Credit Bubble Bulletin : February 2018

The Shanghai Composite traded as high as 3,587 intraday on Monday, January 29th, a more than two-year high. This followed the S&P500’s all-time closing high (2,873) on the previous Friday. On February 9th, the Shanghai Composite traded as low as 3,063, a 14.6% decline from trading highs just nine sessions earlier. In U.S. trading on February 9th, the S&P500 posted an intraday low of 2,533, a 10.7% drop from January 26th highs. Based on Friday’s closing prices, the Shanghai Composite had recovered 43% of recent declines and the S&P500 70%.

Global equities markets demonstrated notably strong correlations during the recent selloff. Few markets, however, tracked U.S. trading closer than Chinese shares. From the Bubble analysis perspective, tight market correlations provide confirmation of the global Bubble thesis. It’s also not surprising that Chinese markets were keenly sensitive to the abrupt drop in U.S. stocks. The U.S. and China are dual linchpins to increasingly vulnerable global Bubble Dynamics. Moreover, intensifying fragilities in Chinese Credit – and finance more generally – ensure China is keenly sensitive to any indication of a faltering U.S. Bubble.

February 21 – Bloomberg: “China stopped updating its homegrown version of the VIX Index, taking another step to discourage speculation in equity-linked options after authorities tightened trading restrictions last week. State-run China Securities Index Co. didn’t publish a value for the SSE 50 ETF Volatility Index on its website Thursday. An employee who answered CSI’s inquiry line said the company stopped updating the measure to work on an upgrade. The move was designed to curb activity in the options market, said people familiar with the matter… It’s unclear when the index will resume.”

Derivatives rule the world. Of course, Chinese authorities had few issues with booming options trading when markets were posting gains. Here in the U.S., regulators will supposedly now keep a more watchful eye on VIX-related products. In China, “the VIX goes dark,” as regulators place various restrictions on options trading. It’s not clear to me why international investors at this point would be drawn to Chinese markets. As Bubble fragilities turn more acute, Chinese officials will assume an even more heavy-handed approach.

February 23 – Wall Street Journal (James T. Areddy): “When Anbang Insurance Group Co. paid about $2 billion to buy New York City’s Waldorf Astoria Hotel three years ago, the deal seemed to define an era for China Inc. President Xi Jinping shortly afterward dropped in to stay at the Park Avenue landmark. China’s business priorities have since changed, turning real-estate trophies into symbols of risk. Regulators in Beijing on Friday said they seized control of Anbang to keep the privately held insurer from collapsing, while prosecutors in Shanghai said they indicted Wu Xiaohui, Anbang’s swashbuckling ex-chairman, for alleged fraudulent fundraising and abuse of power. China’s government makes no secret of its penchant to guide commerce, even with private companies, but the boardroom takeover still rattled analysts used to Beijing’s applying its influence more quietly. ‘This is an unprecedented step, putting into receivership a Chinese company in such a public direct way,’ said Scott Kennedy at the… Center for Strategic and International Studies. ‘They are so worried about risks that they will stop at nothing to avoid them.’”

Wu Xiaohui, Anbang’s former chairman, disappeared (was detained) this past June. Married to the granddaughter of Deng Xiaoping, Wu for years operated as if protected by the Chinese establishment. As the WSJ article noted, Chinese President Xi stayed at the Waldorf Astoria hotel shortly after it was purchased by Anbang in 2015. At breakneck speed, Wu built a financial (“insurance”) empire with assets surpassing $300 billion, largely financed through high-yield wealth management/“shadow” deposits. Anbang’s ownership structure was opaque, which didn’t matter so long as Wu was in good graces with Beijing.

How quickly the world changes. Wu has been charged with fraud and embezzlement - “illegal business operations which may seriously endanger the company’s solvency”. It would appear the game of freewheeling – and well-connected – billionaire Chinese dealmakers tapping the shadow “money” spigot to buy prized international real estate assets has come to an end. The immediate impact on global trophy property values is unclear. Yet the government takeover and charges against Wu certainly send a strong message to the Chinese business community. Beijing is exerting control and pursuing President Xi’s priority to rein in financial risks.

February 23 - Bloomberg Gadfly (Nisha Gopalan): “Beijing’s interventions in the economy don't always merit applause, but the government's unprecedented seizure of Anbang Insurance Group Co. deserves a round. Anbang was a toxic threat to China's financial system after a debt-fueled global acquisition spree -- including trophy assets such as New York's Waldorf Astoria hotel -- that was funded by the sale of high-yield insurance policies. Those risky products propelled the company from obscurity into the ranks of the country's biggest insurers in the space of a few years. The government will take temporary control of Anbang for a year starting Friday… Markets reacted calmly to the announcement, underpinning the sense that regulators have acted in time to head off potentially bigger problems down the road.”

Anbang has been considered “too big to fail,” so the government takeover had little general market impact. And I suppose we can applaud Beijing for actions against one of the more conspicuously egregious high-risk financial operators. But in terms of an effect on overall systemic risk, this move barely registers on the risk-o-meter. Analysts have noted that Anbang’s assets have ballooned to a hefty 3% of Chinese GDP. But as a percentage of banking system assets, Anbang is less than 1%. With unrelenting rapid growth in Credit of deteriorating quality, systemic risk continues its parabolic ascent.

February 12 – Reuters (Kevin Yao, Fang Cheng): “China’s banks extended a record 2.9 trillion yuan ($458.3bn) in new yuan loans in January, blowing past expectations and nearly five times the previous month as policymakers aim to sustain solid economic growth while reining in debt risks. While Chinese banks tend to front-load loans early in the year to get higher-quality customers and win market share, the lofty figure was even higher than the most bullish forecast… Net new loans surpassed the previous record of 2.51 trillion yuan in January 2016, which is likely to support growth not only in China but may underpin liquidity globally as major Western central banks begin to withdraw stimulus… Corporate loans surged to 1.78 trillion yuan from 243.2 billion yuan in December, while household loans rose to 901.6 billion yuan in January from 329.4 billion yuan in December…”

The crackdown in shadow finance was surely a factor in January’s record-setting bank lending. The first month of 2018 saw major slowdowns in trust loans, entrusted loans and bankers’ acceptance lending, all key shadow instruments. Overall, Total Social Financing increased $483 billion in January, seasonally the strongest month of lending annually. This was gargantuan Credit growth, but actually 17% below January 2017. And looking at the most recent four-month period, growth in Total Social Financing was actually down 15% from the comparable year ago period.

Notably, household debt jumped $145 billion during January. This was easily a record and 21% above what at the time were record monthly household borrowings back in January 2017. For perspective, Chinese household debt growth averaged about $90 billion monthly in 2017, $80 billion in 2016, $50 billion in 2015 and $40 billion in 2014.

China faces major Credit issues from years of excessive corporate and local government borrowings. Chinese officials have moved somewhat to rein in these sectors. Meanwhile, household debt growth continues to accelerate. Apartment mortgages represent the largest component of China’s household borrowings, and I would argue that the Chinese mortgage finance Bubble is operating in the perilous “Terminal Phase.” It’s worth noting that the trajectory of China household borrowings is similar to mortgage Credit growth during the U.S. Bubble period.

Chinese officials used to claim they had studied and learned lessons from the Japanese Bubble period. They clearly learned little from the U.S. mortgage crisis. To be sure, mortgage Credit is seductive and too easily manipulated by government officials. It appears sound so long as housing prices are inflating. And the greater housing inflation, the greater the growth of self-reinforcing Credit. Risk, while growing exponentially, remains largely hidden.

Mortgage Credit is prone to rapid acceleration, as housing inflation spurs both rising prices and increasing quantities of transactions. Especially during the boom period, mortgage Credit becomes a major – and unrecognized - source of system liquidity, both in the financial system and throughout the real economy. As was certainly the case in the U.S., boom-time mortgage finance spurs consumption excesses along with mal-investment. A prolonged mortgage finance Bubble inflation fosters deep structural maladjustment.

China’s crackdown is no doubt having a major disciplining effect on the Chinese billionaire business community. Meanwhile, the Chinese mortgage and apartment Bubble runs mostly unchecked. Literally hundreds of millions of Chinese aspire to rising wealth and social mobility through the purchase of apartments that only go up in price. Virtually everyone believes Beijing will never tolerate a housing bust. This unwieldy episode of borrowing and speculation will continue to prove quite difficult for Beijing to control. The bust will be brutal.

I understand why Beijing would choose to crackdown on the likes of Anbang, HNA and Wanda. They’re conspicuous risk-takers outside of the core of the banking system (paying top renminbi for international non-essential assets). They can be easily and publicly disciplined, providing a stark warning to the business community without risking a systemic shock. I also assume it is somewhat of an opening act to what will evolve into broadening measures to rein in total system Credit growth and accompanying excesses. Such a strategy makes some sense, except for the reality that mortgage Credit is in the throes of dangerous “Terminal Phase” excess. Household debt expanded 21% in 2017, after 23% growth in 2016. And if January borrowings are any indication, 2018 could see Chinese household debt growth surpassing $1.3 TN, about three times the level from 2015.

Mortgage finance Bubbles don’t function well in reverse. At some point, lending tightens and the marginal buyers lose the capacity to bid up home/apartment prices. In China, a lot of serious problems are being masked by ever-rising apartment prices. It is said that in many markets up to one in four apartments remain vacant, purchased purely to speculate on higher prices. Deflating prices would likely see tens of millions of empty units transferred to lenders. Credit losses will no doubt be enormous, compounded by widespread fraud and shoddy construction.

A case can be made that household debt is rapidly becoming the greatest threat to China’s banking system and economy. They’ve clearly waited much too long to get mortgage Credit under control. At this point, the boom is an expedient to meet GDP targets. A burst apartment Bubble would now pose great systemic risk. Of course, the Beijing meritocracy believes they can adeptly manage through any circumstance. Their dilemma is that this type of Bubble becomes only more perilous over time, though mounting latent risks remain unappreciated. Chinese officials would prefer that new Credit finances productive endeavors. But at this late stage of the cycle, reliance on productive Credit would leave the system with woefully insufficient finance to keep the the Bubble levitated.

In years past, it received a decent amount of attention. Yet few analysts these days even bother to mention the Chinese housing Bubble, despite its historic inflation. The problem didn’t go away; it instead got much bigger than anyone could have imagined. Indeed, Bubble risk has inflated to the point of risking peril for China as well as the world – financially and economically. And while January’s lending data evidenced a boom replete with momentum, I would caution that there may be more near-term risk than is generally perceived.

The shadow banking crackdown will likely have a significant impact on higher-risk lending generally, including mortgage Credit. Moreover, regulators are demanding bankers slow loan growth, this after household lending expanded to a significant proportion of overall system Credit expansion. Total system Credit has already slowed. There are indications of tighter lending conditions and even an incipient slowdown in housing transactions. And let’s not forget rising global yields, one more factor to weigh on inflated Chinese apartment prices. Anbang, HNA and their ilk make for interesting reading, full of nuance and intrigue as Beijing plots a financial crackdown. The real story, however, might be unfolding in Chinese household and mortgage finance.

For the Week:

The S&P500 added 0.6% (up 2.8% y-t-d), and the Dow increased 0.4% (up 2.4%). The Utilities gained 0.6% (down 5.1%). The Banks added 0.4% (up 7.0%), while the Broker/Dealers slipped 0.4% (up 6.4%). The Transports gained 0.7% (down 0.3%). The S&P 400 Midcaps increased 0.2% (up 0.2%), and the small cap Russell 2000 rose 0.4% (up 0.9%). The Nasdaq100 jumped 1.9% (up 7.8%). The Semiconductors advanced 2.5% (up 7.8%). The Biotechs were little changed (up 11.2%). With bullion down $18, the HUI gold index fell 4.5% (down 8.1%).

Three-month Treasury bill rates ended the week at 1.61%. Two-year government yields rose five bps to 2.24% (up 36bps y-t-d). Five-year T-note yields slipped a basis point to 2.62% (up 41bps). Ten-year Treasury yields dipped one basis point to 2.87% (up 46bps). Long bond yields added two bps to 3.16% (up 42bps).

Greek 10-year yields jumped 12 bps to 4.36% (up 28bps y-t-d). Ten-year Portuguese yields gained three bps to 2.04% (up 9bps). Italian 10-year yields rose eight bps to 2.07% (up 5bps). Spain's 10-year yields jumped 14 bps to 1.60% (up 3bps). German bund yields fell five bps to 0.65% (up 23bps). French yields declined two bps to 0.93% (up 15bps). The French to German 10-year bond spread widened three to 28 bps. U.K. 10-year gilt yields fell six bps to 1.52% (up 33bps). U.K.'s FTSE equities index declined 0.7% (down 5.8%).

Japan's Nikkei 225 equities index gained 0.8% (down 3.8% y-t-d). Japanese 10-year "JGB" yields dipped one basis point to 0.05% (up 1bp). France's CAC40 rose 0.7% (up 0.1%). The German DAX equities index increased 0.3% (down 3.4%). Spain's IBEX 35 equities index was little changed (down 2.2%). Italy's FTSE MIB index declined 0.6% (up 3.7%). EM markets were mostly higher. Brazil's Bovespa index surged 3.3% (up 14.3%), while Mexico's Bolsa declined 0.5% (down 1.4%). South Korea's Kospi index rose 1.2% (down 0.6%). India’s Sensex equities index gained 0.4% (up 0.3%). China’s Shanghai Exchange jumped 2.8% (down 0.5%). Turkey's Borsa Istanbul National 100 index gained 0.9% (up 1.9%). Russia's MICEX equities index jumped 3.6% (up 10.8%).

Junk bond mutual funds saw outflows of $335 million (from Lipper).

Freddie Mac 30-year fixed mortgage rates increased two bps to 4.40%, the high going back to April 2014 (up 24bps y-o-y). Fifteen-year rates added a basis point to 3.85% (up 48bps). Five-year hybrid ARM rates gained two bps to 3.65% (up 49bps). Bankrate's survey of jumbo mortgage borrowing costs had 30-yr fixed rates up 11 bps to 4.66% (up 38bps).

Federal Reserve Credit last week declined $15.9bn to $4.369 TN. Over the past year, Fed Credit contracted $54.5bn, or 1.2%. Fed Credit inflated $1.558 TN, or 55%, over the past 277 weeks. Elsewhere, Fed holdings for foreign owners of Treasury, Agency Debt rose $13.8bn last week to $3.412 TN. "Custody holdings" were up $231bn y-o-y, or 7.3%.

M2 (narrow) "money" supply fell $10.0bn last week to $13.848 TN. "Narrow money" expanded $568bn, or 4.3%, over the past year. For the week, Currency slipped $1.3bn. Total Checkable Deposits dropped $20.9bn, while savings Deposits added $1.3bn. Small Time Deposits increased $1.6bn. Retail Money Funds jumped $9.4bn.

Total money market fund assets gained $15.6bn to $2.844 TN. Money Funds gained $164bn y-o-y, or 6.1%.

Total Commercial Paper contracted $23.1bn to $1.095 TN. CP gained $127bn y-o-y, or 13.2%.

Currency Watch:

The U.S. dollar index recovered 0.9% to 89.883 (down 2.4% y-o-y). For the week on the upside, the South African rand increased 0.3%. For the week on the downside, the Swedish krona declined 2.5%, the New Zealand dollar 1.1%, the Swiss franc 1.0%, the Norwegian krone 0.9%, the euro 0.9%, the Australian dollar 0.8%, the Japanese yen 0.6%, the Singapore dollar 0.6%, the Canadian dollar 0.6%, the British pound 0.4%, the Brazilian real 0.3%, the South Korean won 0.2% and the Mexican peso 0.2%. The Chinese renminbi added 0.07% versus the dollar this week (up 2.67% y-t-d).

Commodities Watch:

February 21 – Bloomberg (Eddie Van Der Walt): “Russia has overtaken China as the fifth-biggest sovereign holder of gold, allowing it to diversify its foreign currency holdings amid a deepening rift with the U.S. The Bank of Russia in January increased its holdings by almost 20 metric tons to 1,857 tons, topping the People’s Bank of China’s reported 1,843 tons. While Russia has increased its holdings every month since March 2015, China last reported buying gold in October 2016.”

The Goldman Sachs Commodities Index jumped 1.8% (up 2.1% y-t-d). Spot Gold declined 1.4% to $1,329 (up 2.0%). Silver fell 1.0% to $16.549 (down 3.5%). Crude rallied $1.87 to $63.55 (up 5%). Gasoline advanced 3.3% (up 1%), and Natural Gas gained 2.6% (down 11%). Copper declined 1.1% (down 2%). Wheat fell 1.5% (up 9%). Corn was little changed (up 7%).

Market Dislocation Watch:

February 23 – Bloomberg (Benjamin Bain and Matt Robinson): “U.S. regulators are scrutinizing this month’s implosion of investments that track stock-market turmoil, including whether wrongdoing contributed to steep losses for VIX exchange-traded products offered by Credit Suisse Group AG and other firms, several people familiar with the matter said. The Securities and Exchange Commission and the Commodity Futures Trading Commission have been conducting a broad review of trading since Feb. 5, when volatility spiked and investors lost billions of dollars, the people said.”

Trump Administration Watch:

February 21 – Wall Street Journal (John F. Cogan): “The federal deficit is big and getting bigger. President Trump’s budget estimates a deficit of nearly $900 billion for 2018 and nearly $1 trillion (with total spending of $4.4 trillion) for 2019. Its balance sheet reveals that the public debt will reach $15.7 trillion by October. This works out to $48,081.61 for every man, woman and child in the U.S. That doesn’t count unfunded liabilities, reported by the Social Security and Medicare Trustees, that are four times the current public debt. How did the federal government’s finances degenerate this far? It didn’t happen overnight. For seven decades, high tax rates and a growing economy have produced record revenue, but not enough to keep pace with Congress’s voracious appetite for spending. Since the end of World War II, federal tax revenue has grown 15% faster than national income—while federal spending has grown 50% faster.”

February 20 – Reuters (Richard Leong): “Some of the U.S. government’s short-term borrowing costs rose to their highest level in more than nine years on Tuesday as the government raised $179 billion in the Treasury securities market to fund spending and make debt payments. Tuesday’s auctions made up more than half of the $258 billion in Treasury debt supply scheduled for sale this week, which is projected to raise nearly $48 billion in new cash for the government.”

February 21 – Reuters (David Lawder): “The U.S. Treasury’s top diplomat ramped up his criticisms of China’s economic policies on Wednesday, accusing Beijing of ‘patently non-market behavior’ and saying that the United States needed stronger responses to counter it. David Malpass, Treasury undersecretary for international affairs, said… that China should no longer be ‘congratulated’ by the world for its progress and policies. ‘They went to Davos a year ago and said ‘We’re into trade,’ when in reality what they’re doing is perpetuating a system that worked for their benefit but ended up costing jobs in most of the rest of the world,’ Malpass said…”

February 17 – Bloomberg: “China said proposed U.S. tariffs on imported steel and aluminum products are groundless and that it reserves the right to retaliate if they are imposed. The U.S. recommendations, unveiled by the Commerce Department on Friday, aren’t consistent with the facts, Wang Hejun, chief of the trade remedy and investigation bureau at China’s Ministry of Commerce, said…”

February 20 – Financial Times (Barney Jopson): “The Trump administration is proposing to recast a central pillar of post-crisis financial regulation with a new ‘Chapter 14’ bankruptcy process designed to eliminate the risk that taxpayers will have to pick up the cost of a bank failure. The Treasury, which was ordered to examine the area by President Donald Trump in April, on Wednesday took aim at the ‘orderly liquidation’ regime established to deal with collapsing lenders. Both Wall Street and overseas regulators have warned the administration over the dangers of dismantling the system but the Treasury said it wanted to narrow its use so it could serve only as a last resort.”

U.S. Bubble Watch:

February 18 – Bloomberg (Chris Anstey): “An historic expansion in U.S. borrowing during a period of economic growth, alongside rising bond yields, will cause a surge in the cost of servicing American debt, according to Goldman Sachs… ‘Federal fiscal policy is entering uncharted territory,’ Goldman analysts including Alec Phillips in Washington wrote… ‘In the past, as the economy strengthens and the debt burden increases, Congress has responded by raising taxes and cutting spending. This time around, the opposite has occurred.’”

February 20 – Wall Street Journal (Heather Gillers): “Public pension funds that lost hundreds of billions during the last financial crisis still face significant risk from one basic investment: stocks. That vulnerability came into focus earlier this month as markets descended into correction territory for the first time since February 2016. The California Public Employees’ Retirement System, the largest public pension fund in the U.S., lost $18.5 billion in value over a 10-day trading period ended Feb. 9… The sudden drop represented 5% of total assets held by the pension fund, which had roughly half of its portfolio in equities as of late 2017… By the end of 2017, equities had surged to an average 53.6% of public pension portfolios from 50.3% one year earlier… Those average holdings were the highest on a percentage basis since 2010…, and near the 54.6% average these funds held at the end of 2007.”

February 20 – Bloomberg (Chris Anstey): “The U.S. stock market only had a taste of the potential damage from higher bond yields earlier this year, with the biggest test yet to come, according to Morgan Stanley. ‘Appetizer, not the main course,’ is how the bank’s strategists led by… Andrew Sheets described the correction of late January to early February. Although higher bond yields proved tough for equity investors to digest, the key metric of inflation-adjusted yields didn’t break out of their range for the past five years, they said in a note…”

February 21 – CNBC (Diana Olick): “The sharp drop in January home sales was not due to a shortage of homes for sale. It was due to a shortage of affordable homes for sale. While real estate economists continue to blame the pitiful 3.4-month supply of total listings (a six-month supply is considered a balanced market), a better indicator is a chart on the second-to-last page of the National Association of Realtors' monthly sales report… Sales of homes priced below $100,000 fell 13% in January year over year. Sales of homes priced between $100,000 and $250,000 dropped just more than 2%. The share of first-time buyers also declined to 29%, compared with 33% a year ago.”

February 16 – Wall Street Journal (Liz Hoffman, Christina Rexrode and Aaron Lucchetti): “Wall Street CEOs are getting paid the big bucks again. Goldman Sachs… and Citigroup Inc. said Friday that they gave their CEOs raises for 2017, meaning all five large U.S. banks with significant trading and investment-banking operations have done so. The chief executives of the banks, which include JPMorgan…, Bank of America Corp., and Morgan Stanley, were paid on average $25.3 million for their work last year, up 17% from 2016... For the group as a whole, combined total compensation of about $126 million is the highest annual tally since before the financial crisis. The gains mark the fifth consecutive year in which pay rose for Wall Street’s top CEOs.”

Federal Reserve Watch:

February 21 – New York Times (Binyamin Appelbaum): “Robust economic growth has increased the confidence of Federal Reserve officials that the economy is ready for higher interest rates, according to an official account of the central bank’s most recent policymaking meeting in late January… The account said Fed officials have upgraded their economic outlooks since the beginning of the year and listed three main reasons: The strength of recent economic data, accommodative financial conditions and the expected impact of the $1.5 trillion tax cut that took effect in January. ‘The effects of recently enacted tax changes — while still uncertain — might be somewhat larger in the near term than previously thought,’ said the meeting account…”

February 21 – Bloomberg (Craig Torres): “U.S. central bankers sent a strong message Wednesday that an expansion with ‘substantial underlying economic momentum’ could sustain additional increases in interest rates this year. Federal Reserve officials ‘anticipated that the rate of economic growth in 2018 would exceed their estimates of its sustainable longer-run pace and that labor market conditions would strengthen further,’ the minutes of their Jan. 30-31 meeting… showed. A number of participants ‘indicated that they had marked up their forecasts for economic growth in the near term relative to those made for the December meeting.’ Their collective position on inflation, meanwhile, remained one of cautious optimism that it will move toward their 2% target in the medium term.”

February 21 – Reuters (Ann Saphir): “Philadelphia Federal Reserve Bank President Patrick Harker… said he still thinks just two interest-rate hikes this year is ‘likely appropriate,’ but signaled he is open to more if needed. ‘Based on the relatively strong economy, but the continued stubbornness of inflation, I’ve penciled in two hikes for 2018,’ Harker said… ‘I use pencil because the data can change, and sometimes they don’t accurately point to future events.’”

China Watch:

February 20 – Financial Times (John Gapper): “When Ant Financial, the payments affiliate of the internet group Alibaba, goes public, its potential $120bn valuation could exceed that of Goldman Sachs. Alipay, Ant’s mobile payments platform with 520m users, is innovative as well as valuable, having devised a new method of credit rating. Sesame Credit, Alipay’s alternative to traditional credit scores such as Fico in the US and Schufa in Germany, is intriguing. It broadens access to loans in a developing market by monitoring people’s buying habits and social circles as well as their credit records. But it is also troubling, as China has recognised. The central bank is getting cold feet about the ‘social credit’ ratings schemes adopted by Alibaba and its competitors. The bank this month told Tencent to stop a national rollout of its rival to Sesame Credit after having encouraged such efforts in 2015.”

February 20 – Bloomberg (Lianting Tu): “While there’s no indication that China’s embattled HNA Group Co. is facing such financial difficulties that a default is in the offing, some market participants are starting to game plan scenarios, and a variety of takes have emerged. The amount of dollar bonds outstanding for the conglomerate and its units -- at $13.7 billion, it accounts for more than 1% of Asian high-yield bonds outside of Japan -- raises the question of the impact on the broader market. Many see little wider impact in the event of a default, though the case of a default by China’s Kaisa Group Holdings Ltd. three years ago, when Asian dollar junk bond premiums widened considerably, serves as a warning.”

Central Bank Watch:

February 22 – Financial Times (Claire Jones): “The extent of European officials’ concerns over the weakness of the dollar was laid bare on Thursday in a set of European Central Bank accounts that highlighted fears that the US administration was deliberately trying to engage in currency wars. The accounts of the ECB’s January monetary policy vote also reveal that the governing council’s hawks pushed for a change in the bank’s communications, saying economic conditions were now strong enough to drop a commitment to boost the quantitative easing programme in the event of a slowdown.”

February 22 – Bloomberg (Jana Randow, Piotr Skolimowski, and Alessandro Speciale): “The European Central Bank got its communication largely back under control on the third anniversary of the publication of its policy accounts. Aside from a brief spike, the euro stayed relatively calm after the summary of January’s Governing Council meeting was released… That’s in contrast to the report on December’s session, which rocked currency and bond markets when it suggested that officials might move faster than expected toward reining in stimulus. That outcome should be a relief for President Mario Draghi. He’s shown a reluctance to allow too much discussion of potential policy changes in recent meetings, according to people familiar with the matter who asked not to be identified. The general concern is that any sign of a looming shift in stance could stoke market volatility and undermine the ECB’s stimulus plans.”

February 21 – Bloomberg (David Goodman): “Mark Carney said the U.K. is headed for higher interest rates, but policy makers are reluctant to give clearer guidance on the timing of any future increase. In testimony to Parliament’s Treasury Committee…, the Bank of England governor stuck to the script from the Inflation Report released earlier this month, reiterating that the Monetary Policy Committee considers that rates will need to rise somewhat earlier and to a somewhat greater extent than previously anticipated.”

February 19 – Reuters (Jan Strupczewski and Francesco Guarascio): “Euro zone finance ministers… chose Spanish Economy Minister Luis de Guindos to succeed European Central Bank Vice President Vitor Constancio in May, a move likely to boost the chances of a German becoming head of the ECB next year. The choice of a Southern European for vice president increases the likelihood that a northerner such as German Bundesbank governor Jens Weidmann could be elected to replace Mario Draghi as head of the ECB in 2019. This could influence the bank’s ultra-loose monetary policy for the 19-country common currency area.”

February 21 – Bloomberg (Alessandro Speciale): “European Central Bank policy makers will get their first chance on Wednesday to hear directly on the outsized crisis emanating from one of their smallest member states. Latvia -- 0.2% of the euro-area economy and 0.6% of the bloc’s population -- is the week’s hot topic as ECB President Mario Draghi chairs one of the Governing Council’s regular meetings in Frankfurt. The detention on bribery allegations of the nation’s central-bank governor, Ilmars Rimsevics, isn’t on the formal agenda… But it’s guaranteed to be a talking point, at least over dinner.”

Global Bubble Watch:

February 22 – Financial Times (Kate Allen and Chris Giles): “Developed nations face a rising tide of government debt that poses ‘a significant challenge’ to budgets as interest rates increase around the world, the OECD has warned. Low interest rates have helped sustain high levels of government debt and persistent budget deficits since the financial crisis, according to the OECD, but the ‘relatively favourable’ sovereign funding environment ‘may not be a permanent feature of financial markets’. Fatos Koc, senior policy analyst at the OECD, cautioned that most members of the organization… confront an ‘increasing refinancing burden from maturing debt, combined with continued budget deficits’… The total stock of OECD countries’ sovereign debt has increased from $25tn in 2008 to more than $45tn this year.”

February 19 – Wall Street Journal (William Wilkes): “One morning last September, Dwayne Elgin unbolted the front door of his home on the island of St. Martin and gazed upon a wasteland of flipped cars, uprooted trees and flattened homes. Irma, the strongest Atlantic hurricane on record, had laid waste to the Caribbean island overnight, and as head of Nagico Insurances, a local insurance firm, Mr. Elgin knew almost all of his policyholders would turn to him for help. But he was prepared: Like many insurers, he had unloaded a large portion of firm’s risk to reinsurers, the industry’s last line of defense. Irma and an extraordinary string of other natural disasters in 2017 saddled insurers and reinsurers globally with more than $135 billion in losses, according to Munich Re ’s 2017 Natural Catastrophe Report.”

February 22 – CNBC (Sara Salinas): “Global smartphone sales fell by 5.6% in the fourth quarter of 2017 — the industry's first decline since 2004, according to a study from research firm Gartner. Chinese smartphone makers Huawei and Xiaomi were the only vendors in the top five to experience year-over-year growth in the quarter, respectively by 7.6% and 79%. ‘Upgrades from feature phones to smartphones have slowed down due to a lack of quality 'ultra-low-cost' smartphones and users preferring to buy quality feature phones,’ said Anshul Gupta, research director at Gartner. ‘Replacement smartphone users are choosing quality models and keeping them longer.’”

February 18 – Bloomberg (Jake Lloyd-Smith): “Noble Group Ltd., the commodity trader battling to survive, warned that it’ll report another vast loss including from the operations meant to sustain a revamped business, and while it signaled progress in debt-restructuring talks, hurdles to a deal remain. The Hong Kong-based company will report a net loss of $1.73 billion to $1.93 billion for the final quarter of last year, potentially bringing losses for 2017 to almost $5 billion…”

Fixed-Income Bubble Watch:'

February 22 – Bloomberg (Brian Chappatta): “The U.S. Treasury’s $29 billion auction of seven-year notes drew the highest yield for securities at that tenor since 2011, capping a $258 billion flood of debt sales over three days. As with the week’s other note offerings, there was a dip in the amount of bids relative to the amount sold, signaling weaker demand. With the Treasury ramping up borrowing as part of its plan to finance widening budget deficits, the auction was $1 billion larger than it was last month and the bid-to-cover ratio slid to 2.49 from 2.73 at the prior sale.”

Japan Watch:

February 20 – Bloomberg (Masaki Kondo and James Mayger): “When the Bank of Japan reduced its purchases of government bonds in January, some investors saw it as another sign that the bank was scaling back its massive monetary stimulus program. The BOJ disagrees with that interpretation, but in February the bond market pushed yields to near the upper limit of what the bank’s targeting. While the BOJ was able to drive them lower with an offer to buy an unlimited amount of bonds, not everyone is convinced that it can continue with its current stimulus when the Federal Reserve is raising rates and the European Central Bank is starting to talk about when to end its own bond purchases.”

February 18 – Bloomberg (Connor Cislo): “Japan’s trade recovery powered into 2018, with exports and imports registering strong growth. The increase in imports resulted in the first monthly trade deficit since May 2017. The value of exports rose 12.2% in January from a year earlier (forecast +9.4%). Imports grew 7.9% (forecast +7.7%).”

EM Bubble Watch:

February 18 – Reuters (Krishna N. Das, Aditya Kalra, Devidutta Tripathy and Tom Lasseter): “The Punjab National Bank branch in south Mumbai sits just down the road from both the Bombay Stock Exchange and the Reserve Bank of India, at a physical center of one of the world’s fastest growing major economies. The branch, clad in a stately colonial edifice, is now also at the heart of a fraud case linked to billionaire jeweler Nirav Modi that has shaken confidence in a state banking sector that accounts for some 70% of India’s banking assets. It was here, according to accounts from Punjab National Bank executives and government investigators, that a lone middle-aged manager, later aided by his young subordinate, engineered fraudulent transactions totaling about $1.8 billion from 2011 to 2017.”

February 19 – Bloomberg (Srinivasan Sivabalan): “Indian equities have missed the rebound in emerging markets. The nation’s stocks have extended a slump that began late January and short sellers are betting record amounts that more declines are in store. Disappointment over the federal budget presented Feb. 1 and concern that a $2 billion bank fraud that came to light last week could turn into a contagion are applying the brakes on one of the world’s most expensive markets.”

Geopolitical Watch:

February 19 – Bloomberg (Henry Meyer): “Russian Foreign Minister Sergei Lavrov warned the Trump administration not to ‘play with fire’ as he lashed out at the U.S. over what he described as its ‘provocative’ support for autonomy-seeking Kurds in Syria. ‘The U.S. should stop playing very dangerous games which could lead to the dismemberment of the Syrian state,’ Lavrov said at a Middle East conference in Moscow…, alongside his Iranian counterpart Mohammad Javad Zarif and a top adviser of Syrian President Bashar al-Assad. ‘We are seeing attempts to exploit the Kurds’ aspirations.’”

February 18 – Reuters (Robin Emmott and Thomas Escritt): “Prime Minister Benjamin Netanyahu said… that Israel could act against Iran itself, not just its allies in the Middle East, after border incidents in Syria brought the Middle East foes closer to direct confrontation. Iran mocked Netanyahu’s tough words, saying Israel’s reputation for ‘invincibility’ had crumbled after one of its jets was shot down following a bombing run in Syria.”

February 22 – Reuters (Ellen Francis and Tuvan Gumrukcu): “The Syrian Kurdish YPG militia said… that fighters backing the Syrian government were deploying on the frontlines to help repel a Turkish assault, but that assistance would be needed from the Syrian army itself. In a move that may ease one of the Syrian government’s complaints about the YPG, the militia withdrew from an enclave it holds in Aleppo on Thursday, saying its fighters were needed for the battle in Afrin.”

February 22 – Reuters (Bozorgmehr Sharafedin): “Iran will withdraw from the 2015 nuclear deal if there is no economic benefit and major banks continue to shun the Islamic Republic, its deputy foreign minister said… Under the deal with Britain, China, France, Germany, Russia and the United States, Iran agreed to restrict its nuclear program in return for the removal of sanctions that have crippled its economy. Despite that, big banks have continued to stay away for fear of falling foul of remaining U.S. sanctions…”

February 17 – Bloomberg (Henry Meyer and Patrick Donahue): “As tensions escalate between Russia and the U.S., the nuclear-armed former Cold War rivals are risking the future of decades-old arms control agreements that have helped to keep a strategic balance and prevent the risk of accidental war. The conflict played out at a global security conference in Germany where Russia aired grievances about the U.S. and the Trump administration said a new nuclear doctrine unveiled this month doesn’t increase risks. Germany, caught in between, was among European countries voicing concern as both big powers modernize their nuclear arsenals.”

Thursday, February 22, 2018

Friday's News Links

[Bloomberg] U.S. Stocks Rise With Treasuries, Dollar Mixed: Markets Wrap

[Bloomberg] Mnuchin Urges Markets to Shrug Off Worries Over Tax Cuts, Debt

[Bloomberg] Inflation-Vexed Bond Traders Are Unconvinced by Hawkish Fed Talk

[Bloomberg] VIX Funds Face Fresh Scrutiny From U.S. Regulators

[Bloomberg] Xi’s Debt Crackdown Goes Into Hyperdrive With Anbang Takeover

[Bloomberg] China Regulator Seizes Anbang, Chairman Faces Fraud Prosecution

[Bloomberg] What We Know So Far About China's Anbang Takeover: Q&A

[Reuters] Exclusive: Xi confidant emerges as front runner to head China’s central bank - sources

[Reuters] Turkish forces shell convoy headed to Syria's Afrin region

[WSJ] Anbang and the Financialization of China’s Economy

[WSJ] How Gargantuan Can Private Equity Get?

[FT] Chinese regulators take control of Anbang Insurance

[FT] Jens Weidmann on Draghi and the ECB

[FT] Why insurers are being blamed for equity market instability

Thursday Evening Links

[Bloomberg] Asian Stocks Rise as Traders Weather Higher Yields: Markets Wrap

[Bloomberg] U.S. Stocks End Mixed as Bonds Gain, Dollar Slumps: Markets Wrap

[Bloomberg] Treasury Seven-Year Sale Caps $258 Billion Week of Higher Yields

[Bloomberg] Chinese Shares Are on Shaky Ground

[Bloomberg] Draghi Gets ECB Back on Message

[Reuters] Kurdish YPG militia urges Syrian army to help it stop Turkey

[Reuters] Iran says may withdraw from nuclear deal if banks continue to stay away

[FT] US equity fund outflows continue despite rebound

Wednesday, February 21, 2018

Thursday's News Links

[Bloomberg] U.S. Stocks Rebound, Dollar Stumbles With Yields: Markets Wrap

[Bloomberg] ECB Keeps Guidance Change on the Radar for First Half of 2018

[Reuters] U.S. Treasury official slams China's 'non-market behavior'

[CNBC] Art Cashin: Once the 10-year yield hits 3% 'all hell' could break loose

[MarketWatch] The stock market faces a massive headwind in 2018: a lack of new money

[Bloomberg] China's VIX Goes Dark as Government Clamps Down on Options

[Bloomberg] Indian Bonds Slide Most in 3 Weeks as Minutes Show Hawkish Tilt

[CNBC] Global smartphone sales fell for the first time in more than a decade

[NYT] Fed Officials Say Economy Is Ready for Higher Rates

[WSJ] Why America Is Going Broke

[FT] ECB minutes highlight policymakers’ fears over currency wars

[FT] Rising tide of debt to hit rich countries’ budgets, warns OECD

[FT] How the alleged Punjab National Bank fraud unfolded

[FT] Chinese companies halt trading to unwind risky stock loans

[FT] Complacency about the Fed is a habit investors must kick

Wednesday Evening Links

[Bloomberg] Asia Stocks Slip With U.S. Futures, Dollar Gains: Markets Wrap

[Bloomberg] Stocks Turn Lower, Dollar Rises After Fed Minutes: Markets Wrap

[CNBC] 10-year Treasury yield jumps to 4-year high after Fed minutes

[Bloomberg] Fed Minutes Show Confidence Improving on Growth, Price Outlook

[CNBC] Fed minutes: All signs pointing to more rate hikes ahead

[Bloomberg] Bond Market Guide to Trading When 10-Year Treasury Yields Hit 3%

[Bloomberg] Treasury Won't Ditch Post-Crisis Plan for Big-Bank Failures

[CNBC] Homeownership is increasingly for the wealthy, according to the latest sales data

[Bloomberg] As Treasury Pain Drags On, China Bond Traders Lick Their Wounds

[Bloomberg] Carney Says More BOE Rate Hikes Ahead, Stays Vague on Timing

[Bloomberg] Russia's Central Bank Gold Hoard Is Now Bigger Than China's

[Bloomberg] Einhorn Says Greenlight Underperformance Is Worst Since 2000

[WSJ] Fed Officials Marked Up Growth, Inflation Outlook in January

Tuesday, February 20, 2018

Wednesday's News Links

[Bloomberg] Dollar Gains, Tech Lifts U.S. Stocks; Bonds Mixed: Markets Wrap

[Reuters] Fed's Harker sees two U.S. rate hikes this year

[CNBC] Weekly mortgage applications tank even more, as rising rates make homes less affordable

[Bloomberg] Euro Area Hits Speed Bump on Road to Faster Economic Growth

[CNBC] Fed could 'rock the boat' with what it says about the stock market's worst fears: higher inflation and interest rates

[Bloomberg] Inflation's Come and Commodities Will Benefit, JPMorgan Says

[Bloomberg] How Any HNA Default Could Affect Markets: Analysts Debate

[Bloomberg] Draghi Musters ECB Gathering in Shadows of a Latvian Scandal

[WSJ] What to Watch in the Fed Minutes

[WSJ] The Risk Pension Funds Can’t Escape

[FT] US proposes overhaul of ‘too big to fail’ regime

[FT] Alibaba’s social credit rating is a risky game

Tuesday Evening Links

[Bloomberg] Asia Stocks to Drop; Dollar Gains as Yields Rise: Markets Wrap

[Bloomberg] U.S. Stocks Mixed, Treasuries Slip Amid Auctions: Markets Wrap

[Bloomberg] U.S. Pays Up to Auction $179 Billion of Debt in a Span of Hours

[Reuters] U.S. short-term borrowing costs rise to highest since 2008

[Bloomberg] The U.S. 10-Year Looks Poised to Cross a Red Line This Week

[Bloomberg] How Japan's Central Bank Policy Is Driving Speculation About Stimulus

[WSJ] Public Pensions Are Still Betting More Than Half of All Assets on Stocks

[FT] US companies might be liquidating their offshore bond hoards

Monday, February 19, 2018

Tuesday's News Links

[Bloomberg] U.S. Stocks Decline With Treasuries, Dollar Gains: Markets Wrap

[Bloomberg] Treasury $258 Billion Bond Auction Is Hogging All the Attention

[Bloomberg] Fed Minutes May Give Clues to 2018 Interest Rate Word Puzzle

[Bloomberg] A Diversified Portfolio May Not Help Investors Much This Year

[Bloomberg] Morgan Stanley Says Stock Slide Was Appetizer for Real Deal

[Bloomberg] BOJ Likely to Stay on `Virtual Normalization' Path, Kiuchi Says

[Reuters] Restive bond markets may complicate ECB's exit plans

[Bloomberg] Is the End Near for Japan’s Huge Monetary Stimulus Experiment?: QuickTake

[Bloomberg] Latvian Central Banker Fires Back in Deepening Corruption Scandal

[Bloomberg] Bears Circle India Stocks as $2 Billion Fraud Damps Mood: Chart

[WSJ] Reinsurers Hit by Catastrophe Losses, Rising Competition

Monday Evening Links

[Bloomberg] Asia Stocks Track U.S. Futures Down; Dollar Steady: Markets Wrap

[Reuters] EU chooses Spain's de Guindos for ECB vice-chair, paving way for German head

[Bloomberg] Tudor Veteran Says Just a Little More Inflation Could Rock Bonds

[CNBC] Bonds are entering a rising rates cycle for the first time since the 1940s, which could be 'worrisome'

[Reuters] Turkey warns Syrian army against helping Kurdish YPG in Afrin

Sunday, February 18, 2018

Monday's News Links

[Bloomberg] European Stocks Falter After Asia Rally; Oil Rises: Markets Wrap

[Bloomberg] Goldman Sees U.S. Interest Cost Surge on Rising Yields, Deficit

[CNBC] Goldman Sachs sees red ink everywhere, warns US spending could push up rates and debt levels

[Bloomberg] Syrian Forces to Back Kurds Against Turkey

[Bloomberg] Russia Warns U.S. Not to ‘Play With Fire’ in Syrian Conflict

[FT] Trump’s fiscal gamble and the US twin deficits

[FT] How Vladimir Putin mastered the cyber disinformation war

Sunday Evening Links

[Bloomberg] Japanese Stocks Gain on Yen Weakness; Oil Advances: Markets Wrap

[Reuters] Jittery U.S. bond market braces for supply wave

[Bloomberg] Japanese Exports Grow 12% as Trade Recovery Moves Into 2018

[Bloomberg] Noble Group Warns That Loss for 2017 May Approach $5 Billion

Sunday's News Links

[Reuters] Billion dollar diamond fraud case puts India's state banks in focus

[Bloomberg] ECB's Rimsevics Detained by Latvian Anti-Graft Bureau

[Bloomberg] U.S.-Russia Tension Flares Over Nuclear Arms Control Now at Risk

[Reuters] Netanyahu says Israel could act against Iran's 'empire'

Saturday, February 17, 2018

Saturday's News Links

[Reuters] Stock volatility: back with a bang and here to stay

[Bloomberg] What Shaped the Stock Market's $3 Trillion Trauma

[Bloomberg] China Warns It May Retaliate If U.S. Imposes Metal Tariffs

[Reuters] Exclusive: Indian banks may take more than $3 billion hit from PNB fraud - tax department

[Spiegel] German Politics Enters Era of Instability

[WSJ] Wall Street’s Five CEOs Get Biggest Payday Since 2006

[FT] Higher bond yields fail to arrest an ever-weakening dollar

Friday, February 16, 2018

Weekly Commentary: Permanent Market Support Operations

U.S. stocks posted the strongest week of gains since 2013 (would have been 2011 if not for late-day selling). The S&P500 surged 4.3%, and the Nasdaq Composite jumped 5.3%. The small cap Russell 2000 rallied 4.4%. After closing last Friday at 29.06, the VIX settled back down to a still elevated 19.46. Foreign markets recovered as well. Germany’s DAX rose 2.8%, and France’s CAC 40 gained 4.0%. The Shanghai Composite was closed for the lunar new year. The dollar index was back under pressure this week, sinking 1.5% and providing a boost to commodities prices. Price instability abounds.

While stocks rather quickly recovered a chunk of recent losses, the same cannot be said for corporate bonds. Notably, investment-grade bonds (LQD) rallied little after recent declines.

February 16 – Bloomberg (Cecile Gutscher and Cormac Mullen): “Corporate bond funds succumbed to rate fears that have gripped stocks to Treasuries. Investors pulled $14.1 billion from debt funds, the fifth-largest stretch of redemptions in the week through Feb. 14, according to a Bank of America Merrill Lynch report, citing EPFR data. High-yield bonds lost $10.9 billion alone, the second highest outflow on record. As benchmark Treasury yields traded at a four-year high, it shook the foundations of a key support for risk assets -- low rates. ‘Investors don’t sell their cash bonds in a big way until they are forced to, which happens when the outflows start picking up more sustainably,’ Morgan Stanley strategists led by Adam Richmond wrote…”

U.S. junk bond funds suffered outflows of $6.3 billion (from Lipper), the second highest ever. IShares’ high-yield ETF saw outflows of $760 million. U.S. investment-grade bond funds had outflows of $790 million (Lipper), the first outflows since September. This was a big reversal from last week’s $4.73 billion inflow. The iShares investment-grade ETF had outflows of $921 million, the “largest outflow in its 15-year history.” Even muni funds posted outflows ($443 million), along with mortgage and loan funds.

A strong equities rally into option expiration – following a bout of market selling and hedging - is not out of the ordinary. Hedges put on over recent weeks were unwound, creating potent buying power for the recovery. Scores of systematic trading strategies that were aggressively selling into market weakness turned aggressive buyers into this week’s advance.

I’m not much interested in sharing my guess as to where markets might head next week. It certainly wouldn’t be surprising if this week’s buyers panic subsides abruptly and selling reemerges. At the same time, I’ve seen enough of short squeeze and derivative melt-up dynamics to take them seriously. They have had a tendency of taking on a life of their own. I’m not, however, shying away from the view that recent developments mark a critical juncture in the markets – and for the world of finance more generally. Markets could find themselves in trouble in a hurry.

The objective for the CBB is to offer perspective. I believe the blowup of “short vol” and the revelation of how quickly the great bull market can succumb to illiquidity and losses have fundamentally altered the risk-taking and leveraging backdrop. The cost of hedging market risk, while down this week, has risen significantly. Treasuries have revealed themselves as an inadequate hedge against risk assets. Moreover, exceptionally high asset correlations experienced during the recent sharp selloff have illuminated the shortcomings of many so-called “diversified” strategies. There will be ebbs and flows, often wild and intimidating. Yet I believe de-risking/de-leveraging dynamics will gain momentum. Fragilities will be exposed.

I have serious issues with contemporary finance. Unique in history, the world operates with a financial “system” devoid of limits on either the quantity or quality of “money” and Credit. Unlike a gold standard (or other disciplined monetary regimes), there is no mechanism to contain the creation of new finance. As such, traditional supply/demand dynamics have little relevance in the pricing of finance. Today’s contemporary financial apparatus – where central bankers largely dictate the price of Credit – lacks effective regulation of supply and demand. Importantly, the contemporary system fails to self-correct or adjust. Left unchecked, it feeds serial Bubbles and busts.

Early CBBs focused on the instability of this new world of “Wall Street finance.” Unfettered finance, much of it directly targeted to asset markets, had created powerful asset inflation and Bubble Dynamics. Indeed, by the late-nineties the perilous instability of contemporary finance had become abundantly clear. One could point to “portfolio insurance” contributing to the ’87 crash; the role of non-bank finance in late-eighties excess; the 92/93 bond/derivatives Bubble that burst in 1994; the 1995 Mexican collapse; the ’97 Asian Tiger collapses; and the spectacular simultaneous 1998 Russia and Long-Term Capital Management debacles.

Somehow, there’s never been a serious and sustained effort to analyze contemporary finance’s shortcomings. Rather than contemplating evident deficiencies, each burst Bubble led immediately to whatever reflationary measures deemed necessary. Structural issues be damned. All along the way, few have been willing to admit the fundamental flaws inherent in various modern forms of risk intermediation. Rather than mitigate risk, structured finance and derivatives tend to distort, disguise and transfer myriad risks. Various risk intermediation mechanisms work to lower the cost of finance, in the process exacerbating Credit excess, risk-taking, speculation and leveraging.

Perhaps most momentous, the experiment in unconstrained finance spurred an experiment in economic structure. The U.S. economy was free to deindustrialize. With newfound access to unlimited finance and inflating asset prices, Americans were to indefinitely trade financial claims for endless cheap imports. The bane of “twin deficits” had been eradicated. Even more miraculously, the flood of finance the U.S. unleashed upon the world would, largely through foreign central banks, be recycled right back into booming American securities markets.

After the burst of the “tech” Bubble – and, importantly, the 2002 dislocation in the corporate debt market – the Fed panicked. Even more so than 1987, 1990 and 1998, the Fed feared “the scourge of deflation.” Somehow, the Fed, Wall Street and others found solace in Bernanke’s radical monetary ideas of “helicopter money” and the “government printing press.” The Federal Reserve was willing to slash rates to one percent – and leave them pegged there in the face of several years of double-digit annual mortgage Credit growth.

Let’s call it what it was: reckless. The Fed looked the other way from conspicuous financial and housing-related excess (as they have in the securities markets more recently). Why? Because they had specifically targeted mortgage Credit as their inflationary mechanism of choice. The Bubble was Untouchable.

The 2008 crisis marked the failure of a great financial experiment. Fannie, Freddie and GSE risk intermediation failed. Wall Street structured finance failed. Derivatives markets and Wall Street firms failed. Counterparties failed. Across the financial landscape, catastrophic flaws were exposed. In short, contemporary finance failed spectacularly.

The ‘08/’09 crisis should have provided an historic inflection point. The greatest upheaval in decades should have marked the beginning of an era of more stable finance – of sounder money and Credit and firmer economic underpinnings. It would have no doubt been an arduous process. Central bankers had other ideas.

I’ve never been tempted to give up on the analysis. For going on ten years, I’ve chronicled the greatest experiment in the history of central banking. Central bankers have adopted the most extreme rate, “money printing,” and market manipulation measures ever. They have guaranteed abundant cheap (virtually free) finance for about a decade now. What was meant to be a temporary rescue of fragile private-sector, market-based finance morphed into history’s greatest global Bubble.

The greatest flaw in central banker doctrine/strategy was to believe that after intervening temporarily with reflationary measures the system would stabilize and gravitate right back to normal operations. Central bankers reflated a deeply unsound financial structure, only exacerbating flaws and compounding contemporary finance’s vulnerabilities. In particular, a decade of reflationary measures profoundly inflated risk intermediation distortions and fragilities.

The “Moneyness of Risk Assets” has seen Trillions flow into an untested ETF complex on the assumption that central bankers would ensure ETF holdings remained a safe and liquid store of value. Reflationary measures also incentivized Trillions to flow into sovereign debt, corporate Credit, structured finance and the emerging markets on the belief that central bankers would not tolerate another market crisis. Trillions have flowed into various derivative trading strategies on the view that central bankers would ensure liquid and continuous markets – no matter the degree of market excess.

The upshot has been market distortions and the accumulation of risks on an unprecedented scale. Fragilities have surfaced on occasion (i.e. “flash crashs”), spooking the central banker community sufficiently to ensure that “temporary” reflationary measures evolved into Permanent Market Support Operations. Central bankers had slipped fully into the markets’ trap. Cautious measures expected to normalize policy over time only ensured that financial conditions loosened further - and global Bubble inflation accelerated.

Along the way, Permanent Market Support Operations changed the game – in global finance as well as throughout economies. Everyone was free to assume more market risk – savers, investors, pension funds and institutions, and the leveraged speculator community. Corporate management could issue more debt and buy back more stock. Easy “money” ensured an easy M&A boom. It took time, but animal spirits in the Financial Sphere eventually manifested in the Real Economy Sphere.

The most aggressive companies, managers, entrepreneurs and swindlers all enjoyed the greatest success. Seemingly any clever idea could attract funding. With finance virtually unlimited and free, almost any investment could be viewed as having merit irrespective of prospects for economic returns. There was abundant “money” to be thrown at everything – the cloud, the Internet of things, AI, robotics, autonomous vehicles, all things tech, pharmaceuticals, alternative energy, all things media and so on. It became New Paradigm 2.0, with the earlier nineties version now such a triviality.

Things just got too crazy. Central bankers were much too complacent as Bubble Dynamics gathered powerful momentum. Booming asset inflation and 4% unemployment weren’t enough to convince the Fed it was time to tighten up the reins. Meanwhile, the ECB and BOJ clung stubbornly to negative rates and massive QE programs. Chinese Credit went nuts. Awash in international flows, EM just kept borrowing. Through it all, wealth disparities only worsened, fueling in the U.S. a populist movement and anti-establishment revolt that placed the Trump administration in power. Despite a massive accumulation of debt and ongoing large deficits – not to mention increasingly overheated late-cycle economic dynamics - the Republicans pushed through historic tax cuts. Next on the President’s agenda: tariffs and trade battles.

Everyone became so transfixed by daily stock market records, historically low volatility and the easiest conditions imaginable throughout corporate Credit. It was easy to ignore pressures percolating on the inflation front. And it became just as easy to disregard the possibility that central bankers might actually raise rates to the point of tightening financial conditions. Heightened uncertainty began to manifest in currency market volatility. Meanwhile, excesses were mounting in the securities markets on a daily basis – including incredible flows into perceived safe and liquid ETFs, rank speculation, “short vol,” derivatives and leverage.

For the most part during this extraordinary cycle, Monetary Disorder has remained conveniently contained within the securities and asset markets, seemingly staying within the purview of global central bank policymaking. Rather suddenly, however, markets are beginning to realize there are unfolding risks not easily resolved by monetary stimulus. Deficit spending has become completely unhinged, while inflation is gaining sufficient momentum to garner concern. As such, central bankers may feel compelled to actually tighten financial conditions. Bond markets are on edge, commencing a long-overdue price adjustment. At the minimum, the Fed and others will likely be less hurried when coming to the defense of unstable equities markets.

The bulls see this week’s quick stock market recovery as confirmation of sound underlying fundamentals. The selloff was a technical market glitch completely detached from the reality of booming corporate earnings, robust economic growth and extraordinary prospects.

I see this week’s big market rally as confirmation of the Bubble thesis. Markets have lost the capacity to self-adjust and correct. Derivatives and speculation rule the markets. Option expiration week certainly provides fertile ground for short squeezes and the crushing of put holders. But it does raise the important question of whether markets at this point can correct without dislocating to the downside. I have serious doubts. The quick recovery has markets again dismissing mounting risks. Perhaps it will also keep the Fed thinking economic risks are tilted to the upside – that they need to ignore market volatility and stay focused on normalization.

My view is that normalization is impossible. Extended global market Bubbles are too fragile to endure a tightening of financial conditions. At the same time, sustaining Bubbles has become perilous. Especially in the U.S., with deficits and a weak currency as far as the eye can see, the risks of allowing inflation to gain a foothold are significant. For the first time in a while, there is pressure on the Fed to actually tighten financial conditions. This places the great central bank experiment at risk. Bubbles don’t work in reverse.

The world is changing. These flows out of corporate debt ETFs are a significant development – another step toward “Risk Off.” Speculative and hedging dynamics that hit equities hold potential to spark major dislocation and illiquidity in corporate Credit. For further evidence of change, look no further than a Tuesday headline from the Wall Street Journal: “White House Considering Cleveland Fed President Mester for Fed’s No. 2 Job.” A central banker I admire considered for a top Fed post? Is this part of a changing of the guard at our central bank, or perhaps administration officials recognize that with years of huge deficits looming on the horizon, along with dollar vulnerability, the Fed will soon be in need of some inflation-fighting credentials.

For the Week:

The S&P500 rallied 4.3% (up 2.2% y-t-d), and the Dow recovered 4.3% (up 2.0%). The Utilities gained 2.8% (down 5.7%). The Banks jumped 5.1% (up 6.6%), and the Broker/Dealers rose 4.8% (up 6.8%). The Transports increased 3.6% (down 1.0%). The S&P 400 Midcaps rallied 4.4% (unchanged), and the small cap Russell 2000 recovered 4.4% (up 0.5%). The Nasdaq100 surged 5.6% (up 5.9%).The Semiconductors rose 5.0% (up 5.2%). The Biotechs jumped 6.0% (up 11.1%). With bullion surging $31, the HUI gold index rallied 6.0% (down 3.8%).

Three-month Treasury bill rates ended the week at 1.56%. Two-year government yields surged 12 bps to 2.12% (up 31bps y-t-d). Five-year T-note yields gained nine bps to 2.63% (up 42bps). Ten-year Treasury yields added two bps to 2.88% (up 47bps). Long bond yields slipped three bps to 3.13% (up 39bps).

Greek 10-year yields jumped 16 bps to 4.24% (up 17bps y-t-d). Ten-year Portuguese yields fell 10 bps to 2.01% (up 6bps). Italian 10-year yields declined six bps to 1.99% (down 3bps). Spain's 10-year yields dipped two bps to 1.46% (down 11bps). German bund yields fell four bps to 0.71% (up 28bps). French yields declined three bps to 0.95% (up 17bps). The French to German 10-year bond spread widened one to 24 bps. U.K. 10-year gilt yields added a basis point to 1.58% (up 39bps). U.K.'s FTSE equities index rallied 2.9% (down 5.1%).

Japan's Nikkei 225 equities index increased 1.6% (down 4.6% y-t-d). Japanese 10-year "JGB" yields declined one basis point to 0.06% (up 1bp). France's CAC40 recovered 4.0% (down 0.6%). The German DAX equities index rallied 2.8% (down 3.6%). Spain's IBEX 35 equities index gained 2.0% (down 2.1%). Italy's FTSE MIB index jumped 2.8% (up 4.3%). EM markets were mostly higher. Brazil's Bovespa index surged 4.5% (up 10.6%), and Mexico's Bolsa rose 2.3% (down 1.0%). South Korea's Kospi index bounced 2.5% (down 1.9%). India’s Sensex equities index was little changed (down 0.1%). China’s Shanghai Exchange rose 2.2% (down 3.3%). Turkey's Borsa Istanbul National 100 index jumped 2.6% (up 1.0%). Russia's MICEX equities index advanced 2.6% (up 6.9%).

Junk bond mutual funds saw hefty outflows of $6.036 billion (from Lipper).

Freddie Mac 30-year fixed mortgage rates rose six bps to a near four-year high 4.38% (up 23bps y-o-y). Fifteen-year rates jumped seven bps to 3.84% (up 49bps). Five-year hybrid ARM rates gained six bps to 3.63% (up 45bps). Bankrate's survey of jumbo mortgage borrowing costs had 30-yr fixed rates down four bps to 4.55% (up 21bps).

Federal Reserve Credit last week increased $5.6bn to $4.385 TN. Over the past year, Fed Credit contracted $39.4bn, or 0.9%. Fed Credit inflated $1.574 TN, or 56%, over the past 276 weeks. Elsewhere, Fed holdings for foreign owners of Treasury, Agency Debt gained $11.1bn last week to $3.399 TN. "Custody holdings" were up $230bn y-o-y, or 7.2%.

M2 (narrow) "money" supply gained $7.9bn last week to a record $13.858 TN. "Narrow money" expanded $578bn, or 4.3%, over the past year. For the week, Currency slipped $1.2bn. Total Checkable Deposits declined $3.5bn, while savings Deposits rose $14.9bn. Small Time Deposits were little changed. Retail Money Funds dipped $2.2bn.

Total money market fund assets added $2.0bn to $2.829 TN. Money Funds gained $154bn y-o-y, or 5.8%.

Total Commercial Paper fell $12.2bn to $1.118 TN. CP gained $152bn y-o-y, or 15.8%.

Currency Watch:

The U.S. dollar index dropped 1.5% to 89.10 (down 3.3% y-o-y). For the week on the upside, the South African rand increased 3.4%, the Japanese yen 2.4%, the Norwegian krone 2.3%, the Brazilian real 2.2%, the New Zealand dollar 1.8%, the British pound 1.4%, the Swedish krona 1.4%, the South Korean won 1.4%, the Singapore dollar 1.3%, the euro 1.3%, the Swiss franc 1.3%, the Australian dollar 1.2%, the Mexican peso 1.0% and the Canadian dollar 0.2%. The Chinese renminbi declined 0.6% versus the dollar this week (up 2.61% y-t-d).

Commodities Watch:

The Goldman Sachs Commodities Index rallied 3.5% (up 0.3% y-t-d). Spot Gold jumped 2.4% to $1,347 (up 3.4%). Silver recovered 3.6% to $16.71 (down 2.5%). Crude rallied $2.48 to $61.68 (up 2%). Gasoline jumped 3.0% (down 2.5%), while Natural Gas declined 1.0% (down 13%). Copper surged 7.1% (down 1%). Wheat jumped 5.0% (up 10%). Corn rose 3.6% (up 7%).

Market Dislocation Watch:

February 11 – Bloomberg (Rachel Evans): “You just can’t keep a good trade down. The ProShares Short VIX Short-Term Futures fund, which lost more than 80% of its value on Feb. 6, took in the most cash on record last week. The product, which goes by the ticker SVXY, was the fifth-most popular exchange-traded fund in the U.S., absorbing more than $500 million…”

February 12 – Bloomberg (Luke Kawa): “Brave volatility traders are betting that lightning won’t strike twice. Two of the three most active options tied to the iPath S&P 500 VIX Short-Term Futures exchange-traded note (VXX) on Monday were way out-of-the-money calls. The major explosion of open interest in these options occurred in transactions that took place closer to the bid than to the ask price, which implies that this was motivated selling rather than fresh bets on another volatility spike. Volatility sellers are likely emboldened by signs the market’s fever is breaking. The Cboe Volatility Index… has roughly halved from last week’s peak, and U.S. stocks are up nearly 5% from their Feb. 9 lows.”

February 11 – Bloomberg (Luke Kawa and Joanna Ossinger): “Investors actively abandoned the world’s biggest passive fund during the onset of market mayhem. The SPDR S&P 500 exchange-traded fund (ticker SPY) suffered a record $23.6 billion in outflows last week amid the worst momentum swing in history for the underlying U.S. equity benchmark. Outflows amounted to 8% of the fund’s total assets at the start of the week, a rate of withdrawals not seen since August 2010.”

February 11 – Wall Street Journal (Alistair Gray and Robin Wigglesworth): “Wall Street is pointing the finger at insurance companies as an unlikely but pivotal source of the turbulence that wiped trillions of dollars off stock market values in recent days. While complex volatility-linked funds and algorithmic traders have been widely blamed for the wild price swings, strategists and investors said a significant portion of the selling could be traced to variable annuities, a popular tax-advantaged insurance-company product that offers customers guaranteed returns. US life insurers suffered losses on variable annuities in the financial crisis. Since then, insurers have responded by marketing variable annuities that put customers’ money into ‘managed volatility’ funds. These vehicles, which aim to produce steadier returns, shed risky assets when volatility spikes.”

February 12 – Wall Street Journal (Asjylyn Loder and Dave Michaels): “The recent implosion of two exchange-traded products is renewing questions about the impact of fast-growing passive funds on the markets they are meant to track. While exchange-traded funds have lowered the cost of investing and given individuals access to strategies once reserved for hedge funds and multibillion-dollar pensions, the $5 trillion global industry has ventured into complex strategies, sometimes with disastrous results. The latest example came on the evening of Feb. 5, as ETPs that bet against Wall Street’s fear gauge lost more than 80% of their value. The strategy has been a popular moneymaker in recent years as stocks marched steadily higher, keeping the Cboe Volatility Index, known as the VIX, at near-record lows.”

Trump Administration Watch:

February 13 – Bloomberg (Steven T. Dennis): “President Donald Trump’s budget blueprint doubles the deficits he forecast a year ago with little expectation they’ll shrink anytime soon. As a result, the $20 trillion federal debt that Trump railed against as a candidate is projected to balloon to $30 trillion a decade from now. And that’s despite the healthy dose of economic optimism in Monday’s budget: 3% growth, low inflation, low interest rates and low unemployment each year. It also assumes trillions in spending cuts Congress has already rejected… The prospect of encroaching inflation and higher interest rates contributed to the biggest stock market rout in two years. Investors who spent January celebrating Trump’s tax package with the biggest rally since 1997 watched as those gains dissolved, leaving the S&P 500 back where it was in November.”

February 12 – Politico (Theodoric Meyer): “Deficit spending is officially back in style, leaving Washington’s professional deficit scolds wondering how they’ll manage to persuade lawmakers to care about red ink again. The one-two punch of Republicans’ recent tax cuts and the bipartisan, two-year budget deal Congress passed last week could boost the next fiscal year's deficit — the difference between what the government spends and what it collects in taxes — to more than $1 trillion, according to projections. That’s caused a mixture of alarm and depression among the think tanks and foundations that have spent years pushing Congress to shrink the annual deficits.”

February 13 – Reuters (Roberta Rampton and David Lawder): “U.S. President Donald Trump said… he was considering a range of options to address steel and aluminum imports that he said were unfairly hurting U.S. producers, including tariffs and quotas. Trump's comments - his strongest signal in months that he will take at least some action to restrict imports of the two metals - came in a meeting with a bipartisan group of U.S. senators and representatives… Some of the lawmakers urged him to act decisively to save steel and aluminum plants in their states, but others urged caution because higher prices would hurt downstream manufacturers that consume steel and aluminum.”

February 14 – Bloomberg (Joe Light): “Fannie Mae will request an infusion of taxpayer money for the first time since 2012 because of an unintended but anticipated side effect of the corporate tax cut signed into law in December. The mortgage-finance company… said it will need to draw $3.7 billion from the U.S. Treasury in March to keep its net worth from going negative. The deficit was driven by a $6.5 billion loss in the fourth quarter, which came as a result of a drop in the value of assets Fannie can use to offset taxes. The assets became less valuable when Congress cut the corporate tax rate, resulting in a $9.9 billion hit.”

February 13 – Reuters (Katanga Johnson and Susan Cornwell): “The White House budget chief said… that, if he were still a member of Congress, he ‘probably’ would vote against a deficit-financed budget plan he and Trump are proposing. At a U.S. Senate panel hearing where he defended the administration’s new $4.4-trillion, fiscal 2019 spending plan, Mick Mulvaney was asked if he would vote for it, if he were still a lawmaker… ‘I probably would have found enough shortcomings in this to vote against it,’ said Mulvaney, director of the U.S. Office of Management and Budget (OMB)…”

U.S. Bubble Watch:

February 13 – Financial Times (Demetri Sevastopulo): “Dan Coats, the top US intelligence official, urged Congress to tackle the ballooning national debt, saying it posed a ‘dire threat’ to economic and national security. In presenting Congress with the US intelligence community’s annual global threat assessment — which ranged from the nuclear crisis on the Korean peninsula to Russian interference in US elections — Mr Coats called for action to prevent a ‘fiscal crisis . . . that truly undermines our ability to ensure our national security’. ‘The failure to address our long-term fiscal situation has increased the national debt to over $20tn,’ Mr Coats, the director of national intelligence, told the Senate intelligence committee. ‘This situation is unsustainable . . . and represents a dire threat to our economic and national security.’ His warning came a day after President Donald Trump released his budget proposal for fiscal 2019, which jettisoned a pledge from a year ago to eliminate the budget deficit over 10 years.”

February 15 – Bloomberg (Katia Dmitrieva): “Three measures of price pressures for American businesses showed they’re facing higher production costs, adding to evidence that inflation is creeping up in the U.S. economy. The Empire State Manufacturing prices-paid index increased 12.4 points to 48.6 in February, the highest level since 2012… A separate index from the Philadelphia Fed showed prices paid in that region also surging in February, reaching the highest since May 2011… In Washington, …U.S. wholesale prices rose in January on costs of energy and hospital services. The producer-price index increased 0.4% from the prior month…”

February 13 – Bloomberg (Prashant Gopal): “Home prices jumped to all-time highs in almost two-thirds of U.S. cities in the fourth quarter as buyers battled for a record-low supply of listings. Prices for single-family homes, which climbed 5.3% from a year earlier nationally, reached a peak in 64% of metropolitan areas measured, the National Association of Realtors said... Of the 177 regions in the group’s survey, 15% had double-digit price growth, up from 11% in the third quarter… While prices jumped 48% since 2011, incomes have climbed only 15%, putting purchases out of reach for many would-be buyers.”

February 16 – Reuters: “U.S. import prices rose more than expected in January as the cost of imported petroleum and a range of other goods increased, which could boost inflation in the coming months. …Import prices jumped 1.0% last month after an upwardly revised 0.2% rise in December.. In the 12 months through January, import prices increased 3.6%, the largest advance since April 2017, quickening from a 3.2% rise in December.”

February 13 – CNBC (Tae Kim): “The American consumer is loading up on debt. Total household debt rose by $193 billion to an all-time high of $13.15 trillion at year-end 2017 from the previous quarter, according to the Federal Reserve Bank of New York's Center for Microeconomic Data report… Mortgage debt balances rose the most in the December quarter rising by $139 billion to $8.88 trillion from the previous quarter. Credit card debt had the second largest increase of $26 billion to a total of $834 billion. The report said it was fifth consecutive year of annual household debt growth with increases in the mortgage, student, auto and credit card categories.”

February 13 – Bloomberg (Luzi-Ann Javier): “Optimism among small companies in the U.S. rose more than forecast in January, fueled by a record number of owners who said now was a good time to expand, according to a National Federation of Independent Business survey… Overall index rose by 2 points to 106.9 (est. 105.3), close to November’s 107.5 reading that was highest in monthly data to 1986.”

February 12 – Bloomberg (Matthew Boesler): “U.S. consumers said they expected to see the fastest wage growth in several years when polled in January, according to a monthly Federal Reserve Bank of New York survey. Consumers polled expected earnings to rise 2.73% in the coming year, the most since data collection began in 2013, according to results of the New York Fed’s Survey of Consumer Expectation... January was only the third month in the survey’s 56-month history in which expected wage growth topped expected consumer price inflation, which fell slightly, to 2.71%.”

February 13 – New York Times (Conor Dougherty): “The United States is on track to achieve the second-longest economic expansion in its history. Unemployment is at a 17-year low. And California’s state budget has a multibillion-dollar surplus. So why is its longtime governor, Jerry Brown, issuing prophecies of doom? ‘What’s out there is darkness, uncertainty, decline and recession,’ Mr. Brown said recently after presenting his final budget to legislators. California has accounted for about 20% of the nation’s economic growth since 2010… nBut Mr. Brown, in his final year in office, has raised the question on the minds of those paid to think about the economy: How long can this last? For California and the nation, there is a long list of things that could go wrong. A surging budget deficit could stoke higher interest rates. And if the recent upheaval in stocks signals a longer-term decline, it would hurt California in particular because its budget relies heavily on high earners whose incomes rise and fall with the market… In 2009, as the last recession took hold, California state revenue fell 19%, versus 8% for state revenues nationwide, according to Moody’s Analytics.”

February 14 – Bloomberg (Sho Chandra): “U.S. retail sales unexpectedly declined in January and December receipts were revised lower, indicating consumer demand in the first quarter may cool… Overall sales fell 0.3% (est. 0.2% gain), the most since February 2017, after little change in prior month (prev. 0.4% increase). Purchases at automobile dealers dropped 1.3%, the most since August.”

February 13 – Wall Street Journal (Gunjan Banerji): “A U.S. regulator is looking into whether prices linked to the stock market’s widely watched ‘fear index’ have been manipulated, according to people with knowledge of the matter. The Cboe Volatility Index, known as the VIX, is derived from S&P 500 options prices. The Financial Industry Regulatory Authority is scrutinizing whether traders placed bets on S&P 500 options to influence prices for VIX futures… Separately, a letter from a law firm Monday representing an unidentified client urged U.S. regulators to investigate VIX manipulation, claiming it has cost investors hundreds of millions of dollars in losses each month.”

Federal Reserve Watch:

February 14 – CNBC (Jeff Cox): “U.S. consumer prices rose considerably more than expected in January, fueling fears that inflation is about to turn dangerously higher. The Consumer Price Index rose 0.5% last month against projections of a 0.3% increase… Excluding volatile food and energy prices, the index was up 0.3% against estimates of 0.2%. The report indicated that price pressures were ‘broad-based,’ with rises in gasoline, shelter, clothing, medical care and food. Markets reacted sharply to the news.”

February 13 – Financial Times (Demetri Sevastopulo, Sam Fleming and Robin Wigglesworth): “The White House is considering appointing Loretta Mester, president of the Federal Reserve Bank of Cleveland, as vice-chair of the US Federal Reserve’s board of governors. One person familiar with the selection process for the powerful central banking role said White House officials had discussed the job with Ms Mester and were ‘impressed’ with her. However, the person stressed that there was currently no frontrunner for the position…”

February 13 – Reuters (Howard Schneider): “The recent stock market sell-off and jump in volatility will not damage the economy’s overall strong prospects, Cleveland Fed president Loretta Mester said… in warning against any overreaction to the turbulence in financial markets. ‘While a deeper and more persistent drop in equity markets could dash confidence and lead to a pullback in risk-taking and spending, the movements we have seen are far away from this scenario,’ Mester said of a market rout…”

February 14 – Wall Street Journal (Justin Lahart): “With the economy throwing off more heat, the biggest risk for the Federal Reserve is that it falls behind on raising interest rates. And if investors suffer as a result? So be it. Inflation picked up again last month. The Labor Department on Wednesday reported that consumer prices rose 0.5% in January from December, putting them 2.1% above their year-earlier level. Core prices, which exclude food and energy, rose 0.3% for a 1.8% gain on the year. Both measures were stronger than economists expected.”

China Watch:

February 12 – Reuters (Kevin Yao, Fang Cheng): “China’s banks extended a record 2.9 trillion yuan ($458.3bn) in new yuan loans in January, blowing past expectations and nearly five times the previous month as policymakers aim to sustain solid economic growth while reining in debt risks. While Chinese banks tend to front-load loans early in the year to get higher-quality customers and win market share, the lofty figure was even higher than the most bullish forecast… Net new loans surpassed the previous record of 2.51 trillion yuan in January 2016, which is likely to support growth not only in China but may underpin liquidity globally as major Western central banks begin to withdraw stimulus… Corporate loans surged to 1.78 trillion yuan from 243.2 billion yuan in December, while household loans rose to 901.6 billion yuan in January from 329.4 billion yuan in December…”

February 11 – Wall Street Journal (Manju Dalal, Shen Hong and Chuin-Wei Yap): “An engine of consumer loan growth in China is slowing. But that might not be such a bad thing, at least for regulators and market participants that have fretted about a rise in risky lending practices over the past year. China’s market for asset-backed securities—which bundle up car loans, mortgages, consumer loans and other receivables into bondlike products—surged in 2017, led by issuers including the financial affiliate of Alibaba Group Holding Ltd. and other nonbank lenders. Total issuance of such instruments, which are mostly denominated in yuan, jumped 90% to over $220 billion last year from 2016, according to S&P Global.”

February 13 – Bloomberg (Yuko Takeo and Yoshiaki Nohara): “Debt-laden Chinese conglomerate HNA Group Co. had its credit assessment cut for the second time in less than three months by S&P Global Ratings, which cited significant debt maturities amid deteriorating liquidity. Separately, some HNA directors and top executives have purchased offshore dollar bonds guaranteed by the group… The company is in a ‘very healthy’ financial position, it said. S&P lowered HNA’s credit profile to ccc+ from b.”

February 12 – Bloomberg: “HNA Group Co., the once-voracious hunter of global trophy assets, is seeking to sell more than $6 billion in properties worldwide as pressure intensifies for the Chinese conglomerate to speed up disposals so it can repay its debts. The group… said it agreed to sell two plots of land in Hong Kong it bought less than a year ago for HK$16 billion ($2 billion) to the city’s second-richest man. HNA is also said to have been in talks to sell a pair of office buildings in London’s Canary Wharf district it bought for more than $500 million and offering a raft of properties in the U.S. valued at about $4 billion.”

February 11 – Bloomberg: “Billionaire Hui Ka Yan’s China Evergrande Group, the nation’s number three by sales last year, has started selling homes cheap. A 12% discount will apply to many apartments ahead of a week-long Chinese New Year holiday… Sweeteners include down-payments by installment. The company may see headwinds for the property market amid local governments’ stringent home-buying curbs and the potential for liquidity to tighten. One analyst’s theory: this is a bid to please a government determined to cool housing prices, ahead of a long-standing plan to list a property unit on the mainland.”

February 11 – Wall Street Journal (Scott Patterson and Russell Gold): “Miners push bicycles piled high with bags of a grayish-blue ore along a dusty road to a makeshift market. There, they line up at wholesalers with nicknames such as Crazy Jack and Boss Lee. Most of the buyers are Chinese. Those buyers then sell to Chinese companies that ship the bags, filled with cobalt, to China for processing into rechargeable, lithium-ion batteries that power laptops and smartphones and electric cars. There is a world-wide race to lock up the supply chain for cobalt, which will likely be in even greater demand as electric-car production rises. So far, China is way ahead.”

Central Bank Watch:

February 11 – Reuters (John Miller): “The European Central Bank is concerned that the United States is exerting ‘political influence’ on exchange rates and will make this a theme at upcoming G20 meetings, ECB policymaker Ewald Nowotny said… ‘We in the ECB are certainly concerned about attempts by the United States to politically influence the exchange rate,’ Nowotny told Austrian broadcaster ORF. ‘That was a theme of economic discussions in Davos, where the ECB addressed this, and it will certainly be a theme at the upcoming G20 summit.’”

Global Bubble Watch:

February 12 – Bloomberg (Cecile Gutscher): “Societe Generale SA is telling yield-seeking bond investors to give up the ghost: they can no longer bank on dormant inflation underpinning risk bets, from credit to emerging markets to long-dated government debt. ‘The bear market in rates has started, and with it credit, and eventually emerging markets, should both come under pressure,’ strategists led by Brigitte Richard-Hidden wrote… ‘There has been a regime shift in the market, which implies further increases in yields.’”

February 10 – Financial Times (Chris Flood): “Investors ploughed more than $100bn in new cash into exchange traded funds in January, a record monthly inflow that helped drive assets held in ETFs globally above the $5tn mark for the first time. The surge in January follows four consecutive years of record breaking inflows into ETFs, a tectonic shift that is sending shockwaves across the entire asset management industry… Net new inflows into exchange traded funds and products reached $105.7bn in January, according to… ETFGI…”

February 13 – Financial Times (Joe Rennison and Eric Platt): “The premium investors are demanding to own loans that are packaged into bonds has tumbled to the lowest since the financial crisis, in a sign that the market has not been roiled by the return of volatility in stocks. The market for collateralised debt obligations, as the securities are known, has boomed over the past two years as the juicier yields they offer draws buyers. That, in turn, has driven the issuance of collateralised loan obligations that this year has already eclipsed the record pace of 2017. Barings… priced a $517m CLO — composed of loans made to weaker corporate borrowers — at the lowest spread over a benchmark interest rate since 2008. The safest triple A part of the CLO priced at just 99 bps above Libor…”

February 11 – Reuters (Tom Arnold and Alexander Cornwell): “Sharp swings in global financial markets in the past few days are not worrying since economic growth is strong but reforms are still needed to avert future crises, the managing director of the International Monetary Fund said… ‘I‘m reasonably optimistic because of the landscape we have at the moment. But we cannot sit back and wait for growth to continue as normal,’ she said…”

Fixed-Income Bubble Watch:'

February 13 – Wall Street Journal (Daniel Kruger and Michael S. Derby): “Bond investors are grappling with concerns that the U.S. government’s decisions to cut taxes and increase spending are stoking an economy that doesn’t need a boost, at the expense of long-term financial health. Selling in government bonds that began after the passage of tax cuts and accelerated amid fears of a pickup in inflation has darkened investors’ outlook in recent weeks. Even as the government boosts its borrowing, the Federal Reserve has stepped away from bond purchases and is now shrinking its holdings, raising worries about the appetite from private investors who will need to make up the difference. Because the 10-year Treasury note is a bedrock of global financial markets, rising yields… can lift borrowing costs, affecting everything from state and local governments to mortgages, credit cards, and corporate loans.”

February 12 – Bloomberg (Netty Idayu Ismail): “Treasury 10-year yields will rise to as high as 3.5% in the next six months as the market prices in a steeper pace of Federal Reserve tightening, according to Goldman Sachs Asset Management. The U.S. central bank will probably raise interest rates four times this year, defying the consensus for around three, said Philip Moffitt, Asia-Pacific head of fixed income…, which oversees more than $1 trillion. Yields will also increase as the Fed trims the holdings of Treasuries it purchased through quantitative easing, he said. ‘As QE gets tapered through this year and into next year, we’ve got a big swing in the supply duration coming,’ Moffitt said… ‘It’s going to put upward pressure on yields. I would think that 3.5% is not a very brave forecast.’”

February 15 – Bloomberg (Sid Verma): “As stocks boogied to the risk-on beat Wednesday, investors in the world’s third-largest fixed-income exchange-traded fund left the party at a frenetic pace. The iShares iBoxx $ Investment Grade Corporate Bond exchange-traded fund (LQD) was hit by a record $921 million outflow, the largest daily redemption since its 2002 inception… At 2.7%, it represents the largest post-crisis withdrawal as a share of total assets at the start of the session for the high-grade, dollar-denominated fund. It now manages $33 billion.”

February 13 – CNBC (Jeff Cox): “Fund managers have sliced their bond allocations to the lowest level in 20 years as fears grow that the sector poses the biggest threat to markets. Along with reducing their fixed income exposure, 60% of professional investors also say inflation and troubles overall in the bond market pose the biggest threat of a ‘cross-asset crash,’ according to the February Bank of America Merrill Lynch Fund Manager Survey. Respondents say they've reduced their bond portfolios to a net 69% underweight, the lowest since the survey began two decades ago.”

February 14 – Bloomberg (Danielle Moran): “Bankers say bad loans are made in good times, and the $3.8 trillion municipal-bond market may be no exception. High demand from investors, a dwindling supply of new deals, and historically low yield penalties on the riskiest bonds has created an borrower’s market, Municipal Market Analytics analysts Matt Fabian and Lisa Washburn wrote… This atmosphere has produced a rise in issuance in sectors most ‘prone to impairment,’ they said. ‘Over recent years the mix of defaults has become more diversified than it was previously,’ Washburn wrote. Before the 2008 credit crisis, nearly all defaults were concentrated in the healthcare and housing sectors. Now that trend is expanding into utility districts and tax-based issues, typically known as safe sectors, according to the firm.”

Europe Watch:

February 14 – Reuters (Jan Strupczewski): “Euro zone industrial production jumped more than expected in December…, underlining the fastest economic growth rate in a decade that economists expect to continue in 2018. Eurostat said industrial production in the 19 countries sharing the euro rose 0.4% month-on-month for a 5.2% year-on-year gain.”

February 13 – Financial Times (Robert Smith): “When European bond investors tired of private equity firms and the law firms they employ watering down key protections in junk-rated debt, they turned to the Association for Financial Markets in Europe. Influential asset managers such as AllianceBernstein and Schroders wrote a public letter to the board of AFME’s high-yield division — the closest thing the $400bn European junk bond market has to an industry trade body — expressing their dismay. These investor members of AFME took particular aim at the deteriorating quality of covenants — important clauses that restrict companies from taking reckless actions such as raising too much debt. That was in 2015. Today the quality of these covenants… is even worse. Asset managers such as pension funds are worried that whittling away these safeguards will leave them more exposed to losses when the credit cycle turns.”

Japan Watch:

February 14 – Financial Times (Robin Harding): “The yen’s surge to ¥106.5 against the dollar — a 15-month high — does not require market intervention, said Japan’s finance minister, as nerves grow about the currency’s sharp appreciation this year. Speaking to the budget committee of the Diet’s lower house, Taro Aso said the ‘yen isn’t rising or falling abruptly’ in a way that would justify the finance ministry stepping in and selling the currency. Against a backdrop of strong stock markets and solid global growth, Mr Aso’s remarks suggest the finance ministry does not yet fear a hit to Japan’s economy from the rising currency. His words may encourage markets to push the yen higher.”

February 13 – Financial Times (Hudson Lockett): “Japan’s economy has recorded eight consecutive quarters of economic growth — its longest streak for 28 years — despite the pace of expansion slowing in the final three months of 2017. A preliminary reading on gross domestic product from the Cabinet Office reported annualised growth of 0.5% in the fourth quarter, falling from a pace of 2.5% in the third quarter… However, consumption and business investment were both strong, suggesting that Japan’s economic cycle was not on the wane, with robust expansion set to continue in 2018. The eight quarters of growth mark Japan’s longest streak since a 12-quarter stretch that ended in 1989.”

EM Bubble Watch:

February 13 – Financial Times (Robert Smith): “Should investors worry about debt in emerging markets? The past week’s global market sell-off, and the rise in US interest rates that lies behind it, suggest they should at least keep a very close eye… One of the selling points of EMs during the rally in their stocks and bonds over the past two years has been the improvement in their macroeconomic fundamentals… Indeed, there is much less EM debt today than there was in the crisis years of the 1980s and 1990s. But since the global financial crisis of 2008-09, EM debts have been on the rise again. In dollar terms, in the IIF’s 21 countries, they quintupled from $12tn in March 2005 to $60tn in September last year. In relation to gross domestic product, they rose from 146% to 217%. Significantly, as the chart shows, the amount of debt owed in foreign currencies has also risen over the same period, both in absolute terms and as a share of GDP.”

Leveraged Speculation Watch:

February 13 – Bloomberg (Luzi-Ann Javier): “Billionaire hedge fund manager Ray Dalio boosted his holdings in the two largest gold-backed ETFs last quarter before prices of the metal capped the biggest annual gain in seven years. As of the end of December, Dalio’s Bridgewater Associates, the world’s biggest hedge fund, raised its stake in SPDR Gold Shares, its fifth-largest holding, by 14,091 shares to 3.91 million shares…”

Geopolitical Watch:

February 12 – Bloomberg (Gregory White): “The war in Syria is threatening to embroil the major powers in direct conflict. Russian President Vladimir Putin may have declared victory in his Syrian campaign two months ago, but… a strike by U.S.-led coalition forces in the east of Syria last week killed as many as 200 troops working for Russian military contractors. The raid was likely the first such deadly conflict between the former Cold War rivals since the Vietnam War, according to Russian experts. Both sides so far have tried to keep the details secret to avoid escalating an already volatile situation. Just days later, Israel downed an Iranian drone and struck targets in Syria, raising the ante in its efforts to drive forces backed by Tehran away from its border. Following those strikes, Putin urged ‘avoiding any steps that could lead to a new round of confrontation.’”

February 11 – Wall Street Journal (Rory Jones): “The loss of an Israeli military jet to Syrian fire over the weekend has raised the chances of a more forceful response from Israel to deter Iranian military expansion across its border, which could open up another front line in war-torn Syria. The clash began Saturday morning after Israel said it intercepted an Iranian drone that had infiltrated its airspace from Syria. Israel responded that day with airstrikes on Syrian military positions, and Syria shot down one of the Israeli warplanes, which crashed in Israeli territory. Israel then carried out more-extensive airstrikes on Saturday deep inside Syria targeting what its military said were Syrian and Iranian military positions.”

February 15 – Wall Street Journal (Yaroslav Trofimov): “Here’s what happened in Syria over the past week or so. Try to make out who’s whose friend—and who’s whose foe. The Russian-backed Syrian regime gave free passage through its territory to American-backed Kurdish militias so they could fight against America’s NATO ally Turkey. The Syrian regime at the same time attacked these American-backed Kurdish militias in another part of the country, triggering U.S. strikes that killed more than 100 Syrian troops and a significant number of Russian military contractors. In yet another part of Syria, Turkey threatened to attack American troops embedded with these Kurdish forces, prompting a counterwarning of an American military response.”

February 11 – Reuters (Parisa Hafezi): “Hundreds of thousands of Iranians rallied on Sunday to mark the anniversary of Iran’s 1979 Islamic revolution, denouncing the United States and Israel as oppressors. President Hassan Rouhani, addressing flag-waving crowds on central Tehran’s Azadi (Freedom) Square, made no specific reference to Israel’s air strikes in Syria on Saturday which it said were aimed at air defense and Iranian targets. But he told the crowd: ‘They (U.S. and Israel) wanted to create tension in the region ... they wanted to divide Iraq, Syria ... They wanted to create long-term chaos in Lebanon but ... but with our help their policies failed.’”

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