined. Moreover, when it comes to China and the Chinese Bubble, they have $3.7 Trillion of reserves – a horde easily capable of stimulating the economy, recapitalizing its banking system and accommodating financial outflows as necessary.

If my analytical framework is sound, Chinese policy is only exacerbating Bubble fragility. In the short-term, fiscal and monetary stimulus has sustained growth in incomes, spending and GDP. The bursting of the Chinese apartment Bubble has for the most part been held at bay. Yet China will likely have another year with Credit expansion surpassing $2.0 TN. They’ll have another year of millions of new apartments and industrial capacity to add to already gross oversupply. This late-cycle Credit is of especially poor quality – much of it is financing inflated apartment markets, suspect local government borrowings and a whole host of enterprises and ventures that will prove uneconomic come the bursting of the Chinese and global Bubbles (if not sooner).

Importantly, much of this “Terminal Phase” Credit is being heavily intermediated through “wealth” and special-purpose vehicles, investment funds and other savings instruments. As is typical during a Bubble's initial tottering phase, investors and speculators become captivated by what are perceived as attractive yields and returns. And the longer the “Terminal Phase” is extended, the more suspect debt that is created and the more of it that is accumulated by the unsophisticated and unsuspecting. And I would strongly argue that this deleterious dynamic is exacerbated by the policy-induced global yield collapse, including an estimated $3.0 Trillion of sovereign debt that now trades with negative yields.

It is this divergence between the expanding quantities of unsound Credit and the mounting accumulation of perceived safe (“money-like”) wealth that sets the stage for the inevitable crisis of confidence. Policymakers just have not learned: The Alchemists still believe they can inflate bad debt into good. Invariably, notions of cautiously reining in a Bubble meet the reality of the extraordinary impairment wrought upon system stability over relatively short periods of “Terminal” excess. The Shanghai Composite’s nine-month, 90% moonshot is testament to the hazard of accommodating late-cycle Bubbles.

April 23 – Bloomberg (Ting Shi): “From “Lord Ringtone” to a banker accused of authorizing $1.6 billion in illegal loans, China’s list of most-wanted fugitives offers an illustrated guide to the Communist Party’s breathtaking variety of official graft. The online rogue’s gallery of 100 top overseas corruption suspects was released by Chinese authorities to pressure the U.S. and other governments to help track down and return them… The list spans China’s industries, from finance and property to oil and car manufacturing. There are former representatives of the state-controlled news media and one ex-history professor. The campaign to repatriate financial fugitives -- dubbed “Sky Net” -- is key to President Xi Jinping’s nationwide corruption crackdown, with some 40 people on the list released Wednesday thought to be in the U.S.”

Some estimates have over $1.0 Trillion of corrupt “money” having fled China. How much has made it to U.S. real estate and securities markets? For that matter, how much global finance Bubble “dirty money” has made its way to America? How much legitimate wealth has escaped local fragility for greener U.S. pastures – from China, Russia, Brazil, Venezuela, Latin America, Europe and the Middle East? And how much “hot money” has been unleashed by respective QE currency devaluations from the Bank of Japan and European Central Bank? How big are global leveraged “carry trades”? What have been the impacts and what are the ramifications from these historic flows that I view as unsound, unstable and unsustainable?

By this point, things have gone way beyond the late-nineties “king dollar” dynamic. Recent years have seen unprecedented global flow instability – literally Trillions flowing to and fro in an unremitting chase for returns. The closest parallel is the profoundly unstable global backdrop from the late-twenties. And like the “Roaring Twenties,” few today appreciate how deeply systemic all the unsound finance has become – not with stocks at record highs, bond prices at record highs and household net worth at all-time highs.

“Tech” Bubble fragility was exposed when NASDAQ reversed course and plummeted back in 2000. Mortgage finance Bubble fragility was unmasked when housing prices declined. And I fully expect global government finance Bubble fragilities to emerge when the world’s overheated risk markets inevitably come back to earth. And when it comes to market Bubbles, it’s often the final parabolic move that sets the stage. The NASDAQ 100 gained 4.5% this week – playing a little catch up with Bubbles in China, Europe, Japan and even EM more generally.

For the Week:

The S&P500 jumped 1.8% (up 2.9% y-t-d), and the Dow gained 1.4% (up 1.4%). The Utilities advanced 2.3% (down 4.9%). The Banks increased 0.1% (down 2.0%), and the Broker/Dealers jumped 1.9% (up 4.5%). The Transports surged 2.7% (down 2.8%). The S&P 400 Midcaps gained 1.2% (up 5.6%), and the small cap Russell 2000 rose 1.3% (up 5.2%). The Nasdaq100 surged 4.3% (up 7.1%), and the Morgan Stanley High Tech index advanced 3.0% (up 3.5%). The Semiconductors slipped 0.3% (up 1.0%). The Biotechs gained 1.1% (up 19.2%). With bullion losing $25, the HUI gold index fell 1.7% (up 6.0%).

One-and three-month Treasury bill rates ended the week at a basis point. Two-year government yields were little changed at 0.51% (down 16bps y-t-d). Five-year T-note yields added one basis point to 1.32% (down 34bps). Ten-year Treasury yields gained four bps to 1.91% (down 26bps). Long bond yields jumped nine bps to 2.61% (down 14bps). Benchmark Fannie MBS yields gained five bps to 2.64% (down 20bps). The spread between benchmark MBS and 10-year Treasury yields widened one to 73 bps. The implied yield on December 2015 eurodollar futures declined a basis point to 0.585%. Corporate bond spreads narrowed. An index of investment grade bond risk declined two bps to 61 bps. An index of junk bond risk dropped eight bps to 333 bps. An index of EM debt risk fell 14 bps to 344 bps.

Greek 10-year yields slipped 17 bps to 12.54% (up 279bps y-t-d). Ten-year Portuguese declined three bps 1.97% (down 65bps). Italian 10-yr yields dipped three bps to 1.44% (down 45bps). Spain's 10-year yields dropped seven bps to 1.38% (down 23bps). German bund yields jumped eight bps to 0.155% (down 39bps). French yields rose five bps to 0.42% (down 41bps). The French to German 10-year bond spread narrowed three to about 26 bps. U.K. 10-year gilt yields gained six bps to 1.65% (down 11bps).

Japan's Nikkei equities index jumped 1.9% (up 14.7% y-t-d). Japanese 10-year "JGB" yields declined two bps to 0.28% (down 4bps y-t-d). The German DAX equities index gained 1.1% (up 20.5%). Spain's IBEX 35 equities index rose 1.3% (up 11.9%). Italy's FTSE MIB index advanced 1.7% (up 23.2%). Emerging equities were mostly higher. Brazil's Bovespa index rallied 4.9% (up 13.2%). Mexico's Bolsa gained 1.7% (up 6.1%). South Korea's Kospi index added 0.8% (up 12.8%). India’s Sensex equities index was hit for 3.5% (down 0.2%). China’s bubbling Shanghai Exchange jumped another 2.5% to a new six-year high (up 35.8%). Turkey's Borsa Istanbul National 100 index surged 3.8% (down 0.2%). Russia's MICEX equities index was up 1.6% (up 20.5%).

Debt issuance was exceptionally strong (above $60bn). Investment-grade issuers included AT&T $17.5bn, Citigroup $7.0bn, Goldman Sachs $3.1bn, Harris Corp $2.4bn, Morgan Stanley $2.0bn, Wells Fargo $2.0bn, Southern Copper $2.0bn, ZF Friedrichshafen $3.5bn, Bank of New York Mellon $1.01bn, AutoZone $650 million, Suncorp-Metway $600 million, National Rural Utilities Cooperative Finance Corp $500 million, New York Life $450 million, Blackstone $350 million, Blue Cross and Blue Shield of Minnesota $250 million, Stanford University $250 million, Mercy Healthcare System $150 million and Washington University $130 million.

Convertible debt issuers this week included Cinedigm $64 million.

Junk funds saw outflows of $162 million (from Lipper). Junk issuers included DJO Finance $1.01bn, Halcon Resources $700 million, Lennar $500 million, Levi Strauss $500 million, Horizon Pharma $475 million, Seven Generations Energy $425 million, 21st Century Oncology $400 million, QTS LP $300 million, Optimas OE Solutions $225 million and Techniplas $175 million.

International debt issuers included International Bank of Reconstruction & Development $5.0bn, KFW $3.0bn, Credit Suisse $3.0bn, Fortescue $2.3bn, Sinopec Group Overseas Development $4.8bn, Asian Development Bank $2.0bn, PT. Pelabuhan Indonesia $1.6bn, YPF Sociedad Anonima $1.5bn, Scentre Group Trust $1.0bn, Paraguay $780 million, Africa Finance Corp $750 million, Empress Electrica Guacolda $500 million, Sydney Airport $500 million, Doosan Heavy Industries and Construction $500 million, Korea Resources $300 million and Trinseo $300 million.

Freddie Mac 30-year fixed mortgage rates slipped two bps to 3.65% (down 22bps y-t-d). Fifteen-year rates declined two bps to 2.92% (down 23bps). One-year ARM rates were down two to 2.44% (up 4bps). Bankrate's survey of jumbo mortgage borrowing costs had 30-yr fixed rates down 17 bps to 3.99% (down 29bps).

Federal Reserve Credit last week declined $1.4bn to $4.447 TN. Over the past year, Fed Credit inflated $201bn, or 4.7%. Fed Credit inflated $1.637 TN, or 58%, over the past 128 weeks. Elsewhere, Fed holdings for foreign owners of Treasury, Agency Debt last week were little changed at $3.289 TN. "Custody holdings" were down $4.5bn y-t-d.

M2 (narrow) "money" supply dropped $40.6bn to $11.892 TN. "Narrow money" expanded $662bn, or 5.9%, over the past year. For the week, Currency increased $1.9bn. Total Checkable Deposits sank $64.3bn, while Savings Deposits jumped $23.8bn. Small Time Deposits declined $4.0bn. Retail Money Funds added $0.9bn.

Money market fund assets declined $6.9bn to a six-month low $2.588 TN. Money Funds were down $145bn year-to-date and were little changed from a year ago.

Total Commercial Paper declined $6.6bn to $1.026 TN. CP declined $17bn over the past year, or 1.7%.

Currency Watch:

The U.S. dollar index declined 0.7% to 96.86 (up 7.3% y-t-d). For the week on the upside, the Brazil real increased 3.0%, the British pound 1.5%, the Singapore dollar 1.0%, the Norwegian krone 0.8%, the Taiwanese dollar 0.7%, the euro 0.6%, the Danish krone 0.6%, the Canadian dollar 0.6%, the Australian dollar 0.5%, the South Korean won 0.4% and the Swedish krona 0.1%. For the week on the downside, the New Zealand dollar declined 1.0%, the South African rand 0.5%, the Mexican peso 0.3%, the Swiss franc 0.2% and the Japanese yen 0.1%.

Commodities Watch:

The Goldman Sachs Commodities Index gained 0.9% (up 4.1% y-t-d). Spot Gold lost 2.1% to $1,179 (down 0.5%). July Silver sank 3.6% to $15.68 (up 0.5%). June Crude slipped 17 cents to $57.15 (up 7%). May Gasoline jumped 4.0% (up 36%), while May Natural Gas dropped 3.9% (down 12%). July Copper declined 0.6% (down 3%). May Wheat was down 1.7% (down 18%). May Corn was hit for 4.0% (down 8%).

Fixed Income Bubble Watch:

April 22 - Bloomberg (Tracy Alloway): “Investors desperately seeking yield in a world awash with meager and even negative returns last week encountered a rare opportunity in fixed income. Skopos Financial, a four-year-old auto finance company based in Irving, Tex., sold a $149 million bond deal consisting of car loans made to borrowers considered so subprime you might call them—we dunno—sub-subprime? Details from the prospectus show a whopping 20% of the loans bundled into the bond deal were made to borrowers with a credit score ranging from 351 to 500—the bottom 6% of U.S. borrowers, according to FICO.”

April 19 – Bloomberg (Alexandra Scaggs and Daniel Kruger): “There are plenty of reasons to be bearish on U.S. government bonds. They pay almost nothing, the Federal Reserve wants to raise interest rates and money managers are largely convinced they’re too expensive. None of that really matters to Steven Kurashima. Just last week, the 58-year-old accountant and his financial adviser shifted more money into U.S. debt. While he needs his assets to grow to pay college tuition for his two children, Kurashima decided to lock in gains from stocks after their dizzying ascent… And holding onto that capital is especially important now as he edges closer to retirement. ‘I just want to preserve capital,’ Kurashima said… ‘It’s time to put some money into something a little more stable.’ He’s hardly the only one. JPMorgan… says mom-and-pop investors like Kurashima may sink $350 billion into debt funds globally this year, adding to the $3 trillion they’ve already poured into bonds since 2008.”

April 21 – Bloomberg (Sridhar Natarajan, Cordell Eddings and Asjylyn Loder): “Energy companies desperate to head off a potential funding squeeze are getting a second chance in the bond market, allowing them to keep drilling as they seek to weather the oil-price slump. Halcon Resources Corp., run by one of the architects of the U.S. shale boom, sold $700 million of bonds Tuesday that pay junk yields while pledging assets to back the debt. The Houston firm joins explorers Energy XXI Ltd… in leading almost $10 billion of second-lien bond offerings in the U.S. this year, a record pace for issuance of such securities… The firms are getting a lifeline as banks shrink credit lines that are tied to the value of oil reserves. They’ve been able to pile on new debt because their existing obligations -- most of which were issued at the height of the shale boom -- exclude borrowing restrictions typically demanded by junk-bond investors. Those debtholders are now being punished because the new creditors are getting a stronger claim on assets. ‘It’s kind of the last bullet in the chamber for a lot of these companies in the most precarious situation,” John McClain, a money manager who helps oversee $16 billion at… Diamond Hill Investment Group, said… ‘We saw weak covenants across the broader energy space, so the ability to do second liens was certainly there. It is a negative for unsecured holders, as it’s diluting your claim.’”

April 22 - Bloomberg (Cordell Eddings, Sridhar Natarajan and Laura J Keller): “Fortescue Metals Group Ltd., the Australian iron-ore supplier that abandoned a junk-bond sale last month amid a commodity slump, returned to the market Wednesday, raising $2.3 billion by offering higher yields. The company, which had been planning to sell just $1.5 billion of the seven-year notes, issued the debt to pay 10.25%, 2 percentage points more than what it was marketing to investors in March… Fortescue had planned to sell $2.5 billion in its earlier attempt, and some investors were willing to buy at yields of 9%, market participants said then.”

U.S. Bubble Watch:

April 23 - Reuters (Michael Flaherty and Jonathan Spicer): “Sections of the U.S. financial system that may be vulnerable to investor panic are raising concerns inside the Federal Reserve… The Fed is particularly worried about whether the booming asset management industry can withstand a run of redemptions in a financial crisis. Chief among the Fed's concerns, increasingly voiced in public remarks, is that certain funds held by individuals and institutions will not have the underlying assets sufficient to back investors cashing out in a panic… The fall in liquidity across portions of the bond market comes amid a jump in volatility, making it more important for Fed officials to telegraph their tightening plans well ahead of time. The Fed's nightmare scenario is in surprising markets, exposing investors to the liquidity risks it fears, and causing a spike in borrowing costs that hurts economic growth. ‘Some open-ended mutual funds offer daily withdrawal privileges but invest in assets that take longer to sell and settle,’ Fed Vice Chair Stanley Fischer said…”

April 23 - CNBC (Alex Rosenberg): “Companies that obsessively buy back their shares could be making a big mistake, says one Moody's analyst. In fact, it may be time for corporate managers to rethink the popular buybacks and dividend hikes that improve the share price of a company without doing anything for its long-term prospects, she says. ‘You have to expect that there's an inherent conflict between creditors and equityholders when it comes to share buybacks,’ said Christina Padgett, the head of leveraged finance at…Moody's… Both stockholders and bondholders ‘believe in the long term success of the company, but there are certain benefits that go to the shareholder directly in the form of a buyback or a dividend that actually don't support future growth of the company, and so really don't inure to the benefit of creditors.’…Buybacks by S&P 500 companies rose to $219 billion in the first quarter, the highest since the fourth quarter of 2007, according to TrimTabs. Meanwhile, S&P 500 corporate dividends rose to a new record of $376 billion in 2014, according to FactSet.”

April 22 – Reuters (Edward Krudy): “Puerto Rico's top finance officials said the government of the U.S. territory will likely shutdown in three months because of a looming liquidity crisis and warned of a devastating impact on the island's economy. In a letter to leading lawmakers…, the officials said a financing deal that could potentially salvage the government's finances currently looked unlikely to succeed. It warned of laying off government employees and reducing public services.”

Global Bubble Watch:

April 24 – Wall Street Journal (Josh Zumbrun and Carolyn Cui): “The global economy is awash as never before in commodities like oil, cotton and iron ore, but also with capital and labor—a glut that presents several challenges as policy makers struggle to stoke demand. ‘What we’re looking at is a low-growth, low-inflation, low-rate environment,’ said Megan Greene, chief economist of John Hancock Asset Management… The current state of plenty is confounding on many fronts. The surfeit of commodities depresses prices and stokes concerns of deflation. Global wealth—estimated by Credit Suisse at around $263 trillion, more than double the $117 trillion in 2000—represents a vast supply of savings and capital, helping to hold down interest rates, undermining the power of monetary policy. And the surplus of workers depresses wages. Meanwhile, public indebtedness in the U.S., Japan and Europe limits governments’ capacity to fuel growth through public expenditure. That leaves central banks to supply economies with as much liquidity as possible, even though recent rounds of easing haven’t returned these economies anywhere close to their previous growth paths.”

April 21 – Wall Street Journal (Tom Wright): “Asian countries borrowed heavily to maintain growth during the financial crisis, but couldn’t break the habit even as the global economy healed. Now they are feeling the hangover. Growth is slowing fast across the continent as consumers and businesses focus on repaying debt. Central banks have cut rates, pushing currencies lower, but economies haven’t picked up. Demand has stayed weak, keeping wages stagnant and price growth anemic, making borrowings even harder to repay… Half of global debt issued over the past seven years went to emerging-market economies, much of it to Asia. China alone accounted for about one-third of the rise in debt globally since 2007, according to the Mckinsey Global Institute. Debt levels in several Asian countries, such as China, Malaysia, Thailand and South Korea, are higher than they were before the Asian financial crisis of the late 1990s. Some countries, such as South Korea, Malaysia and Australia, have household-debt-to-income levels greater than the U.S. had before its financial crisis.”

April 21 – Bloomberg (Ian Wishart): “Government debt in the euro area surged to the highest levels since the introduction of the single currency, underscoring the challenges still confronting the 19-nation bloc as it wrestles with Greece over new aid payments. Greece’s debt pile swelled to a new high of 177.1% of gross domestic product at the end of 2014, up from 175% a year earlier… For the euro zone as a whole, government debt rose to a record 91.9% of GDP last year from 90.9% in 2013… The figures show that Greece’s debt level is up about 25 percentage points from 156.9% in 2012, the year the country received its second bailout, of 130 billion euros ($139bn), from the EU and International Monetary Fund… Italy’s debt mountain increased and remained as the second-highest in the euro area after Greece, going up to 132.1% of GDP in 2014 from 128.5% the previous year.”

April 24 – Reuters (Anjuli Davies): “Worldwide dealmaking in the healthcare sector has doubled this year compared with the same time in 2014… Thomson Reuters data shows. So far this year, deals worth $193.9 billion have been announced in healthcare… Worldwide M&A is up 23% year-to-date versus the same period last year, with deals worth $1,186 trillion having been struck so far.”

April 21 – Bloomberg (Jonathan Burgos and Netty Idayu Ismail): “Gold’s traditional role as a store of wealth has been usurped by contemporary art and apartments in cities such as New York and London, according to Laurence D. Fink, head of the world’s biggest asset manager. ‘Historically gold was a great instrument for storing of wealth,’ the chairman of BlackRock Inc. said… ‘Gold has lost its luster and there’s other mechanisms in which you can store wealth that are inflation-adjusted.’ Over the centuries, bullion traditionally lured demand as a protection of wealth during crises, including conflicts and periods of inflation. Prices posted the first back-to-back annual drop last year since 2000 as investor holdings in exchange-traded products contracted, global equities rallied and the dollar climbed on prospects for higher U.S. interest rates. Since peaking in 2011, it’s dropped about 38%. ‘The two greatest stores of wealth internationally today is contemporary art… and I don’t mean that as a joke, I mean that as a serious asset class,’ said Fink. ‘And two, the other store of wealth today is apartments in Manhattan, apartments in Vancouver, in London.’”

April 21 – Bloomberg (Jennifer Ryan and Joshua Robinson): “U.K. economists are increasingly pessimistic about the hole in Britain’s finances. And this time, government spending isn’t the focus. They’re looking at the current-account deficit, the difference between money paid into the U.K. and money sent out. This shortfall as a share of gross domestic product will reach 4.4% this year… Last month, they were forecasting 4.1%. A year ago, their estimate for 2015 was just 2.5%. Official figures showed Britain had a record deficit of 5.5% of GDP in 2014…”

ECB Watch:

April 21 – New York Times (Landon Thomas Jr.): “As Greece scrambles to secure a financing deal with Europe before running out of cash, the European Central Bank is tightening the vise on the country’s ailing banks by curtailing access to desperately needed emergency loans. The [ECB] is now demanding that the value of the collateral that Greek banks post at their own central bank to secure these loans be reduced by as much as 50%, according to people who have been briefed… And, these people say, if the Greek government and Europe remain at an impasse on an agreement about austerity measures, these so-called haircuts could increase further. The move highlights the hard-line approach taken by the E.C.B. toward Greece as it presses the new government to reach an agreement with its creditors. With the value of the collateral being reduced so significantly, banks will be hard pressed to obtain the money they need to survive.”

Europe Watch:

April 23 - Reuters (George Georgiopoulos): “Greece is considering asking the European Stability Mechanism (ESM) to buy Greek government bonds held by the European Central Bank (ECB) to pay for debt redemptions this summer, newspaper Kathimerini reported… Shut out of bond markets and fast running out of cash, Greece faces big redemptions to the ECB, 4.18 billion euros ($4.46bn) in July and 3.38 billion in August, as remaining bailout money remains locked until it agrees with creditors on reforms. ‘The aim of the government's plan is to have the ESM buy the bonds and reach a deal to repay them further out in time, as is the case with loans from the EFSF (European Financial Stability Facility),’ the paper said…”

April 20 – Wall Street Journal (Simon Nixon): “It’s still possible that Greece can remain in the eurozone—though that is no longer the base case for many policy makers. At the very least, most fear the situation is going to get much, worse before it gets any better. No one now expects a deal to unlock Greek bailout funding at this week’s meeting of eurozone finance ministers in Riga—originally set as the final deadline for a deal. The new final, final deadline is now said to be a summit on May 11. But among European politicians and officials gathered in Washington DC last week for the International Monetary Fund’s Spring Meetings, there was little optimism that a deal will be agreed by then… ‘Nothing, literally nothing has been achieved,’ says an official. In fact, it is worse than that: so far, the bulk of Athens’s reform plans would actually cost money or reduce government revenues, according to eurozone officials.”

Central Bank Watch:

April 21 – Bloomberg (Sharon Chen and Haslinda Amin): “Central bankers should be careful not to ease monetary policy in response to actions by their peers, which may lead to an excessively accommodative stance globally, the former head of the European Central Bank said. While the U.S. and Europe aren’t trying to weaken their currencies, their unprecedented monetary stimulus has consequences on the global foreign-exchange market, former ECB President Jean-Claude Trichet said… ‘Taking into account the exchange-rate position, it is clear that we must avoid any kind of beggar-thy-neighbor posture at the global level,’ Trichet said. The risk of such easing is that maybe ‘we will have too-accommodating monetary policies,’ he said.”

China Bubble Watch:

April 22 - Bloomberg (Enda Curran and Lianting Tu): “China has a $28 trillion problem. That’s the country’s total government, corporate and household debt load as of mid-2014, according to McKinsey & Co. It’s equal to 282% of the country’s total annual economic output. President Xi Jinping’s government aims to wind down that burden to more manageable levels by recapitalizing banks, overhauling local finances and removing implicit guarantees for corporate borrowing that once helped struggling companies. Those like Baoding Tianwei Group Co., a power-equipment maker that Tuesday became China’s first state-owned enterprise to default on domestic debt. Now hold that thought, and consider this: China’s also trying to prop up a $10.4 trillion economy that’s decelerating and probably will continue to do so through 2016, or so says the International Monetary Fund.”

April 24 – Bloomberg: “China’s securities regulator started a campaign to crack down on stock-market manipulation and insider trading, the latest effort to reduce risks as an equities boom lures a record number of novice investors. The China Securities Regulatory Commission will target trading by brokerage employees using non-public information, and market manipulation, including of futures prices, the CSRC said… The regulator also cited insider trading in over-the-counter markets and accounting fraud in mergers and acquisitions.”

April 22 - Bloomberg (by Christopher LangnerLianting Tu): “The true cost of the debt that China's real estate developers peddled to eager international investors during a five-year property boom is now becoming clear. Having found themselves shut out of local bond and loan markets seven years ago, a band of developers began looking elsewhere for funds. First an initial public offering, and then a dollar bond sale. It became a well-trodden path. By 2010, a core group of four -- Kaisa Group Holdings Ltd., Fantasia Holdings Group Co., Renhe Commercial Holdings Co., Glorious Property Holdings Ltd. -- raised a total of $5.6 billion. On Monday, Kaisa buckled under $10.5 billion of debt and defaulted. China’s home builders became the single biggest source of dollar junk debt in Asia amid government measures to prevent a property bubble. They’ve already funneled $78.8 billion from international equity and bond markets into an industry that’s grown to account for one third of the world’s second-biggest economy. Most of the first rush of dollar offerings, in 2010, falls due in the next two years. ‘It was an unintended consequence of the Chinese government that property developers are selling equity and debt to offshore investors,’ said Ben Sy, a… managing director in JPMorgan… private banking division. ‘There happened to be huge demand from international investors in the past few years driven by the intense search for yield.’”

April 21 – Bloomberg (Ye Xie and Laura J Keller): “Kaisa Group Holdings Ltd. captivated Wall Street by minting fortunes from troubled real estate in China. Now the developer is in trouble itself -- and the question is how far the pain will spread. On Monday, the news came that many had been dreading for months: The company, caught up in an anti-corruption probe, is buckling under its debts as a slumping real estate market weighs on the entire Chinese economy. After missing $52 million in interest payments, Kaisa, once a stock market darling, now confronts an uncertain future. It’s a remarkable comedown for a company that burst onto the scene in 2007 as billions poured into Chinese real estate. Its troubles, long in coming, have set investors on edge and have many asking if Kaisa is a one-off or the start of something worse… ‘More than one big developer is going to go under,’ said Erik Gordon, a professor at the University of Michigan who examines legal issues in corporate and sovereign debt restructuring efforts. ‘Busts follow booms. There’s no reason for it to be any different in China.’”

April 23 - Bloomberg (Lianting Tu): “After Kaisa Group Holdings Ltd. defaulted on its dollar bonds earlier this week, the market got to wondering, who could be next? They didn’t have to look very far. Attention has rapidly shifted to Glorious Property Holdings… Moody’s… cut its senior unsecured rating to Ca, just one step from the lowest grade typically signaling default, on April 20 citing sliding sales. It settled $19.5 million of interest Friday on its $300 million of 13% notes due Oct. 25, which have dropped 6.3 cents this month to trade at 78.4 cents on the dollar. Investors got a reminder of the risks of investing in Chinese companies’ some $275 billion of dollar bonds outstanding when Kaisa missed a grace period to pay $52 million of overdue interest on two of its U.S. currency notes…”

April 24 – CNBC (Mia Tahara-Stubbs): “Chinese banks face a spike in bad loans amid slowing economic growth, PwC warns in a new report. ‘There are a variety of indications that credit risk exposure is accelerating,’ said PwC China Banking and Capital Markets leader Jimmy Leung… Asset quality continues to worsen, while the average overdue loan period is constantly increasing, Leung said… Banks' combined loan balance grew 11.49% on-year in 2014 to 52.31 trillion yuan ($8.44 trillion), according to PwC. But NPL, or bad loans, rose at a much higher rate of 38.23% to 641.5 billion yuan… Loans that could turn bad increased at an even faster pace; overdue, but not NPL loans, jumped 112.65% on-year. ‘The banks need to get to grips with credit asset quality pressures,’ said PwC's Leung.”

April 22 – Reuters (Lu Jianxin and Pete Sweeney): “Issuance of Chinese asset-backed securities (ABS) could triple to more than $160 billion this year, reactivating huge assets now mouldering on bank books, as Beijing streamlines procedures for firms to securitise receivables. By making it easier for banks to repackage and resell receivables - such as loan repayments on mortgages, car loans and credit cards - the government hopes to free up banks' balance sheets so they can lend more to the real economy. The People's Bank of China (PBOC) announced this month that regulatory approval will no longer be required to issue ABS, and issuers will now only need to register to do so.”

April 24 – Wall Street Journal (Liyan Qi): “A Chinese province delayed a plan to issue new bonds to help repay old debt, in a setback for a new program intended to help heavily indebted local governments. An official of the eastern province of Jiangsu said the proposed offer of 64.8 billion ($10.5bn) of debt has been postponed… China is looking for ways to deal with local debt that authorities estimated totaled 17.9 trillion yuan, or $2.89 trillion at current exchange rates, as of mid-2013. China’s central government earlier this year agreed to allow local governments to issue 1 trillion yuan of bonds in 2015 to replace a portion of older and costlier debt with new debt at lower rates.”

April 20 – Reuters (Koh Gui Qing and Clark Li): “China's drumroll of policy support for its flagging housing market has met an unlikely foe: banks. Beijing has tried to revive a flagging housing market as it looks to arrest an economic slowdown, but banks are increasingly worried about bad debts and are not passing on policy steps like interest rate cuts and lower downpayment requirements to home buyers. The show of independence among state-owned banks comes at an awkward time. On one hand, having banks that lend only when it makes business sense is a coup for China, where reforms are aimed at developing a more market-driven economy… ‘It's difficult because our margins are already squeezed, there isn't much differentiation in the market, so our focus is on how much our capital costs are,’ said a banker at a top-10 Chinese lender, explaining why his bank is reluctant to lend.”

Geopolitical Watch:

April 23 – Financial Times (Alex Barker in Brussels, Neil Buckley and Roman Olearchyk): “Russia accused the US on Thursday of deploying military trainers in the combat zone in east Ukraine in a new war of words after Washington said Moscow was engaged in a military build-up in the war-torn region. The statement from Moscow came hours after the US said Russia was breaching a six-week-old ceasefire deal in eastern Ukraine. Washington said Russia was stepping up its military involvement, including complex training exercises and the deployment of air defence systems near the frontline. In its public rebuke, Washington warned of military manoeuvres that could presage a Moscow-backed separatist offensive… The diplomatic finger-pointing came amid reports of a resurgence of violence in east Ukraine during the past week, particularly around the port and steel city of Mariupol on the Sea of Azov. Kiev and western countries remain concerned that Russian-backed forces could launch a new assault to cut off Ukrainian exports through Mariupol and as part of attempts to create a land bridge linking Russia to Crimea.”

April 23 – NYT (David E. Sanger): “The Pentagon on Thursday took a major step designed to instill a measure of fear in potential cyber adversaries, releasing a new strategy that for the first time explicitly discusses the circumstances under which cyberweapons could be used against an attacker, and naming the countries it says present the greatest threat: China, Russia, Iran and North Korea. The policy… represents the fourth time in four months that the Obama administration has named suspected hackers or announced new strategies designed to raise the cost of cyberattacks.”

April 21 – Bloomberg (Elena Mazneva and Ewa Krukowska): “For four decades, through the depths of the Cold War and the collapse of the Soviet Union, Europe has relied on Russian gas to keep its economy moving, sending hundreds of billions of dollars to Moscow in return. Today, that relationship is fraying. The European Union served OAO Gazprom, Russia’s exporter of the fuel, with an antitrust complaint, just as President Vladimir Putin is wielding gas as a tool in the conflict over Ukraine and inserting pipeline politics into Greece’s financial crisis. None of this would stop the gas from flowing, analysts say, though Gazprom is preparing for a fight. ‘Gas relations between Russia and Europe will continue, but Gazprom has to deal with a more stringent enforcement of EU competition rules and diversification plans,’ said Marco Giuli, an analyst at the European Policy Center.”

April 20 – Politico (Michael Crowley): “The war-torn Arabian nation of Yemen has emerged as a surprise complication for U.S.-Iranian relations in the late stages of President Barack Obama’s nuclear diplomacy with Tehran. The Obama administration dispatched an aircraft carrier to Yemen’s coastal waters over the weekend, an escalation of American involvement in that country’s civil war that also serves as a show of strength against Iran just as negotiators resume the nuclear talks this week in Vienna. For now, administration officials and outside experts say, tensions over Yemen don’t threaten to derail a nuclear deal. But America’s deepening involvement in what amounts to a growing Saudi-Iranian proxy fight could have unpredictable results.”

Brazil Watch:

April 22 - Bloomberg (Sabrina Valle and Juan Pablo Spinetto): “Brazil’s national oil company said a graft scandal cost it 6.2 billion reais ($2.1bn) after a five-month internal debate that shut off access to bond markets, cost the chief executive her job and destabilized the country’s politics. By disclosing the charge in its first audited results since August, Petrobras opens the way for renewed access to financial markets. Shares of the world’s most-indebted oil company rose in New York even after it reported a net loss of 21.6 billion reais for 2014.”

April 20 – Bloomberg (Juan Pablo Spinetto and Anna Edgerton): “Buried off the coast of Brazil, beneath miles of seawater, rock and salt, lie vast oil reserves -- at least 50 billion barrels -- that were supposed to yield untold riches for this nation. But, as so often happens in Brazil, the early promise of this sprawling prehistoric geological formation known as the pre-salt is giving way to gloom. Eight years after the reserves were discovered, government intervention, corruption and mismanagement at the state-run oil giant Petroleo Brasileiro SA have cast doubt over Brazil’s ability to capture and leverage its oil wealth to lift its entire economy. The scandal has coincided with a jarring decline in world oil prices and prompted outrage and national soul-searching. Petrobras embodied not just the swagger of Brazil’s oil industry but the can-do spirit of the nation’s quest to be a major player on the world energy stage.”

EM Bubble Watch:

April 23 – Financial Times (Alberto Gallo): “Emerging markets have enjoyed capital inflows and access to cheap dollar funding since the global financial crisis. These strengths are about to become weaknesses: a reversal in Federal Reserve policy, falling commodity prices and rising political risks put EM companies and their debt between a rock and a hard place… First, private sector debt overhangs continue to grow… Thanks to capital inflows, private debt has increased by a third in all EM since 2008, doubling in Asia and tripling in emerging Europe, according to the World Bank… Second, there is also a growing dependence on foreign currency funding, making the debt load worse. While EM governments tend to owe a slightly above-average portion of their debt in hard currency, the difference between today and the 1990s is that EM companies have tapped into dollar and euro markets too. Bond issuance by international companies in dollars grew 300% since the crisis to $2.5tn… International loans have doubled since the 2000s in all major EM countries and increased by over six times in China, according to the Bank for International Settlements. Emerging market companies now find themselves heavily reliant on external debt.”

Russia and Ukraine Watch:

April 22 - Bloomberg (Henry Meyer, Darnya Krasnolutska and Volodymyr Verbyany): “Russia said it wants a ‘neutral’ and unified Ukraine as it accused the North Atlantic Treaty Organization of seeking to turn its neighbor into a hostile state. The U.S. wields enormous influence over Ukraine, while Russia wants the people of its ‘near neighbor’ to have a good life, Russian Foreign Minister Sergei Lavrov said… ‘It's in our interests not to divide Ukraine, it's in our interests to keep it neutral in military terms,’ Lavrov said. ‘We want Ukraine to be peaceful and quiet. To achieve that, it's necessary to keep Ukraine unified and not allow it to be torn into pieces.’”

April 19 – Bloomberg (Marton Eder and Natasha Doff): “With less than $10 billion of reserves to repay $32 billion of foreign-currency bonds, Ukraine is running out of time to reach a deal with creditors. Finance Minister Natalie Jaresko last week rejected a bondholder proposal to extend the maturities of its debt because it wouldn’t ease the over all burden enough without a reduction in principal, known as a haircut. The nation must repay $7.5 billion in government and corporate Eurobonds due this year and $5.3 billion in 2016… ‘The creditors are trying to achieve a reprofiling without a haircut,’ Michael Ganske, who helps manage $6 billion as the head of emerging markets at Rogge Global Partners Plc in London, said… ‘Frankly speaking, I can’t see how that will work because debt-sustainability is not established with that.’ Ukraine needs to reach a deal with bondholders by the end of May to qualify for the next part of its $40 billion bailout package, led by the International Monetary Fund.”

Japan Watch:

April 21 – Bloomberg (Chikako Mogi and Shigeki Nozawa): “Japanese government debt twice the size of the economy will make exiting stimulus a nightmare for central bank Governor Haruhiko Kuroda, according to the nation’s former top currency official. Makoto Utsumi, who oversaw foreign-exchange policy at the Ministry of Finance from 1989-1991, said the Bank of Japan’s expansion of its balance sheet into debt with an average remaining maturity of up to 10 years makes it impossible for Kuroda to pare stimulus ‘for the foreseeable future’ without causing bond yields to surge. Speculation that the BOJ will accelerate its note purchases helped push two-year yields below zero percent on Wednesday… ‘The thought of exit itself is a nightmare for Japan, not whether it’s premature to talk about it,’ Utsumi, 80, said… ‘There is no choice but to keep issuing bonds for financing, and with buying of longer dated JGBs, a natural exit is out of question as is unwinding.’”

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