Credit Bubble Bulletin : January 2018

The U.S. ran a $71.6 billion Goods Trade Deficit in December, the largest goods deficit since July 2008’s $76.88 billion. The U.S. likely accumulated a near $550 billion Current Account Deficit in 2017, also near the biggest since before the crisis. Going all the way back to 1982, the U.S. has posted only two quarterly surpluses (Q1, Q2 1991) in the Current Account. Since 1990, the U.S has run cumulative Current Account Deficits of $10.177 TN. From the Fed’s Z.1 report, Rest of World holdings of U.S. financial asset began the nineties at $1.738 TN; closed out 2008 at $13.699 TN; and ended Q3 2017 at $26.347 TN. It’s gone rather parabolic – with a curiously similar trajectory to equities markets.

For better than three decades, the U.S. has been in an enviable position of trading new financial claims for foreign manufactured goods. The U.S. has literally flooded the world with dollar balances. In the process, the U.S. exported Credit Bubble Dynamics (including financial innovation and central bank doctrine) to the world. When the central bank to the world’s reserve currency actively inflates, the entire world is welcome to inflate. The resulting global monetary disorder ensured a world of fundamentally vulnerable currencies.

Despite unrelenting Current Account Deficits, there have been two distinct “king dollar” episodes. There was the “king dollar” period of the late-nineties, fueled by global financial instability, a U.S. edge in technology and, importantly, the Greenspan Fed’s competitive advantage in sustaining U.S. securities market inflation. More recently, a resurgent “king dollar” was winning by default in 2013-2016, as the ECB, BOJ and others implemented massive “whatever it takes” QE and rate programs. Moreover, the shale revolution and a dramatic reduction in oil imports was to improve the U.S. trade position. Oil imports did shrink dramatically, but this was easily offset by American consumers’ insatiable appetite for imported goods.

It’s an intriguing case of parallel analytical universes. There’s the bullish – U.S. as the world’s invincible superpower – view. America is blessed with superior systems – economic, governmental, market and technological. The world’s best and brightest still yearn to come to the land of opportunity. And with a few notable exceptions, this view has received almost constant affirmation from booming equities, debt securities and other asset markets. Robust bond markets, in particular, ensured insatiable international demand for dollars. Surely, concern for U.S. Trade and Current Account Deficits is archaic, at best.

The opposing view holds that the U.S. financial situation is unsound and untenable. A deindustrialized “services” and finance-based economy is dependent upon unending Credit expansion, with the vast majority of new Credit non-productive in nature. The U.S. boom is again financed by unsound leveraging, this time generated chiefly by global central banks and foreign-sourced speculative finance. The perpetual outflow of U.S. currency balances internationally ensures at some point a crisis of confidence in the dollar. What’s more, extreme monetary inflation by the other major central banks since 2012 only increases the likelihood of a more systemic crisis of confidence throughout global finance and currency markets. The resulting unprecedented looseness in global monetary conditions over recent years has promoted a degree and scope of excess sufficient for a deep and prolonged global crisis.

It’s been my long-hold expectation that the world at some point would discipline U.S. profligacy. The world instead followed in our footsteps. Global central banks accommodated unfettered finance, adopted inflationism and, without protest, recycled trade surpluses right back into U.S. financial markets.

There was Greenspan’s “conundrum” and Bernanke’s “global savings glut.” The reality is that U.S. trade deficits have been at the heart of a runaway expansion of market-based finance around the world. This dysfunctional and precarious financial backdrop was interrupted temporarily in 2008. Zero/negative rates along with $14 TN (and counting) of central bank liquidity fueled a much more systemic Bubble of unprecedented dimensions. Importantly, central bankers came together to support a common goal: reflation of markets and economies. Concerted policymaking – from Washington to Ottawa, London, Frankfurt, Zurich, Tokyo, Sydney, Beijing and beyond – has been fundamental to the synchronized global surge in risk-taking, over-liquefied market Bubbles and economic recovery.

January 24 – New York Times (Jack Ewing): “Mario Draghi… directed unusually sharp criticism at Steven Mnuchin, the United States Treasury secretary…, effectively accusing Mr. Mnuchin of violating agreements among nations against starting currency wars. Mr. Draghi… said he objected to ‘the use of language in discussing exchange rate developments that doesn’t reflect the terms of reference that have been agreed.’ He then quoted from an agreement reached in Washington in October under which countries promised to ‘refrain from competitive devaluations.’ …Mr. Draghi portrayed Mr. Mnuchin’s comments as part of a broader deterioration in international etiquette. At a meeting of the central bank’s Governing Council that preceded the news conference, Mr. Draghi said, ‘Several members expressed concern and this concern was broader than simply the exchange rate. It was about the overall status of international relations right now.’”

January 25 – Reuters (Doina Chiacu): “U.S. President Donald Trump said on Thursday he ultimately wants the dollar to be strong, contradicting comments made by Treasury Secretary Steven Mnuchin one day earlier. ‘The dollar is going to get stronger and stronger and ultimately I want to see a strong dollar,’ Trump said…, adding that Mnuchin’s comments had been misinterpreted.”

January 25 – CNBC (Sam Meredith): “Treasury Secretary Steven Mnuchin said Thursday he spends little time thinking about dollar weakness over the short term, walking back his comments that sent the U.S. currency reeling amid fears of a trade war. Speaking during a CNBC-moderated panel at the World Economic Forum in Davos, Mnuchin said dollar weakness in the short term was ‘not a concern of mine,’ before adding: ‘In the longer term, we fundamentally believe in the strength of the dollar.’”

After the dramatic cut in corporate tax rates and myriad measures seen as benefiting the wealthy, some argue that Trump populism is a ruse. But now we see a 2018 push on tariffs, aggressive trade negotiation, U.S. capital investment and higher wages meant to rebuild our manufacturing base to the benefit of the American worker. Rather than the rich continuing to build wealth at the expense of the lowly worker, they can now grow wealth together. Is such a radical change even possible? Where are the losers?

January 24 – CNBC (Matt Clinch): “Treasury Secretary Steven Mnuchin said the U.S. is open for business and welcomed a weaker dollar, saying that it would benefit the country. Speaking at a press conference at the World Economic Forum…, he made a bid for investment into the U.S., saying the government was committed to growth of 3% or higher. ‘Obviously a weaker dollar is good for us as it relates to trade and opportunities,’ Mnuchin told reporters…, adding that the currency's short term value is ‘not a concern of ours at all.’ ‘Longer term, the strength of the dollar is a reflection of the strength of the U.S. economy and the fact that it is and will continue to be the primary currency in terms of the reserve currency,’ he said.”

Surprisingly candid comments from our Treasury Secretary. And as much as he, the President and other administration officials work to “walk back” Wednesday’s comment, “obviously a weaker dollar is good for us” confirms what many had suspected: “America First” has a “beggar-thy-neighbor” currency devaluation component. A revitalized U.S. manufacturing sector will come at the expense of our trade partners and the holders of our debt.

I’ve posited in past CBBs that it would have been easier to implement the Trump agenda in a crisis backdrop. This requires revision: it would have been less risky to implement… Huge tax cuts at this late stage in the Bubble come with unexpected consequences, including those associated with stoking acutely speculative risk markets. There are major risks in feeding an investment boom now, following years of extraordinarily loose financial conditions and today’s 4.1% unemployment rate. It’s reckless running huge fiscal deficits at this late stage of a boom cycle – with federal debt having already inflated from $6.074 TN to $16.463 TN in less than ten years. And, this week, openly lauding the benefits of a weaker dollar with foreign holdings of U.S. debt securities at $11.370 TN (up 57% since the crisis!).

Mario Draghi’s rebuke was as swift as it was stern. The ECB’s Maestro well-appreciates that Mnuchin and the Trump folks are playing with fire. Global central bankers in concert have cultivated the perception that everything is well under control. No need to fret market liquidity, at least not in equities and bond markets. Currencies, well, that’s a whole different animal.

There are few matters that keep central bankers awake at night like the prospect of dislocation in the currency markets. These are massive markets, generally well-behaved but not easily controlled when they’re not. Disorderly selling of the dollar – with all the leveraged currency trades and unfathomable derivative exposures that have accumulated for decades and mushroomed since the crisis - now that’s lush habitat for the proverbial black swan.

The Dow gained another 545 points this week, bring 2018 gains (17 sessions) to 1,897 points. The S&P500 jumped 2.2%, as the dollar index declined 1.7%. Clearly, U.S. and global risk markets are fine with dollar devaluation. Heck, they’re delighted with the notion of concerted global currency devaluation. The sickly dollar will only pressure the ECB, BOJ and others to stay looser for even longer. What country these days feels comfortable with a strong currency? What could go wrong?

Does dollar weakness and attendant securities market froth pressure the Fed to pick up the pace of rate increases? Heaven forbid, might they come to the realization that they need to actually tighten monetary conditions. Beyond stock market Bubbles, the weakening dollar bolsters the case for an uptick in inflationary pressures. WTI crude is up a quick 9.5% y-t-d to $66.14. The GSCI commodities index has gained 4.7% in the first four weeks of the year. Heightened dollar vulnerability might also engender a consensus view within the global central bank community supportive of tighter U.S. monetary policy.

“Beggar-thy-neighbor” – not desperate depression-era measures, but amid economic/financial boom and record stock prices. Uncharted territory. Trapped in concerted reflationary monetary policymaking, global central bankers may be tempted to disregard ramifications of “America First.” This will unlikely be the case with foreign governments. And when do anxious governments begin to pressure their central banks against accommodating Team Trump ambitions? Beijing has already reminded the world of their prerogative to liquidate China’s Treasury hoard. Global markets remain confident that central banks have no option other than recycling dollars back into U.S. securities markets. Perhaps this is too complacent.

Crisis-period QE and zero rates evolved over years into “whatever it takes” open-ended QE, negative rates and egregious market manipulation. Global central bankers took control – and today have things fully under control. This market perception has been instrumental in the historic collapse in market volatility. Resulting readily available cheap market risk protection has incentivized historic risk-taking and today’s speculative melt-up market dynamic.

Historians may look back at Team Trump’s jaunt to chilly Davos as a pivotal juncture in global finance. Was it naivety, gall or a combination – or just typical of today’s overabundance of complacency? The U.S. Treasury Secretary - facing enormous fiscal deficits, rising rates, $16.5 TN of federal debt, a nervous bond market and suspicious foreign officials - openly advocating a weaker dollar.

There are certainly plenty of dollars in the world available to sell or hedge. What is the likelihood of dollar selling turning disorderly? One might look at several years of incredible ECB and BOJ “whatever it takes” liquidity creation and rate suppression (and interest-rate differentials you could drive a truck through) and ponder Friday’s closing prices of 1.24 for the euro and 108.58 for the dollar/yen. Those are two flashing warning signs of dollar vulnerability.

In all the euphoria, markets can be excused for presuming dollar weakness ensures a further delay in global monetary policy normalization. Yet things turn quite interesting the day unruly currency markets begin indicating disorderly trading. The almighty central bankers might have little to offer. What if they intervene to no avail? This could prove the juncture when markets begin questioning the Indomitable Central Banks in Control thesis. The price of market “insurance” would begin to creep (or, not unlikely, spike) higher, and the availability of cheap risk protection would wane (possibly abruptly). In such a development, I would expect the more sophisticated market operators to begin (aggressively) pulling back on risk and leverage. Such a dynamic, especially after such a spectacular melt-up, would mark an important inflection point for market liquidity.

Ten-year Treasury yields were little changed on the week at 2.66%. Yet two-year yields rose another five bps to 2.12% and five-year yields gained two bps to 2.47%. Global yields are on the move. German 10-year yields jumped six bps to a 13-month high 0.63%, and French yields gained seven bps to 0.91%. UK yields jumped 11 bps to 1.44%.

The dollar’s worst start to a year since 1987. Wildly speculative stock markets, rising bond yields, Fed rate hikes, dollar weakness and acrimony, and general currency market instability. Today’s backdrop recalls 1987, though with some important differences. The world has so much more debt these days. Global equities markets are so much bigger and interconnected – derivatives markets incredibly so. Did China even have a stock market in ’87?

Today’s central bank balance sheets would be unimaginable back in 1987. Markets certainly had much less faith in central bank liquidity backstops. 1987 had this exciting new financial product, “portfolio insurance.” 2017 has the continuation of this enchanting New Age notion that central banks insure all portfolios. The Great Irony of Contemporary Finance: years of extreme central bank inflationary measures ensured that global finance outgrew the capacity of central bank liquidity backstops.

January 25 – Wall Street Journal (Richard Barely): “Only a select few people can move foreign-exchange markets with a handful of words. U.S. Treasury Secretary Steven Mnuchin and European Central Bank President Mario Draghi are two of them. Thursday they clashed, and the ECB clearly has a fight on its hands. The euro had already been rising against the dollar before Mr. Mnuchin’s comments in Davos Wednesday, that a weak dollar was helpful for trade, sent it even higher. Mr. Mnuchin’s apparent attempt Thursday to play down that comment didn’t reverse the trend. Mr. Draghi’s first-round defense proved insufficient.”

January 21 – Bloomberg: “China’s bad-loan data, which analysts and investors have long regarded to be understated, was thrown into question again after the banking regulator uncovered faked reporting at a local lender. Shanghai Pudong Development Bank Co., the nation’s ninth-largest lender, illegally lent 77.5 billion yuan ($12bn) over many years to 1,493 shell companies to take over bad loans at its Chengdu branch, the China Banking Regulatory Commission said… The branch, which had reported zero bad loans, inflated its earnings and faked other operational data to improve performance and evade compliance, the CBRC found.”

January 21 – Bloomberg: “For years, a branch of a mid-sized Chinese bank outshone rivals by reporting zero bad loans at a time others were struggling with rising soured debt. Financial indicators at Shanghai Pudong Development Bank Co..’s branch in the western Chengdu city were healthy, officials raised no red flags, and Fitch Ratings upgraded the parent last July citing tighter support and supervision by local authorities. Unknown to most, however, regulators had been probing the lender for a fraud that may reverberate across China’s financial industry. ‘It is not just about Pudong Bank,’ analysts at Guangfa Securities Co., led by Ni Jun, wrote… ‘The underlying issue is that the market may conduct a systemic review and re-rating on the bad loan ratios of those highly-leveraged Chinese banks that had gone through a round of balance-sheet expansion.’”

For the Week:

The S&P500 jumped 2.2% (up 7.5% y-t-d), and the Dow rose 2.1% (up 7.7%). The Utilities rallied 2.3% (down 3.4%). The Banks gained 2.0% (up 9.1%), while the Broker/Dealers slipped 0.2% (up 6.3%). The Transports dropped 1.6% (up 4.8%). The S&P 400 Midcaps gained 0.8% (up 5.0%), and the small cap Russell 2000 added 0.7% (up 4.7%). The Nasdaq100 surged 2.8% (up 9.8%). The Semiconductors increased 0.7% (up 10.2%). The Biotechs surged 9.2% (up 16.7%). With bullion up $18, the HUI gold index jumped 3.3% (up 5.7%).

Three-month Treasury bill rates ended the week at 139 bps. Two-year government yield rose five bps to 2.12% (up 23bps y-t-d). Five-year T-note yields gained two bps to 2.47% (up 26bps). Ten-year Treasury yields were unchanged at 2.66% (up 25bps). Long bond yields slipped two bps to 2.91% (up 17bps).

Greek 10-year yields dropped 17 bps to 3.63% (down 44bps y-t-d). Ten-year Portuguese yields declined three bps to 1.95% (unchanged). Italian 10-year yields gained four bps to 2.01% (down 1bp). Spain's 10-year yields dipped three bps to 1.41% (down 16bps). German bund yields jumped six bps to 0.63% (up 20bps). French yields rose seven bps to 0.91% (up 13bps). The French to German 10-year bond spread widened one to 28 bps. U.K. 10-year gilt yields jumped 11 bps to 1.44% (up 25bps). U.K.'s FTSE equities index declined 0.8% (down 0.3%).

Japan's Nikkei 225 equities index declined 0.7% (up 3.8% y-o-y). Japanese 10-year "JGB" yields slipped one basis point to 0.078% (up 3bps). France's CAC40 was little changed (up 4.1%). The German DAX equities index fell 0.7% (up 3.3%). Spain's IBEX 35 equities index gained 1.1% (up 5.5%). Italy's FTSE MIB index added 0.5% (up 9.2%). EM markets marched higher. Brazil's Bovespa index surged 5.3% (up 11.9%), and Mexico's Bolsa jumped 2.8% (up 3.5%). South Korea's Kospi index gained 2.2% (up 4.3%). India’s Sensex equities index rose 1.5% (up 5.9%). China’s Shanghai Exchange jumped 2.0% (up 7.6%). Turkey's Borsa Istanbul National 100 index surged 4.8% (up 4.7%). Russia's MICEX equities index added 0.4% (up 8.8%).

Junk bond mutual funds saw outflows of $1.131 billion (from Lipper).

Freddie Mac 30-year fixed mortgage rates jumped 11 bps to a 10-month high 4.11% (down 4bps y-o-y). Fifteen-year rates surged 13 bps to 3.62% (up 22bps). Five-year hybrid ARM rates gained six bps to 3.52% (up 32bps). Bankrate's survey of jumbo mortgage borrowing costs had 30-yr fixed rates up a basis point to 4.29% (down 2bps).

Federal Reserve Credit last week declined $3.9bn to $4.400 TN. Over the past year, Fed Credit contracted $18.9bn, or 0.4%. Fed Credit inflated $1.590 TN, or 57%, over the past 273 weeks. Elsewhere, Fed holdings for foreign owners of Treasury, Agency Debt declined $3.7bn last week to $3.352 TN. "Custody holdings" were up $181bn y-o-y, or 5.8%.

M2 (narrow) "money" supply jumped $20.9bn last week to $13.842 TN. "Narrow money" expanded $570bn, or 4.3%, over the past year. For the week, Currency increased $3.8bn. Total Checkable Deposits surged $53.2bn, while Savings Deposits fell $34.7bn. Small Time Deposits added $2.8bn. Retail Money Funds declined $3.3bn.

Total money market fund assets increased $8.4bn to $2.824 TN. Money Funds gained $139bn y-o-y, or 5.2%.

Total Commercial Paper rose another $10.0bn to a five-year high $1.129 TN. CP gained $165bn y-o-y, or 17.9%.

Currency Watch:

January 24 – Bloomberg (Cecile Gutscher and John Ainger): “Whether or not the White House choreographed the dollar’s slide to its lowest level in three years, the U.S. administration is certainly providing ammunition for those betting that the greenback will continue to weaken. The U.S. currency is caught in the rhetorical cross hairs after Treasury Secretary Steven Mnuchin laid out the benefits of a weaker dollar for the American economy at Davos on Wednesday. The comments came days after U.S. President Donald Trump stepped up his protectionist push by slapping of tariffs on solar panels and washing machines. Subsequent remarks by Commerce Secretary Wilbur Ross that Mnuchin has not shifted America’s long-standing strong-dollar policy did little to slow the currency’s depreciation.”

The U.S. dollar index sank 1.7% to $89.067 (down 3.3% y-o-y). For the week on the upside, the Swiss franc increased 3.3%, the South African rand 2.8%, the Swedish krona 2.4%, the Norwegian krone 2.3%, the British pound 2.2%, the Japanese yen 2.0%, the euro 1.7%, the Brazilian real 1.5%, the Canadian dollar 1.5%, the Australian dollar 1.4%, the Singapore dollar 1.0%, the New Zealand dollar 1.0%, the Mexican peso 0.8% and the South Korean won 0.2%. The Chinese renminbi increased 1.2% versus the dollar this week (up 2.8% y-t-d).

Commodities Watch:

The Goldman Sachs Commodities Index jumped 2.9% (up 4.7% y-t-d). Spot Gold gained 1.3% to $1,350 (up 3.6%). Silver rose 2.4% to $17.441 (up 1.7%). Crude surged $2.77 to $66.14 (up 9.5%). Gasoline jumped 4.0% (up 8%), and Natural Gas surged 10.0% (up 19%). Copper increased 0.4% (down 3%). Wheat jumped 4.3% (up 3%). Corn gained 1.1% (up 2%).

Trump Administration Watch:

January 22 – Politico (Rachael Bade): “Washington will be back on the brink in less than three weeks. Lawmakers may have pulled themselves out of a debilitating government shutdown Monday, but the fight over immigration and spending that’s ground virtually all congressional business to a halt is far from over. And the fundamentals of the debate haven’t changed at all. Republican leaders are under increasing pressure from their own members to reach a long-term budget agreement by Feb. 8, when the government next runs out of money. Their defense hawks are desperate to increase defense spending, a key 2018 priority for President Donald Trump. And their members are sick of voting on short-term funding bills that they say cripple the military. But in order to strike any long-term budget accord, at least nine Senate Democrats are needed for passage. And while Democrats’ strategy of shuttering the government until securing relief for Dreamers blew up in their faces Monday, they can still withhold support for a long-term budget deal to get what they want on immigration.”

January 24 – CNBC (Dan Mangan): “The federal deficit could rise by a whopping $154 billion over the next eight years if just five states adopt measures to protect residents from the impact of the recently passed Trump tax law… California and New York alone could spark an increase of more than $110 billion in the deficit if they take such actions, the Bloomberg report… estimated. Those two states and three other Democratic-leaning ones examined in the report are actively considering the moves because the tax legislation passed in December will eliminate billions of dollars in deductions that their residents have been able to claim on federal income tax returns. The actions being eyed include ending state income taxes and having the same amount of revenue collected by the state through employer-paid payroll taxes.”

January 23 – Reuters (Ayesha Rascoe and Nichola Groom): “U.S. President Donald Trump signed into law a steep tariff on imported solar panels on Tuesday, a move billed as a way to protect American jobs but which the solar industry said would lead to thousands of layoffs and raise consumer prices. The 30% tariff on solar panels is among the first unilateral trade restrictions imposed by the administration as part of a broader protectionist agenda to help U.S. manufacturers, but which has alarmed Asian trading partners… The administration also introduced a tariff on imported washing machines. ‘You’re going to have people getting jobs again and we’re going to make our own product again. It’s been a long time,’ Trump said… But the solar industry countered that the move will raise the cost of installing panels, quash billions of dollars of investment, and kill tens of thousands of jobs, raising questions about whether Trump’s move will backfire by triggering mass layoffs.”

January 22 – Wall Street Journal (Jacob M. Schlesinger and Erin Ailworth): “President Donald Trump slapped steep tariffs on imports of solar panels and washing machines, kicking off his second year in office by showing he is ready to start implementing his long-promised ‘America First’ trade policy. The moves were announced… in response to U.S. industry pleas for relief from a recent flood of cheap imports and are the first of what administration officials said would be a series of trade-enforcement actions in the coming months. The tariffs are aimed mainly at Asian manufacturers—Chinese makers of solar panels and South Korean producers of washing machines.”

January 23 – Reuters (Ju-min Park and Stella Qiu): “China and South Korea condemned steep import tariffs on washing machines and solar panels imposed by U.S. President Donald Trump, with Seoul set to complain to the World Trade Organization (WTO) over the ‘excessive’ move. Europe also said on Tuesday it regretted the U.S. decision and would react ‘firmly and proportionately’ if EU exports were hit by the tariffs, which Asia fears could be the start of greater protectionism and stall a revival in global trade.”

January 24 – Bloomberg (Kathleen Hunter and Enda Curran): “Trade wars ‘are fought every single day,’ and the U.S. has been engaged in one ‘for quite a little while,’ Commerce Secretary Wilbur Ross said in comments that diverge from President Donald Trump.”

January 19 – Wall Street Journal (Jacob M. Schlesinger): “President Donald Trump’s ‘America First’ trade policy will be more focused in the coming year on countering China, after a first year tangling with allies ranging from North America to Europe and Asia, a White House economic official said… ‘There’s a lot of consensus around the viewpoint that China does need to be the focal point, because China’s behaviors are causing significant problems for the U.S. economy and for the global trading system,’ said the official… ‘I’m not going to minimize Nafta and Korus,’ the official said, referring to the North American Free Trade Agreement with Canada and Mexico, and the U.S.-South Korea free-trade agreement. Mr. Trump has threatened to end them. ‘I do think everyone realizes that even if Nafta and Korus aren’t working as well as they could, they are only part of the broader concerns we have,’ he added.”

January 22 – Reuters (Ben Blanchard and Michael Martina): “The United States, not China, threatens the global trade system, China’s foreign ministry said…, after U.S. President Donald Trump’s administration called U.S. support for Beijing’s joining the World Trade Organization in 2001 a mistake. WTO rules have proved ineffective in making China embrace a market-oriented trade regime, and the United States ‘erred’ in backing China’s entry to the trade body on such terms, the office of the U.S. Trade Representative said last week.”

January 21 – Reuters (Ben Blanchard): “China’s top newspaper, decrying Washington as a trouble-maker, said on Monday U.S. moves in the South China Sea like last week’s freedom of navigation operation will only cause China to strengthen its deployments in the disputed waterway.”

U.S. Bubble Watch:

January 24 – Reuters (Lucia Mutikani): “U.S. home sales fell more than expected in December as the supply of houses on the market dropped to a record low, pushing up prices and sidelining some potential first-time buyers. The decline in home sales… followed three straight months of strong increases… Existing home sales declined 3.6% to a seasonally adjusted annual rate of 5.57 million units last month… Unseasonably cold weather probably accounted for some of the weakness as sales in the Northeast and Midwest fell sharply… The number of previously owned homes on the market tumbled 11.4% to 1.48 million units in December, the lowest since January 1999 when the Realtors group started tracking the series… Housing inventory was down 10.3% from a year ago. It has declined for 31 straight months on a year-on-year basis. At December’s sales pace, it would take a record-low 3.2 months to exhaust the current inventory…”

January 22 – Reuters (Ben Hirschler, Sudip Kar-Gupta and Michael Erman): “Biotech deal activity exploded on Monday with French drugmaker Sanofi and U.S.-based Celgene spending a combined total of more than $20 billion to add new products for hemophilia and cancer to their medicine cabinets. The acquisitions will fuel expectations for a busy year of mergers and acquisitions (M&A) as large drugmakers snap up promising assets from smaller rivals to help revive growth… The two cash deals were agreed at a prices of $105 and $87 per share respectively. Shares in Bioverativ leaped 63% in early U.S. trading and Juno jumped 27%.”

January 22 – Financial Times (Javier Espinoza): “The investment industry usually operates on a simple piece of logic: money managers pitch to their clients and persuade them to stump up cash. But when CVC Capital Partners, the private equity group best known for the 2005 takeover of Formula One, set out to raise a new fund last year, the investors were the ones begging to gain access… Treated more like celebrities than investment managers, CVC’s star dealmakers were on display for investors wishing to buy into the heavily oversubscribed fund. ‘Every 45 minutes we would swap over,’ says a long-time investor in CVC funds, each time meeting a different executive in the hope that they would let them in their fund. ‘We make sure managers like us and keep us. It’s hard to get [our] money in the door these days.’ …Buyout volumes were up 27% year on year in 2017, according to Thomson Reuters, and are expected to accelerate this year, propelled by a record $1.1tn of cash pledged by investors last year.”

January 24 – Reuters (Richard Leong): “U.S. mortgage application activity climbed to their loftiest level in over four months despite 30-year home borrowing costs rising to their highest levels since March, the Mortgage Bankers Association said…”

January 24 – Bloomberg (Michelle Kaske and Yalixa Rivera): “Puerto Rico said it will have virtually no money to cover debt payments for the next five years as the bankrupt island deals with the crippling blow of Hurricane Maria, which caused tens of thousands of residents to leave and pushed the economy into its deepest contraction in more than a decade. The forecast… shows that the government expects to have a shortfall, before any debt service is paid, of $3.4 billion through 2022. That marks a significant shift from the proposal released before the storm that would have left hundreds of millions of dollars a year to cover its debts.”

January 21 – Financial Times (Alistair Gray): “The big four US retail banks sustained a near 20% jump in losses from credit cards in 2017, raising doubts about the ability of consumers to fuel economic expansion. ‘People are using their cards to get from pay cheque to pay cheque,’ said Charles Peabody, managing director at… Compass Point. ‘There’s an underlying deterioration in the ability of the consumer to keep up with their debt service burden.’ Recently disclosed results showed Citigroup, JPMorgan Chase, Bank of America and Wells Fargo took a combined $12.5bn hit from soured card loans last year, about $2bn more than a year ago.”

January 25 – Bloomberg (Claire Boston): “A growing share of the trade-ins that U.S. auto dealers and lenders accept for car-purchase financing are worthless on paper, a sign that banks and finance companies are making riskier loans to keep up revenue as vehicle sales slow. Almost a third of cars traded in last year were worth less than the loans that had been financing them… That’s up from about a quarter a decade earlier, said Edmunds, which looked at cars traded in as part of financing packages for new auto purchases in the U.S. The growing proportion of underwater trade-ins means that at least some borrowers are getting deeper and deeper in debt with every car they buy…”

January 25 – Bloomberg (Dani Burger): “Here’s one more piece of evidence that something’s amiss in the U.S. stock market: A usually reliable strategy used by quants is suddenly on the fritz. Quantitative investors have long used liquidity signals to strengthen their automated models. Simply put, bets on the least traded stocks should, in theory, outperform the market because there’s a reward for taking on the extra liquidity risk. But since December the opposite has been occurring, with the most liquid stocks rewarding investors to the greatest degree in nine years.”

January 21 – The Atlantic (Uria Friedman): “‘In God We Trust,’ goes the motto of the United States. In God, and apparently little else. Only a third of Americans now trust their government ‘to do what is right’—a decline of 14 percentage points from last year, according to a new report by the communications marketing firm Edelman. 42% trust the media, relative to 47% a year ago. Trust in business and non-governmental organizations… decreased by 10 and nine percentage points… Edelman, which for 18 years has been asking people around the world about their level of trust in various institutions, has never before recorded such steep drops in trust in the United States. ‘This is the first time that a massive drop in trust has not been linked to a pressing economic issue or catastrophe like [Japan’s 2011] Fukushima nuclear disaster,’ Richard Edelman, the head of the firm, noted… ‘In fact, it’s the ultimate irony that it’s happening at a time of prosperity, with the stock market and employment rates in the U.S. at record highs.”

January 22 – Reuters (Anna Irrera): “More than 10% of funds raised through ‘initial coin offerings’ are lost or stolen in hacker attacks, according to new research by Ernst & Young that delves into the risks of investing in cryptocurrency projects online. The professional services firm analyzed more than 372 ICOs, in which new digital currencies are distributed to buyers, and found that roughly $400 million of the total $3.7 billion funds raised to date had been stolen, according to research…”

China Watch:

January 22 – Bloomberg (Keith Bradsher): “China has tried just about everything to tame a property market in which home prices sometimes jump around like the value of Bitcoin. Over the years, in one city or another, it has limited mortgage lending. It has tried to halt purchases of homes by people who already own one. It has plowed billions of dollars into building new homes that regular Chinese people can afford. Now the Chinese government is considering adopting something that, while familiar to homeowners in the United States and elsewhere… a property tax. Living in a place without property taxes may sound appealing, but a growing number of experts and policymakers in China say the absence of one has helped destabilize a vast and crucial part of the Chinese economy. Many investors snap up homes — in China, they are mostly apartments — hoping to ride a price surge. In the biggest cities, property prices on average have at least doubled over the past eight years. But vast numbers of apartments in many cities lie empty, either because the buyers have no intention of moving in or renting out, or because speculators built homes that nobody wants.”

January 23 – Bloomberg: “Strains are spreading in China’s $15 trillion shadow banking industry as investors pull back from the debt-like savings products that helped drive leverage to dangerous levels. Most affected are some $3.8 trillion of so-called trust products, until now the fastest-growing shadow banking segment and a popular way for debt-ridden property developers and local governments to raise funds from millions of ordinary Chinese. In recent weeks, at least two of the products have been forced to delay payments as the market started to freeze up, making it harder to refinance maturing issues with new ones. ‘On the one hand you have cash-strapped borrowers scrambling for refinancing; on the other you have cash-rich investors not knowing where to put their money for fear of getting burned,’ said James Yang, a sales manager at Shanghai Xiangyi Asset Management Co.”

January 23 – Bloomberg (Lianting Tu): “Struggling Chinese conglomerate HNA Group Co. faces rising bond maturities later this year even if it’s able to navigate current difficulties in repaying debt to banks. HNA is under mounting pressure as several banks are said to have frozen some unused credit lines to its units after missed payments. That follows a $40-billion-plus buying spree that saw the conglomerate emerge from obscurity to take large stakes in companies including Deutsche Bank AG and Hilton Worldwide… The bill on maturing offshore and onshore notes for the group and its units will swell to more than 12 billion yuan ($1.88bn) in both the third and fourth quarters, from 1 billion yuan this quarter…”

January 24 – New York Times (Keith Bradsher): “A reclusive and influential senior adviser to President Xi Jinping of China emerged… with a public message that many in the financial world have been eager to hear: The country has a timetable for curbing its vast appetite for debt. Speaking to attendees at the World Economic Forum, the adviser, Liu He, said that the Chinese government planned to bring its debt under control within three years. Mr. Liu said Beijing intended to focus on reining in the growth of debt among local governments and companies. ‘We have full confidence and a clear plan to get the job done,’ he said. Mr. Liu did not offer details of the government’s plans…”

January 21 – Bloomberg (Prudence Ho): “Shares of HNA Group Co. units fell in Shanghai and Shenzhen trading after more of the conglomerate’s subsidiaries halted their stock from trading, pending ‘major’ announcements. Hainan HNA Infrastructure Investment Group Co. fell by the 10% daily limit…, while HNA Innovation Co. slumped more than 9%. HNA Investment Group Co. sank as much as 5.4%. Four HNA units -- HNA-Caissa Travel Group Co., Bohai Capital Holding Co., Tianjin Tianhai Investment Co. and flagship Hainan Airlines Holding Co. -- suspended their shares from trading this month ahead of unspecified announcements.”

January 24 – Bloomberg: “Just as the U.S. throws up new barriers to cross-border commerce, its largest trading partner China is redoubling its efforts to seal free-trade agreements. From deals with blocs including the Association of Southeast Asian Nations to bilaterals with tiny countries like Maldives, China’s FTAs already cover 21 countries. That compares with the 20 countries covered by U.S. agreements. More than a dozen additional pacts are being negotiated or studied... While President Donald Trump this week imposed tariffs…, underscoring his America first outlook, China is hoping for a ‘bumper year’ for new trade deals, according to the Commerce Ministry.”

Central Bank Watch:

January 25 – Reuters (Balazs Koranyi and Francesco Canepa): “European Central Bank chief Mario Draghi took a swipe at Washington on Thursday for talking down the dollar, a move he said threatened a decades-old pact not to target the currency and might force his bank to change its own policy. Singling out the euro’s surge as a source of uncertainty, Draghi said any unjustified move could force the ECB to rethink its strategy as a strong currency could put a lid on inflation, thwarting its efforts to lift prices.”

January 25 – Bloomberg (Carolynn Look): “Mario Draghi expressed conviction that euro-area inflation will pick up, pushing the euro even higher despite his warning that the exchange rate is a renewed concern. The European Central Bank president said the strengthening economy justifies some currency appreciation, while reviving a warning on volatility that hasn’t been used since September… Improving economic momentum has ‘strengthened further our confidence that inflation will converge to close to but below 2%,” the European Central Bank president told reporters…, adding that domestic price pressures remain muted. ‘Against this background, recent volatility in the exchange rate represents a source of uncertainty which requires monitoring with regard to its possible implications for the medium term outlook of price stability.’”

January 21 – Financial Times (Jim Brunsden, Claire Jones and Arthur Beesley): “Euro area governments will kick off the process on Monday of finding a successor to Vítor Constâncio as vice-president of the European Central Bank with Spain well placed to secure the role for its economy minister Luis de Guindos. The opening of nominations for the new vice-president will be the first move in a complex chess game of ECB appointments with two-thirds of the central bank’s six-member executive board set to depart during the next two years. This includes the bank’s president, Mario Draghi, whose term ends in October 2019. A complex set of political and other considerations will underlie the appointments process — including the unwritten rule that the currency bloc’s biggest countries should always have a seat, and the need for better gender balance at the highest levels of ECB decision-making.”

Global Bubble Watch:

January 22 – Wall Street Journal (Asjylyn Loder): “The first exchange-traded fund was born 25 years ago this week, enabling investors for the first time to buy or sell the S&P 500 index in a single publicly traded share. Over the years since then, ETFs have come to dominate the financial landscape. Today, there are almost 7,200 exchange-traded products world-wide with $4.8 trillion in assets… Growth is accelerating as investors forsake active money managers in favor of passive, index-tracking funds. Last year, U.S. ETFs raked in a record $466 billion, a 61% increase over 2016 inflows…”

January 22 – Bloomberg (Sarah Ponczek and Carolina Wilson): “Mohamed El-Erian, chief economic adviser at Allianz SE, reiterated his concerns about liquidity in exchange-traded funds. In front of an audience filled with financial advisers during a keynote address at the ‘Inside ETFs’ conference in Hollywood, Florida, the economist… listed some geopolitical and market risks for 2018. And ETFs didn’t escape the short list. ‘Some ETFs, it’s a small proportion, but some of them have inadvertently over-promised liquidity to users,’ he said. ‘The users have assumed much more liquidity than what the underlying asset class can serve.’ El-Erian is talking about the problems that arise as investors move even more money into passive investing products, ‘some of which venture quite far from highly liquid market segments,’ he wrote...”

January 23 – Bloomberg (Sid Verma): “Global stocks and U.S. Treasuries are in the throes of their most ‘extreme’ start to the year ever as bullish sentiment engulfs markets, according to Goldman Sachs… The bank’s cross-asset measure of risk appetite around the world is the highest since it started the gauge in 1991. Euphoria is turbo-charging global equities while 10-year U.S. government bonds are suffering their worst performance in risk-adjusted terms, according to Goldman. ‘Risk appetite is now at its highest level on record, which leads to the question of what future returns can be,’ strategists including Ian Wright wrote…”

January 22 – Bloomberg (Andrew Mayeda): “The International Monetary Fund warned policymakers to be on guard for the next recession even as it predicted global growth will accelerate to the fastest pace in seven years as U.S. tax cuts spur businesses to invest. The fund raised its forecast for world expansion to 3.9% this year and next, up 0.2 percentage point both years from its projection in October. That would be the fastest rate since 2011, when the world was bouncing back from the financial crisis. The strengthening recovery offers a ‘perfect opportunity now for world leaders to repair their roof,’ IMF Managing Director Christine Lagarde told reporters…”

January 21 – Bloomberg (Shelly Hagan): “The global economy created a record number of billionaires last year, exacerbating inequality amid a weakening of workers’ rights and a corporate push to maximize shareholder returns, charity organization Oxfam International said… The world now has 2,043 billionaires, after a new one emerged every two days in the past year… The group of mostly men saw its wealth surge by $762 billion, which is enough money to end extreme poverty seven times over, according to Oxfam. According to separate data compiled by Bloomberg, the top 500 billionaires’ net worth grew 24% to $5.38 trillion in 2017…”

Fixed-Income Bubble Watch:

January 21 – Wall Street Journal (Nick Timiraos): “In enacting a tax cut that is projected to raise annual federal-budget deficits to nearly $1 trillion in the coming years, Washington could be trading more growth now for the risk of more pain down the road. The U.S. government has traditionally reduced interest rates, boosted spending or cut taxes when the economy contracts. Budget analysts warn that future policy makers would have less ammunition to take such actions during the next recession because tax changes are projected to push already-rising national debt levels even higher. That could make the next downturn more severe than it would otherwise be and put added pressure on the Federal Reserve to respond to future crises. ‘While I’m always for reforming the tax code, the timing of this thing doesn’t make any sense,’ said William Hoagland, a former budget adviser to Senate Republicans now at the Bipartisan Policy Center…”

January 21 – Financial Times (Chris Flood): “The supply of US Treasury bonds is set to almost double to $1tn this year, a dramatic increase that could pose a significant risk for the high-flying US stock market as well as for fixed-income investors. The US government’s rising budget deficit, President Donald Trump’s tax cuts and the Federal Reserve’s push to shrink its balance sheet as it reverses the post-financial crisis bond-buying programme are some of the reasons behind the expected increase. This could drive 10-year Treasury bond yields up from their level of 2.6% to 3% by the end of this year and to 3.5% by the end of next year, according to Deutsche Bank. In addition, the amount of investment grade and high-yield bonds issued by US companies that will mature and require refinancing is forecast to increase significantly over the next two years. As a result, total US fixed-income supply could rise from $1tn last year to just over $2tn in 2019…”

January 22 – Bloomberg (Dani Burger and Sid Verma): “U.S. corporate debt exchange-traded funds have bled a near-historic sum of assets over the past two weeks, but holders of the underlying securities are paying little heed. U.S.-listed corporate bond ETFs are headed for a second consecutive month of outflows, the first time that’s occurred in at least seven years. The pain is across ratings. The iShares iBoxx Investment Grade Corporate Bond ETF, LQD, had the biggest day of losses last week since 2016, while BlackRock’s high-yield equivalent, HYG, is in the midst of its biggest two-month outflows on record.”

January 25 – Financial Times (Joe Rennison): “A profit warning… from Swiss baker Aryzta, whose customers include McDonald’s, would not ordinarily be of interest to bond investors. Except the company pointed to faster than expected wage growth in its US business as one of the culprits. The prospect of American workers receiving bigger pay rises taps into a growing anxiety among fixed-income investors: that 2018 may be the year in which inflation finally accelerates, posing a fundamental challenge for holders of long-term bonds that pay ultra low fixed-rate coupons. Signs that a broad-based global economic recovery is gathering pace, rising oil prices and a sweeping US tax cut are raising a red flag for the bond market.”

Europe Watch:

January 23 – Stratfor (Adriano Bosoni): “Italy's general election will be one of the most important political events for the European Union this year. Italian voters will head to the polls March 4 dissatisfied with their current leaders and with the state of the economy. What's more, they will find no shortage of anti-establishment candidates on the ballot. The rise of the Five Star Movement, a protest party made up mostly of political outsiders that lambastes Italy's traditional leaders, has pushed mainstream parties to espouse populist and Euroskeptic views. The right-wing Northern League, for example, has called for stronger immigration controls and proposed a referendum on Italy's membership in the eurozone. Former Prime Minister Silvio Berlusconi's center-right Forza Italia, meanwhile, has suggested introducing a parallel currency to coexist with the euro and ignoring EU rules that limit state intervention to rescue troubled banks. Even the center-left Democratic Party, while still pro-European Union, has criticized Brussels for its focus on austerity measures.”

Japan Watch:

January 22 – Bloomberg (Toru Fujioka and Masahiro Hidaka): “Governor Haruhiko Kuroda delivered a message to investors speculating that the Bank of Japan might be nearing the start of policy normalization: Not so fast. Kuroda said the BOJ wasn’t in a position to even consider exiting its current policy, after it maintained its massive stimulus program and kept its inflation and economic forecasts unchanged… ‘Given there is still a distance to the achievement of the 2% price stability target, I don’t think that we are at a stage where we consider the timing for a so-called exit or how to deal with it,’ Kuroda said… ‘The Bank of Japan thinks it’s necessary to continue tenaciously with the current powerful easing for the sake of the economy.’”

January 23 – Bloomberg (Connor Cislo): “Japan closed out its best year for exports since the financial crisis with solid growth again in December, as the global economic recovery looks set to continue well into 2018. The value of exports rose 9.3% in December from a year earlier. Exports for the full year 2017 grew 11.8%, the most since 2010.”

Leveraged Speculation Watch:

January 24 – Bloomberg (Nishant Kumar and Erik Schatzker): “Billionaire hedge-fund manager Ray Dalio said that the bond market has slipped into a bear phase and warned that a rise in yields could spark the biggest crisis for fixed-income investors in almost 40 years. ‘A 1% rise in bond yields will produce the largest bear market in bonds that we have seen since 1980 to 1981,’ Bridgewater Associates founder Dalio said in a Bloomberg TV interview in Davos… We’re in a bear market, he said.”

Geopolitical Watch:

January 25 – Reuters (Doina Chiacu): “Turkey urged the United States… to halt its support for Kurdish YPG fighters or risk confronting Turkish forces on the ground in Syria, some of Ankara’s strongest comments yet about a potential clash with its NATO ally. The remarks, from the spokesman for President Tayyip Erdogan’s government, underscored the growing bilateral tensions…”

January 22 – Reuters (Mert Ozkan): “Turkey shelled targets in northwest Syria on Monday and said it would swiftly crush U.S.-backed Kurdish YPG fighters in an air and ground offensive on the Afrin region beyond its border. The three-day-old campaign has opened a new front in Syria’s multi-sided civil war, realigning a battlefield where outside powers are supporting local combatants.”

January 24 – Reuters (Tuvan Gumrukcu and Tom Perry): “President Tayyip Erdogan said… Turkey would extend its military operation in Syria to the town of Manbij, a move that could potentially bring Turkish forces into confrontation with those of their NATO ally the United States. Turkey’s air and ground ‘Operation Olive Branch’ in the Afrin region of northern Syria is now in its fifth day, targeting Kurdish YPG fighters and opening a new front in Syria’s multi-sided civil war. A push towards Manbij, in a separate Kurdish-held enclave some 100 km (60 miles) east of Afrin, could threaten U.S. plans to stabilize a swath of northeast Syria.”