Saturday, May 7, 2016

Weekly Commentary: Inflection Point for EM

Don’t let a relatively tame week in the S&P 500 engender complacency. Perhaps it was not obvious, yet the trading week provided important confirmation for the incipient “Risk Off” dynamic thesis. Indeed, the global bear seemed to roar back to life. Stocks were lower, financial stocks were under heavy selling pressure, and some commodities reversed sharply lower, while safe haven bonds were in high demand. It’s worth noting that financial stocks lagged during the recent global risk market rally and now lead on the downside.

Japan’s Nikkei equities index dropped 3.4% this week, boosting its two-week drop to 8.3% (down 15.4% y-t-d). The Nikkei closed the week at 16,107. Keep in mind that the Nikkei traded at about 20,000 this past December (and about 39,000 in December 1989), and is now only about 1,000 points off February lows. Japanese financial shares trade even worse than the major indices. Japan’s Topix Bank Stock Index sank 4.6%, with a two-week decline of 12.8% (down 32.5% y-t-d). The Topix Bank Stock index traded at 250 last summer and closed Friday at 140.

Chinese stocks (Shanghai Comp) declined another 0.9%, increasing 2016 losses to 17.7%. Hong Kong’s Hang Seng Financial Index fell 5.0%, with a two-week decline of 7.6%. The Singapore Straits Times equities index lost 7.1% over two weeks, with financial share weakness behind 10 straight losing sessions.

European bank stocks (STOXX) dropped 5.0% this week, increasing y-t-d losses to 22.2%. Italian banks were hammered 9.0%, boosting two-week declines to 10.8%. Italian bank stocks have lost 35% of their value already in 2016.

The ongoing bear market in Europe equities gained momentum this week, an especially notable development considering the extraordinary efforts of “whatever it takes” monetary stimulus. Germany’s DAX declined 1.7%, increasing y-t-d losses to 8.1%. Notably, Deutsche Bank sank 11.6% this week, increasing y-t-d losses to 30%. Major equities indices dropped 2.9% in France, 4.1% in Italy and 3.6% in Spain. European debt markets this week saw a notable widening of periphery sovereign spreads. Portuguese 10-year spreads widened 29 bps versus German bunds, Spanish spreads widened 13 bps and Italian spreads gained 14 bps.

U.S. stocks performed relatively well, or at least the major indices. The S&P 500 slipped only 0.4%, although the broader market was notably weaker. The small cap Russell 2000 dropped 1.4%. Technology stocks remained under the pressure of a deflating tech Bubble, with the Morgan Stanley High Tech (MSH) index dropping 1.7% (down 5.8%). The biotechs (BTK) were hammered 5.1%, increasing 2016 losses to 23.2%.

Bearish action continued to envelope the financial sector. The Banks (BKX) dropped 3.2%, boosting 2016 losses to 8.4%. The broker/dealers (XBD) sank 3.5%, increasing two-week losses to 8.8% (down 12.2%). Leading on the downside, Citigroup dropped a notable 4.6% this week (down 14.3%), with Bank of America down 3.4% (16.3%), JPMorgan 2.9% (6.8%), and Goldman Sachs 3.3% (11.9%). Consistent with the global trend, U.S. financials lagged during the rally and have now reversed sharply lower.

As I have written repeatedly, I believe the global Bubble has been pierced. My view is that the world is in the initial stages of what will be a protracted bear market (at best), interrupted sporadically by policy-induced short squeezes, bouts of speculative excess and insuppressible bullishness.

May 6 – Bloomberg (Andrea Wong and Oliver Renick): “Worries about the outlook for the U.S., Europe and China, as well as mixed policy signals from central bankers around the world, have all contributed to what UBS Group AG Chief Executive Officer Sergio Ermotti called a ‘paralyzing volatility’ that’s scaring away clients and caused industry-wide trading revenue to tumble to the lowest since 2009.”

The global Bubble succumbed first at the periphery, notably with last year’s pronounced weakness in EM currencies, equities and debt markets. And it was EM – “at the margin” of global finance - that cashed in over recent months from extreme monetary policy measures. Chinese adoption of “whatever it takes” - a stable currency peg and a Trillion ($US) of Q1 Credit growth in concert with global QE and negative rates - spurred a major reversal of bearish EM bets along with newfound optimism. Amazingly, “money” was again flowing into EM. Was…

From Bloomberg (Camila Russo and Manisha Jha): “Worldwide stock ETFs lost $12.6 billion in the four days through May 5, wiping out more than six weeks of inflows, as the MSCI All-Country World Index capped its worst week in three months.”

I believe this week marked a key Inflection Point for EM, with major ramifications for global markets and economies. With global “risk on” rapidly transitioning to “Risk Off,” developing markets – currencies, stocks and bonds – this week suffered the brunt of newfound risk aversion. The MSCI Emerging Market ETF (EEM) sank 4.7% this week.

A Bloomberg headline: “Emerging Markets Head for Worst Week Since January…” Political turmoil saw Turkish stocks (previously a big “risk on” beneficiary) hammered 8.2%. Wednesday trading saw the Turkish lira sink 3.9% versus the dollar, “the most since 2008.”

The Mexican peso fell a brutal 4.0% this week to the low since early March. Those levered in higher-yielding Mexican (or other EM) debt suffered a rough week. Tuesday trading saw the peso sink 2.5%, “its biggest drop since November 2011.” Brazil’s real dropped 1.9%, the “worst week since November.” Brazilian stocks sank 4.1%.  The Colombian peso fell 3.8%.

It was a global phenomenon. The South African rand sank 4.6%, as debt worries return. The Russian ruble declined 2.2%, the “worst week since February.” Russian stocks dropped 2.6%. In emerging Asia, the Korean won declined 2.7%, the Malaysian ringgit fell 2.6%, the Indonesia rupiah declined 1.3% and the Singapore dollar fell 1.3%.

May 5 – Bloomberg (Constantine Courcoulas): “Turkish bonds retreated the most among major emerging markets and credit risk climbed as investors assessed the economic cost of a political showdown that prompted the prime minister to say he’s stepping down. The yield on the five-year government note jumped 25 bps to 9.73%, the biggest daily increase since January… The cost of insuring Turkish debt against default for five years rose for a fifth day, increasing seven basis points to 267 bps…”

It’s worth a brief return to a Fitch warning from September 2014: “Most of the recent increase in Turkey's external debt has been driven by bank borrowing, Fitch Ratings says. The rapid rise in banks' foreign liabilities, particularly at the short end, leaves them more vulnerable to an extreme stress involving an abrupt and prolonged market shutdown. The increase in external debt was one of the factors leading to the downgrade of Turkey's three largest domestic privately owned banks to 'BBB-'… Turkish banks' foreign borrowings increased almost threefold, to USD164bn, between end-2008 and end-1H14, rising to 38% of the country's total external debt from 20%.”

It’s been a few months since EM debt issues garnered market attention. Typically, so long as “money” is flowing in, EM looks good. Over recent months, “money” has indeed been flowing – though EM fundamentals remained ominous. If, as I expect, outflows gain momentum the EM backdrop could turn problematic in a hurry.

Analysts took a respite from contemplating Trillions of EM external debt, much of it having accumulated since the ’08 Crisis – and too much of it denominated in dollars and other foreign currencies. Curiously, EM currencies this week under the most selling pressure were in many cases economies on the hook to Creditors for large amounts of foreign-denominated debt. It’s worth recalling that EM corporate debt is up more than three-fold since 2008 to $2.6 TN (from IIF).

EM banks absolutely ballooned in the post-crisis monetary free-for-all, with considerable borrowings in dollars and foreign currencies. Earlier in the year I believed that the markets were becoming increasingly apprehensive with global inter-bank liabilities. When EM currencies and global bank shares find themselves simultaneously under pressure, as they were this week, one has to ponder the possibility that these fears are reemerging.

Yet is wasn’t only EM that this week supported the “Risk Off” thesis. And I’m not so sure market confidence in U.S. high-yield is much deeper than that of EM debt. A bout of de-risking/de-leveraging would have major ramification across global financial markets.

May 5 – Bloomberg (Sridhar Natarajan): “The largest exchange-traded fund that buys junk bonds is flashing a potential warning sign that a three-month rally in the $1.4 trillion market is losing steam. BlackRock Inc.’s iShares iBoxx High Yield Corporate Bond ETF has seen 27.8 million shares redeemed, or about $2.6 billion, in the last four days… Short interest in the fund climbed more than 80% since mid-April…”

May 6 – Financial Times (Ben Bennett, Legal & General Investment Management): “For some, China represents a positive scenario of structural reforms returning the country to its position as the engine of world growth. Not only do we think this is unlikely, we actually believe China poses a systemic risk of historic proportions. It is now clear that China is not smoothly passing its growth baton from exports and investment to the service sector… It is hard to exaggerate the magnitude of the Chinese debt bubble. According to the Bank for International Settlements, debt to GDP has increased by around 100% since 2008, which compares with about 40% in the US leading up to the subprime meltdown, 60% in Japan prior to its collapse in 1997 and is even more than the credit booms of Greece, Portugal, Spain and Italy in the run up to the euro crisis. The only similar credit bubble in recent history was that in Thailand before the Asia crisis. And if an economy the size of China’s goes through what Thailand went through in 1997, the world will be a very ugly place indeed.”

May 6 – Reuters (Manolo Serapio Jr and Ruby Lian): “Chinese commodities prices spiraled lower on Friday, with steel futures suffering their worst week since 2009, as more money flowed out of markets whose surge two weeks ago unnerved global investors and forced regulators to step in to restore calm. Indicating how authorities may now be alarmed after a collapse in volumes and prices, the Dalian Commodity Exchange on Friday said it will cut some trading fees on contracts such as iron ore and coking coal. The commodities slide spilled over into stocks, with the Shanghai Composite Index ending down 2.8%, its worst day since February, as commodity producers fell.”

There were more Credit rumblings this week in China, along with serious cracks in the Chinese commodities Bubble. I continue to believe that the unfolding Chinese Credit crisis is the root cause of dysfunctional global financial markets. Waning confidence in Chinese finance, policymaking and economic structure will now (again) weigh on EM. The weakening dollar and attendant commodities rally had recently helped underpin the bullish EM recovery story. This week it appeared that markets began coming to grips with the reality that it’s going to take a lot more than a weaker dollar to support such highly indebted and maladjusted EM economies (and financial sectors) - as confidence in the world of finance and the global economy wane.

For the week:

The S&P500 slipped 0.4% (up 0.6% y-t-d), and the Dow dipped 0.2% (up 1.8%). The Utilities added 0.6% (up 12.5%). The Banks dropped 3.2% (down 8.4%), and the Broker/Dealers sank 3.5% (down 12.2%). The Transports were down 1.7% (up 3.1%). The S&P 400 Midcaps declined 0.6% (up 3.9%), and the small cap Russell 2000 fell 1.4% (down 1.9%). The Nasdaq100 slipped 0.3% (down 5.7%), and the Morgan Stanley High Tech index dropped 1.7% (down 5.8%). The Semiconductors fell 1.2% (down 3.9%). The Biotechs sank 5.1% (down 23.2%). With bullion slipping $5, the HUI gold index declined 3.1% (up 103.4%).

Three-month Treasury bill rates ended the week at 19 bps. Two-year government yields declined five bps to 0.73% (down 32bps y-t-d). Five-year T-note yields fell six bps to 1.23% (down 52bps). Ten-year Treasury yields dropped five bps to 1.78% (down 47bps). Long bond yields declined five bps to 2.62% (down 40bps).

Greek 10-year yields declined nine bps to 8.16% (up 84bps y-t-d). Ten-year Portuguese yields jumped 16 bps to 3.29% (up 77bps). Italian 10-year yields added a basis point to 1.49% (down 10bps). Spain's 10-year yields were unchanged at 1.59% (down 18bps). German bund yields sank 13 bps to 0.14% (down 48bps). French yields fell 11 bps to 0.52% (down 47bps). The French to German 10-year bond spread widened two to 38 bps. U.K. 10-year gilt yields dropped 17 bps to 1.42% (down 54bps).

Japan's Nikkei volatile equities index sank 3.4% (down 15.4% y-t-d). Japanese 10-year "JGB" yields fell four bps to negative 0.13% (down 39bps y-t-d). The German DAX equities index declined 1.7% (down 8.1%). Spain's IBEX 35 equities index fell 3.6% (down 8.8%). Italy's FTSE MIB index sank 4.1% (down 16.7%). EM equities equities were under pressure. Brazil's Bovespa index fell 4.1% (up 19.3%). Mexico's Bolsa declined 1.3% (up 5.2%). South Korea's Kospi index declined 0.9% (up 0.8%). India’s Sensex equities index dropped 1.5% (down 3.4%). China’s Shanghai Exchange fell another 0.9% (down 17.7%). Turkey's Borsa Istanbul National 100 index was clobbered 8.2% (up 9.3%). Russia's MICEX equities index fell 2.6% (up 8.0%).

Junk funds saw a sharp reversal of flows, with outflows surging to $1.807 billion (from Lipper) after nine consecutive weeks of inflows.

Freddie Mac 30-year fixed mortgage rates dropped five bps to 3.61% (down 19bps y-o-y). Fifteen-year rates fell three bps to 2.86% (down 16bps). Bankrate's survey of jumbo mortgage borrowing costs had 30-yr fixed rates unchanged at 3.76% (down 32bps).

Federal Reserve Credit last week declined $7.7bn to $4.437 TN. Over the past year, Fed Credit increased $4.1bn. Fed Credit inflated $1.626 TN, or 58%, over the past 182 weeks. Elsewhere, Fed holdings for foreign owners of Treasury, Agency Debt last week sank $10.3bn to a one-year low $3.228 TN. "Custody holdings" were down $84.70bn y-o-y, or 2.6%.

M2 (narrow) "money" supply last week surged $62.8bn to a record $12.687 TN. "Narrow money" expanded $824bn, or 6.9%, over the past year. For the week, Currency increased $3.7bn. Total Checkable Deposits jumped $38.7bn, and Savings Deposits gained $19.5bn. Small Time Deposits were little changed. Retail Money Funds added $0.7bn.

Total money market fund assets increased $2.0bn to $2.711 TN. Money Funds rose $120bn y-o-y (4.6%).

Total Commercial Paper expanded $10.8bn to $1.120 TN. CP expanded $104bn y-o-y, or 10.2%.

Currency Watch:

The U.S. dollar index recovered 0.8% this week to 93.81 (down 4.9% y-t-d). For the week on the downside, the South African rand declined 4.6%, the Mexican peso 4.0%, the Australian dollar 3.1%, the Canadian dollar 2.8%, the New Zealand dollar 2.1%, the Brazilian real 1.9%, the Norwegian krone 1.9%, the Swedish krona 1.3%, the Swiss franc 1.3%, the British pound 1.3%, the Japanese yen 0.6% and the euro 0.4%. The Chinese yuan declined 0.3% versus the dollar.

Commodities Watch:

The Goldman Sachs Commodities Index fell 2.7% (up 12.5% y-t-d). Spot Gold slipped 0.4% to $1,289 (up 21.5%). Silver dropped 2.0% to $17.53 (up 27%). WTI Crude declined $1.37 to $44.64 (up 21%). Gasoline dropped 5.3% (up 18%), and Natural Gas declined 1.9% (down 10%). Copper was hit 5.5% (up 1%). Wheat sank 5.1% (down 1%). Corn fell 3.6% (up 5%).

Fixed-Income Bubble Watch:

May 2 – New York Times (Mary Williams Walsh): “Puerto Rico’s default on most of a $422 million debt payment on Monday puts the spotlight back on Washington to enact a rescue package for the island, and congressional aides said a revised bill would be introduced next week. On Monday, Treasury Secretary Jacob J. Lew renewed his call on Congress to act swiftly, warning in a letter to House Speaker Paul Ryan that without a legal framework for a debt restructuring, Puerto Rico is in danger of getting caught in ‘a series of cascading defaults’ that could lead to a taxpayer bailout.”

May 4 – Reuters (Ernest Scheyder and Terry Wade): “The rout in crude prices is snowballing into one of the biggest avalanches in the history of corporate America, with 59 oil and gas companies now bankrupt after this week's filings for creditor protection by Midstates Petroleum MPOY.PK and Ultra Petroleum UPL.NL. The number of U.S. energy bankruptcies is closing in on the staggering 68 filings seen during the depths of the telecom bust of 2002 and 2003… Between 1998 and 2002, about $177.1 billion in new bonds were sold in the U.S. telecommunications sector; less than 10% were junk bonds. U.S. oil and gas companies sold about $350.7 billion in debt between 2010 and 2014, the peak years of the oil-and-gas boom, with junk bonds making up more than 50% of all issuance, according to Thomson Reuters data.”

Global Bubble Watch:

May 4 – Reuters (Richard Leong): “The sum of government bonds worldwide that carry negative yields was $9.9 trillion in late April, with Japan accounting for two-thirds of the total and the rest in Europe, Fitch Ratings said… Of that total on April 25, $6.8 trillion were in long-term bonds and $3.1 trillion short-dated maturities. Negative yielding government debt was almost non-existent before central banks adopted extraordinary policies such as massive bond purchases in the wake of the 2008-2009 global financial crisis.”

May 3 – New York Times (Stanley Reed and Keith Bradsher): “With thunderous roars and flashes of blue light, an electric arc furnace at a steel mill in this industrial city melts 170 tons of scrap metal at a time, which is made into reinforcing bars for construction projects across Britain. The furnace, decked out with all the latest gear, helps keep costs down by relying on local scrap instead of imported materials. It was part of a broad $500 million investment plan to make the steel mill competitive and profitable. But China has stymied the strategy. The steel mill… just cannot compete with Chinese rivals, which offered products at 20% below prevailing rates in Britain… ‘It’s nice to have free trade, but it has to be fair,’ said Luis Sanz, the managing director for British operations at Celsa. The steel industry sits at the crux of a major debate playing out across the world economy, one that could soon be intensified by a looming change in the global trade rules.”

U.S. Bubble Watch:

May 4 – CNBC (Tae Kim): “Legendary billionaire investor Stanley Druckenmiller told Sohn Investment Conference attendees to sell their equity holdings… ‘The conference wants a specific recommendation from me. I guess ‘Get out of the stock market’ isn't clear enough,’ said Druckenmiller… Gold ‘remains our largest currency allocation.’ The billionaire investor expressed skepticism about the current investment environment due to Federal Reserve's easy monetary policy and a slowing Chinese economy. ‘The Fed has borrowed from future consumption more than ever before. It is the least data dependent Fed in history. This is the longest deviation from historical norms in terms of Fed dovishness than I have ever seen in my career,’ Druckenmiller said. ‘This kind of myopia causes reckless behavior.’”

May 2 – Wall Street Journal (Christopher Mims): “When the dot-com bubble burst in early 2000, the fallout for publicly traded stocks was quick and severe. The Nasdaq Composite Index fell 37% in the 10 weeks following its peak on March 10, 2000. For startups, the immediate impact was less dramatic. In the second quarter of 2000, venture capitalists invested $25 billion in startups, down only 5% from the first-quarter peak. ‘There was a lot of suspended disbelief between March and June,’ says Keith Rabois, then a vice president at PayPal Inc. and now a partner at Khosla Ventures. Mr. Rabois and others think we’re now in a similar period of suspension of disbelief. Startup investment has cooled. Valuations are falling. But Mr. Rabois says many investors and entrepreneurs haven’t yet grasped the new reality. ‘If that suspended disbelief ends, all hell breaks loose,’ he says.”

May 2 – Bloomberg (Oliver Renick): “Here’s what happened during the rebound in equities that added nearly $3 trillion to U.S. share values in 10 weeks: mutual funds hoarded cash, short sellers tightened their grip on bearish bets and individuals bailed out of the market. The divergence between sentiment and prices has been so wide that 2016 is shaping up as the ‘Year of the Wrong-Way Trade,’ beginning with hedge funds that lost the most money in four years betting on momentum stocks. As the S&P 500 soared 15% since Feb. 11, investors have all but stopped trading: volume is down 20% since the index bottomed.”

May 5 – CNBC (Tom DiChristopher and John W. Schoen): “Weak oil prices have slammed the great centers of American energy in many different ways and from a variety of angles. In the case of Louisiana, the rout kicked the state while it was already down. The crude price rout arrived in 2014 as Louisiana was already using a patchwork of one-time measures to grapple with budgetary shortfalls… Now, job cuts in oil fields and the fabrication plants that support drilling activities have worsened a drag on sales and income tax receipts… Facing a nearly $950 million budget gap for the current fiscal year, Louisiana lawmakers were forced to raise or reinstate sales taxes, rein in exemptions and make cuts to health-care services…”

May 5 – Financial Times (Eric Platt and Joe Rennison): “US equity funds suffered their largest redemptions since the start of the year as investors sought the safety of cash, government debt and gold as sentiment continued to sour during the first week of May. Global equity markets have eased to their lowest level in three weeks, with the FTSE All World index having declined more than 3% since April 19… Portfolios invested in US equities recorded $11.2bn of outflows in the week to May 4, accelerating redemptions from the asset class since January to more than $60bn, according to Lipper.”

China Bubble Watch:

May 4 – Wall Street Journal (Jasper Moiseiwitsch and Carol Chan): “As signs of stress emerge in China’s huge corporate bond market, investors are getting a new message: Beijing may not be as ready as they thought to bail out troubled companies. Chinese companies have issued billions of dollars in new bonds in recent years, seeking to become less reliant on borrowing from banks. Issuance ramped up in earnest around 2010, making China’s $900 billion corporate bond market one of the world’s largest. But as Chinese growth slows and corporate profits decline, many are finding it hard to service their debt. Already, there have been 22 bond defaults in China’s domestic market this year, as many as in all of 2015.”

May 6 – Bloomberg (Paul Panckhurst): “Chinese banks’ bad loans are at least nine times bigger than official numbers indicate, an ‘epidemic’ that points to potential losses of more than $1 trillion, according to an assessment by brokerage CLSA Ltd. Nonperforming loans stood at 15% to 19% of outstanding credit last year, Francis Cheung, the firm’s head of China and Hong Kong strategy, said… That compares with the official 1.67%. Potential losses could range from 6.9 trillion yuan ($1.1 trillion) to 9.1 trillion yuan... The estimates are based on public data on listed companies’ debt-servicing abilities and make assumptions about potential recovery rates for bad loans.”

May 4 – Financial Times (James Kynge): “China’s sugar highs do not last as long as they used to. The saccharine stimulus of 2009-10, which relied on heaped spoonfuls of debt-fuelled investment, kept the economy fizzing at least until the end of 2011. But the impact of far larger credit infusions this year is much more feeble. An economic equivalent of insulin resistance appears to be setting in. So large is the credit injection that much of it cannot be productively absorbed. This has led to liquidity spillovers that have spurred a speculative frenzy on commodity exchanges. A tide of money has flowed into China’s commodity exchanges, bidding up iron ore and steel prices this year by about 50%. So fevered did trading become that in April one steel futures contract alone recorded a turnover of 1.4bn tonnes. But in the last few days, prices and volumes have slumped.’ …Chronic overcapacity in the traditional industries of steel, coal, aluminium and cement has depressed earnings and profits, exacerbating debt strains. The International Monetary Fund estimates that $1.3tn in corporate debt — or almost one in six of the business loans on Chinese banks’ books — was owed by companies that brought in less in revenues than they owned in interest payments.”

May 2 – Reuters (Ben Blanchard): “A surge of new loans granted in China over the first quarter does not mean the country is about to embark upon another massive economic stimulus program, the official Xinhua news agency said in a commentary… China last month posted its slowest economic growth since 2009 but a surge of new debt appears to be fuelling a recovery in factory activity, investment and household spending… Chinese banks extended 1,370 billion yuan ($211.23bn) in net new yuan loans in March, exceeding analyst expectations and the previous month's lending of 726.6 billion yuan. But the sudden rise prompted concerns that Beijing is falling back on methods it used to get out of the global financial crisis: massive spending… that produced low or no returns but saddled Chinese banks with non-performing loans. Local government financing vehicles (LGFVs), which Chinese cities use to circumvent official spending limits, raised at least 538 billion yuan in bonds in the first quarter, up 178% from a year earlier and the highest quarterly issuance since June 2014…”

May 4 – Bloomberg: “Chinese debt investors are turning bearish at just the wrong time for the nation’s corporate borrowers, which face a record 3.7 trillion yuan ($571bn) of local bond maturities through year-end. With this year’s biggest note payments concentrated in some of the country’s most-cash strapped industries, China needs buoyant markets to help its companies refinance. Instead, yields in April rose at the fastest pace in more than a year and issuance tumbled 43% as borrowers canceled 143 billion yuan of planned debt sales.”

May 3 – Bloomberg: “The wild ride in China’s commodity futures is making the nation’s $5.9 trillion stock market look docile… Compared with the stock market, even eggs have been a better investment in China in 2016, with futures climbing 27%. That’s as the cost of a dozen eggs in the U.S. slumped 24% in the first quarter. The epicenter of the commodities boom, however, has been steel reinforcement bars, which have surged 38%. The dizzying increase in speculative activity prompted the head of the world’s largest metals exchange to say that some traders probably don’t even know what they are buying or selling. The Shanghai Composite Index is down 15% this year… The equivalent of 41 million bales of cotton traded in a single day on the Zhengzhou Commodity Exchange last month, the most in more than five years and enough to make almost 9 billion pairs of jeans, or at least one for every person on the planet.”

May 5 – Bloomberg: “A Chinese fertilizer maker said it will default on bonds…, becoming at least the eighth company to renege on debt obligations in the nation this year as debt woes spread amid a weakening economy. Inner Mongolia Nailun Group Inc. on Wednesday said that it wouldn’t be able to meet demands of investors exercising an option for the early repayment of notes on Thursday…”

May 3 – Wall Street Journal (Lingling Wei): “Chinese authorities are training their sights on a new set of targets: economists, analysts and business reporters with gloomy views on the country’s economy. Securities regulators, media censors and other government officials have issued verbal warnings to commentators whose public remarks on the economy are out of step with the government’s upbeat statements… The stepped-up censorship… represents an effort by China’s leadership to quell growing concerns about the country’s economic prospects as it experiences a prolonged slowdown in growth. As more citizens try to take money out of the country, officials say, regulators and censors are trying to foster an environment of what party officials have dubbed ‘zhengnengliang,’ or ‘positive energy.’”

Central Bank Watch:

May 6 – Bloomberg (Michael Heath): “Australia’s central bank cut its benchmark interest rate to a record low and left the door open for further easing to counter a wave of disinflation that’s swept over the developed world. The move sent the local currency tumbling and stocks climbing. Reserve Bank of Australia Governor Glenn Stevens and his board lowered the cash rate by 25 bps to 1.75% Tuesday…”

Japan Watch:

May 6 – Reuters (Stanley White): “Japan's services sector activity contracted in April at the fastest pace in two years in a sign that the economy may be losing some momentum… The Markit/Nikkei Japan Services Purchasing Managers Index (PMI) fell to 48.9 in April from 49.9 in March…”

Leveraged Speculation Watch:

May 6 – Bloomberg (Charles Stein): “Drug stocks are causing plenty of pain for John Paulson. The billionaire hedge fund manager’s five largest holdings -- all of them drug stocks -- have lost more than a combined $2.3 billion in value this year… They represented more than 40% of his $16.7 billion portfolio as of Dec. 31… The stocks -- Allergan Plc, Shire Plc, Valeant Pharmaceuticals International Inc., Teva Pharmaceutical Industries Ltd, and Mylan NV -- have slid from 15% to 69% this year.”

May 6 – Bloomberg (Nishant Kumar): “Brevan Howard Asset Management LLP’s flagship hedge fund fell in April, deepening losses for this year… The Brevan Howard Master Fund is down 1.8% for the year after dropping about 0.9% last month… The Brevan Howard hedge fund, which focuses on macro-economic trends to bet on bonds, currencies, equities and commodities, saw its assets slide to $17.6 billion at the end of March from about $27 billion two years ago…”

EM Bubble Watch:

May 4 – Bloomberg (Natasha Doff): “Emerging markets from the Gulf to Russia are under threat of sovereign ratings downgrades as public companies struggle to meet rising debt loads, S&P Global Ratings warned. Governments that need to bail out state-owned businesses could face economic weakness, an erosion of revenues and pressure on external accounts, the rating firm said… Their debt burdens, or contingent liabilities, pose ‘new potential risks’ to sovereign ratings, S&P said… Emerging-market companies face $180 billion in redemptions on dollar bonds before 2020 after loading up on debt amid historically low borrowing costs in the past decade.”

May 5 – Washington Post (Erin Cunningham): “Turkey’s prime minister resigned Thursday after a public rift with President Recep Tayyip Erdogan, throwing the country’s politics into turmoil and paving the way for Erdogan to consolidate power at a time of domestic and regional crises. In an otherwise defiant speech, Prime Minister Ahmet Davutoglu said he would bow out of upcoming elections for leader of the ruling Justice and Development Party (AKP). The decision meant he would also step down as premier.”

May 4 – Reuters (Asli Kandemir): “After years of growth fueled by credit and domestic consumption, bad debts and bankruptcies are rising in Turkey, squeezing banks and exposing a fragile real economy which risks denting support for the ruling AK Party. In its first decade in power, the AKP, founded by President Tayyip Erdogan, built its reputation on growing Turkey's wealth, overseeing a sharp rise in incomes and providing new roads, hospitals and airports in what was long an economic backwater. But as he seeks support for an executive presidency to replace Turkey's parliamentary system, a decision that could be put to a national vote later this year, Erdogan may no longer be able to count on Turkey's rising prosperity to win him votes.”

May 4 – Bloomberg (Tugce Ozsoy Constantine Courcoulas): “Turkish President Recep Tayyip Erdogan gave investors a taste of just how quickly local politics can undo their investment strategies. In three days this week, the lira wiped out almost all of the gains achieved in the past two months as markets reacted to a deepening rift between Erdogan and Prime Minister Ahmet Davutoglu that’s set to end with the premier leaving his job later this month. Government bonds plunged and the nation’s main stock index has suffered the worst losses worldwide.”

May 3 – Bloomberg (Nathan Crooks): “Venezuelan bonds tumbled Tuesday after IPD Latin America said the country’s oil production fell more than investors had expected. The yield on the country’s benchmark dollar bond due in 2027 rose 48 bps…, the biggest increase on a closing basis in a month, to 25.1%.”

Brazil Watch:

May 4 – Reuters (Anthony Boadle and Maria Carolina Marcello): “Brazilian President Dilma Rousseff's chances of remaining in office plummeted on Wednesday after a key senator recommended the leftist leader face an impeachment trial and a top prosecutor said she should be included in a vast corruption investigation. Rousseff, whose popularity has fallen in the last year due in large part to a deepening economic recession, is expected to become the first Brazilian president to fail to complete a presidential term in more than 20 years.”

May 5 – Reuters (Alonso Soto and Aluisio Alves): “Fitch Ratings downgraded Brazil's sovereign debt further into junk territory on Thursday, citing a deeper-than-expected economic contraction and changing fiscal targets that have undermined credibility. Fitch downgraded Brazil to BB from BB+ with a negative outlook a week before a Senate vote that is expected to lead to the ouster of unpopular leftist President Dilma Rousseff.”

Geopolitical Watch:

April 30 – Reuters (Megha Rajagopalan): “The fishing fleet based in this tiny port town on Hainan island is getting everything from military training and subsidies to even fuel and ice as China creates an increasingly sophisticated fishing militia to sail into the disputed South China Sea. The training and support includes exercises at sea and requests to fishermen to gather information on foreign vessels… ‘The maritime militia is expanding because of the country's need for it, and because of the desire of the fishermen to engage in national service, protecting our country's interests,’ said an advisor…”