Friday, February 2, 2018

Weekly Commentary: The Grand Crowded Trade of Financial Speculation

Even well into 2017, variations of the “secular stagnation” thesis remained popular within the economics community. Accelerating synchronized global growth notwithstanding, there’s been this enduring notion that economies are burdened by “insufficient aggregate demand.” The “natural rate” (R-Star) has sunk to a historical low. Conviction in the central bank community has held firm – as years have passed - that the only remedy for this backdrop is extraordinarily low rates and aggressive “money” printing. Over-liquefied financial markets have enjoyed quite a prolonged celebration.

Going back to early CBBs, I’ve found it useful to caricature the analysis into two distinctly separate systems, the “Real Economy Sphere” and the “Financial Sphere.” It’s been my long-held view that financial and monetary policy innovations fueled momentous “Financial Sphere” inflation. This financial Bubble has created increasingly systemic maladjustment and structural impairment within both the Real Economy and Financial Spheres. I believe finance today is fundamentally unstable, though the associated acute fragility remains suppressed so long as securities prices are inflating.

The mortgage finance Bubble period engendered major U.S. structural economic impairment. This became immediately apparent with the collapse of the Bubble. As was the case with previous burst Bubble episodes, the solution to systemic problems was only cheaper “money” in only great quantities. Moreover, it had become a global phenomenon that demanded a coordinated central bank response.

Where has all this led us? Global “Financial Sphere” inflation has been nothing short of spectacular. QE has added an astounding $14 TN to central bank balance sheets globally since the crisis. The Chinese banking system has inflated to an almost unbelievable $38 TN, surging from about $6.0 TN back in 2007. In the U.S., the value of total securities-to-GDP now easily exceeds previous Bubble peaks (1999 and 2007). And since 2008, U.S. non-financial debt has inflated from $35 TN to $49 TN. It has been referred to as a “beautiful deleveraging.” It may at this time appear an exquisite monetary inflation, but it’s no deleveraging. We’ll see how long this beauty endures.

The end result has been way too much “money” slushing around global securities and asset markets – “hot money” of epic proportions. This has led to unprecedented price distortions across asset classes – unparalleled global Bubbles in sovereign debt, corporate Credit, equities and real estate – deeply systemic Bubbles in both (so-called) “risk free” and risk markets. And so long as securities prices are heading higher, it’s all widely perceived as a virtually sublime market environment. Yet this could not be further detached from the reality of a dysfunctional “Financial Sphere” of acutely speculative markets fueling precarious Bubbles - all dependent upon unyielding aggressive monetary stimulus.

I have posited that aggressive tax cuts at this late stage of the cycle come replete with unappreciated risks. Global central bankers for far too long stuck with reckless stimulus measures. A powerful inflationary/speculative bias has enveloped asset markets globally. Meanwhile, various inflationary manifestations have taken hold in the global economy, largely masked by relatively contained consumer price aggregates. Meanwhile, global financial markets turned euphoric and speculative blow-off dynamics took hold. A confluence of developments has created extraordinary financial, market, economic, political and geopolitical uncertainties – held at bay by history’s greatest Bubble.

Bloomberg: “U.S. Average Hourly Earnings Rose 2.9% Y/Y, Most Since 2009.” Average hourly earnings gains have been slowly trending higher for the past several years. Wage gains have now attained decent momentum, which creates uncertainty as to how the tax cuts and associated booming markets will impact compensation gains going forward.

February 2 - Bloomberg (Rich Miller): “As Jerome Powell prepares to take over as chairman of the Federal Reserve on Feb. 5, some of his colleagues are publicly agitating for a radical rethink of the central bank’s playbook for guiding monetary policy. Behind the push for reconsideration of the Fed’s 2% inflation target: a fear of running out of monetary ammunition in the next recession. With interest rates near historically low levels—and likely to remain that way for the foreseeable future—these officials worry the Fed will have little leeway to aid the economy when a downturn inevitably hits. They argue that revamping the inflation objective beforehand could help counteract that. ‘The most important issue on the table right now is that we need to consider the possibility of a new economic normal that forces us to reevaluate our targets,’ Federal Reserve Bank of Philadelphia President Patrick Harker said in a Jan. 5 speech.”

“Is the Fed’s Inflation Target Kaput?”, was the headline from the above Bloomberg article. There is a contingent in the FOMC that would welcome an inflation overshoot above target, believing this would place the Fed in a better position to confront the next downturn. With yields now surging, these inflation doves could be a growing bond market concern.

Interestingly, markets were said to have come under pressure Friday on hawkish headlines from neutral/dovish Dallas Fed President Robert Kaplan: “If We Wait to See Actual Inflation, We’ll Be Too Late; We’ll Likely Overshoot Full Employment This Year; We Central Bankers Must Be Very Vigilant; Base Case Is For 3 Rate Hikes in 2018, Could Be More.”

Are Kaplan’s comments to be interpreted bullish or bearish for the struggling bond market? Are bonds under pressure because of heightened concerns for future inflation - or is it instead more because of a fear of tighter monetary policy? Confused by the spike in yields back in 1994, the Fed questioned whether the bond market preferred a slow approach with rate hikes or, instead, more aggressive tightening measures that would keep a lid on inflation.

Just as a carefree Janet Yellen packs her bookcase for the Brookings Institute, the Powell Fed’s job has suddenly morphed from easy to challenging. With tax cut stimulus in the pipeline and signs of a backdrop supportive to higher inflation, a growing contingent within the FOMC may view more aggressive tightening measures as necessary support for an increasingly skittish bond market. At the minimum, the backdrop might have central bankers thinking twice before coming hastily to rescue vulnerable stock markets.

Ten-year Treasury yields surged 18 bps this week to 2.83%, up 44 bps y-t-d to the high going back to January 2014. Thirty-year yields jumped 18 bps to 3.09% (up 35bps y-t-d). Rising yields are a global phenomenon. German bund yields rose another 14 bps to 0.77%, the high since July 2015. UK yields this week rose 13 bps (1.58%), and Canadian yields rose eight bps (2.36%). Higher bond yields were not limited to developed markets. Yields rose 18 bps in Mexico (3.91%), 14 bps in Brazil (4.82%), 18 bps in Peru (4.66%) and 20 bps in Argentina (6.42%). Yields rose 16 bps in India (7.56%) and 11 bps in Hong Kong (2.27%).

The marketplace has begun to ponder risk again. With liquidity abundant and “Risk On” in total command, market participants have been happy to disregard risk as they chase (somewhat) higher yields at the Periphery. Hit with an unanticipated bout of risk aversion, the Periphery suddenly looks less appealing. Hungary’s bond yields surged 31 bps this week to 2.57%, Russian yields jumped 19 bps to 7.19% and Ukraine yields rose 19 bps to 6.91%. Elsewhere, Deutsche Bank was slammed for 11.6% on poor earnings and renewed investor anxiousness. European bank stocks dropped 3.0% this week. Down 4.2% this week, Germany’s DAX equities index is now down for the year.

Equities were hit this week by the first significant selling in some time. For the week, the S&P500 dropped 3.9%. Down 1.7%, the Banks (financials more generally) outperformed as yields lurched higher. Economically-sensitive stocks were under pressure, as were the highflyers. The Semiconductors sank 4.6%, and the Biotechs dropped 4.3%. Broader market losses were in line with the S&P500. For the most part, it was broad-based selling with few places to hide.

February 1 – Bloomberg (Sarah Ponczek and Lu Wang): “Coordinated selling in stocks and bonds is making life miserable for investors in one of the most popular asset allocation strategies: those lumped together under the rubric of 60/40 mutual funds. Counter to their owners’ hope, that pain in one will be assuaged by the other, this week has seen both fixed-income and equities tumbling as concern has built about the pace of Federal Reserve interest rate increases. Funds that blend assets have borne the brunt, suffering their worst weekly performance since September 2016.”

Stock prices have been going up for a long time – and seemingly straight up for a while now. Bonds, well, they’ve been in a 30-year bull market. Myriad strategies melding stocks and fixed-income have done exceptionally well. And so long as bonds rally when stocks suffer their occasional (mild and temporary) pullbacks, one could cling to the view that diversified stock/bond holdings were a low risk portfolio strategy (even at inflated prices for both). And for some time now, leveraging a portfolio of stocks and bonds has been pure genius. The above Bloomberg story ran Thursday. By Friday’s close, scores of perceived low-risk strategies were probably questioning underlying premises. A day that saw heavy losses in equities, along with losses in Treasuries, corporate Credit and commodities, must have been particularly rough for leveraged “risk parity” strategies.

It’s worth noting that the U.S. dollar caught a bid in Friday’s “Risk Off” market dynamic. Just when the speculator Crowd was comfortably positioned for dollar weakness (in currencies, commodities and elsewhere), the trade abruptly reverses. It’s my view that heightened currency market volatility and uncertainty had begun to impact the general risk-taking and liquidity backdrop. And this week we see the VIX surge to 17.31, the high since the election.

The cost of market risk protection just jumped meaningfully. Past spikes in market volatility were rather brief affairs – mere opportunities to sell volatility (derivatives/options) for fun and hefty profit. I believe markets have now entered a period of heightened volatility. To go along with currency market volatility, there’s now significant bond market and policy uncertainty. The premise that Treasuries – and, only to a somewhat lesser extent, corporate Credit – will rally reliably on equity market weakness is now suspect. Indeed, faith that central bankers are right there to backstop the risk markets at the first indication of trouble may even be in some doubt with bond yields rising on inflation concerns. When push comes to shove, central bankers will foremost champion bond markets.

While attention was fixed on U.S. bond yields and equities, it’s worth noting developments with another 2018 Theme:

February 2 – Wall Street Journal (Shen Hong): “Chinese stocks had their worst week since 2016, with fresh concerns about Beijing’s campaign to cut financial risk and predictions of a slowing economy helping erase half of the market’s year-to-date gains in just a few days… Mr. Zhang [chief executive of CYAMLAN Investment] said the increasingly frequent market intervention by the ‘national team’ to prop up the major indexes could prove counterproductive. ‘It’s OK to bring in the national team when there’s a huge crisis but if it’s there everyday, it will create even more jitters,’ Mr. Zhang said. ‘If you see policemen everywhere, don’t you feel less safe?’”

The Shanghai Composite dropped 2.7% this week. Losses would have been headline-making if not for a 2.1% rally off of Friday morning lows. The Shenzhen Exchange A index sank 6.6% this week, and China’s growth stock ChiNext Index was hit 6.3%. The small cap CSI 500 index fell 5.9%, and that was despite a 2.1% rally off Friday’s lows (attributed to “national team” buying). Financial stress has been quietly gaining momentum in China, with HNA and small bank liquidity issues the most prominent. As global liquidity tightens, I would expect Chinese Credit issues to be added to a suddenly lengthening list of global concerns.

Unless risk markets can quickly regain upside momentum, I expect “Risk Off” dynamics to gather force. “Risk On” melt-up dynamics were surely fueled by myriad sources of speculative leverage, including derivative strategies (i.e. in-the-money call options). As confirmed this week, euphoric speculative blow-offs are prone to abrupt reversals. Derivative players that were aggressively buying S&P futures to dynamically hedge derivative exposures one day can turn aggressive sellers just a session or two later. And in the event of an unanticipated bout of self-reinforcing de-risking/de-leveraging, it might not take long for the most abundant market liquidity backdrop imaginable to morph into an inhospitable liquidity quandary.

February 1 – Bloomberg (Sarah Ponczek): “When stocks fall, investors typically pull money out of the market. But when U.S. equities suffered their worst two-day slump since May, some traders didn’t blink an eye. Exchange-traded funds took in $78.5 billion in January, exceeding the previous monthly record by nearly 30%. ETFs saw close to $4 billion a day in inflows even on the stock market’s down days, according to Eric Balchunas, a Bloomberg Intelligence senior ETF analyst…”

Adding January’s $79 billion ETF inflow to 2017’s record $476 billion puts the 13-month total easily over half a Trillion. If the ETF Complex is hit by significant outflows, it’s not clear who will take the other side of the trade. This is especially the case if the hedge funds move to hedge market risk and reduce net long exposures. And let there be no doubt, the leveraged speculators will be following ETF flows like hawks (“predators”).

January 28 – Financial Times (Robin Wigglesworth): “Vanguard fears that ‘predators’ are taking advantage of exchange traded funds at the expense of retail investors and hopes that an expected overhaul by US regulators will not mandate perfect transparency for the booming $4.8tn industry. ETFs try to track indices and markets such as the S&P 500…, giving investors cheap exposure to a wide array of assets. The vast majority disclose their holdings daily and if an index they track changes, they must then adjust their holdings before the close of trading. The daily shifts in markets means ETFs are vulnerable to opportunistic traders such as hedge funds and high-frequency trading firms who can try to ‘front-run’ their efforts at rebalancing their holdings.”

And I’m having difficulty clearing some earlier (Bloomberg) interview comments from my mind:

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

Dalio: “’There is a lot of cash on the sidelines’. ... We’re going to be inundated with cash, he said. “If you’re holding cash, you’re going to feel pretty stupid.’”

Here I am, as usual, plugging away late into Friday night. So, who am I to take exception to insight from a billionaire hedge fund genius. But to discuss the possibility of the worst bond bear market since 1981 - and then suggest those holding cash “are going to feel pretty stupid”? Seems to be a disconnect there somewhere. Going forward, I expect stupid cash to outperform scores of brilliant strategies. The historic “Financial Sphere” Bubble has ensured that ungodly amounts of “money” and leverage have accumulated in The Grand Crowded Trade of Financial Speculation.

For the Week:

The S&P500 dropped 3.9% (up 3.3% y-t-d), and the Dow sank 4.1% (up 3.2%). The Utilities were down 2.2% (down 5.5%). The Banks declined 1.7% (up 7.2%), and the Broker/Dealers fell 2.0% (up 4.2%). The Transports fell 3.9% (up 0.7%). The S&P 400 Midcaps lost 3.9% (up 0.9%), and the small cap Russell 2000 dropped 3.8% (up 0.8%). The Nasdaq100 fell 3.7% (up 5.7%).The Semiconductors sank 4.6% (up 5.2%). The Biotechs dropped 4.3% (up 11.7%). With bullion down $17, the HUI gold index sank 7.5% (down 2.2%).

Three-month Treasury bill rates ended the week at 145 bps. Two-year government yields added two bps to 2.14% (up 26bps y-t-d). Five-year T-note yields rose 12 bps to 2.59% (up 38bps). Ten-year Treasury yields jumped 18 bps to 2.84% (up 44bps). Long bond yields surged 18 bps to 3.09% (up 35bps).

Greek 10-year yields added two bps to 3.65% (down 42bps y-t-d). Ten-year Portuguese yields rose seven bps to 2.02% (up 7bps). Italian 10-year yields rose four bps to 2.05% (up 3bps). Spain's 10-year yields gained six bps to 1.47% (down 10bps). German bund yields jumped 14 bps to 0.77% (up 34bps). French yields rose 11 bps to 1.02% (up 23bps). The French to German 10-year bond spread narrowed three to 25 bps. U.K. 10-year gilt yields gained 13 bps to 1.58% (up 39bps). U.K.'s FTSE equities index dropped 2.9% (down 3.2%).

Japan's Nikkei 225 equities index fell 1.5% (up 2.2% y-o-y). Japanese 10-year "JGB" yields added a basis point to 0.09% (up 4bps). France's CAC40 fell 3.0% (up 1.0%). The German DAX equities index sank 4.2% (down 1.0%). Spain's IBEX 35 equities index fell 3.6% (up 1.7%). Italy's FTSE MIB index dropped 2.7% (up 6.2%). EM markets were lower. Brazil's Bovespa index declined 1.7% (up 10.0%), and Mexico's Bolsa fell 1.3% (up 2.1%). South Korea's Kospi index lost 1.9% (up 2.3%). India’s Sensex equities index fell 2.7% (up 3.0%). China’s Shanghai Exchange was hit 2.7% (up 4.7%). Turkey's Borsa Istanbul National 100 index dropped 2.1% (up 2.4%). Russia's MICEX equities index slipped 0.6% (up 8.2%).

Junk bond mutual funds saw outflows of $869 million (from Lipper).

Freddie Mac 30-year fixed mortgage rates jumped seven bps to a 10-month high 4.22% (up 3bps y-o-y). Fifteen-year rates gained six bps to 3.68% (up 27bps). Five-year hybrid ARM rates added a basis point to 3.53% (up 30bps). Bankrate's survey of jumbo mortgage borrowing costs had 30-yr fixed rates up six bps to 4.35% (up 4bps).

Federal Reserve Credit last week declined $12.2bn to $4.388 TN. Over the past year, Fed Credit contracted $27.1bn, or 0.6%. Fed Credit inflated $1.577 TN, or 57%, over the past 274 weeks. Elsewhere, Fed holdings for foreign owners of Treasury, Agency Debt jumped $14.4bn last week to $3.366 TN. "Custody holdings" were up $201bn y-o-y, or 6.3%.

M2 (narrow) "money" supply rose $10.9bn last week to $13.847 TN. "Narrow money" expanded $557bn, or 4.2%, over the past year. For the week, Currency increased $1.4bn. Total Checkable Deposits slipped $2.9bn, while savings Deposits gained $12.7bn. Small Time Deposits were about unchanged. Retail Money Funds were little changed.

Total money market fund assets dropped $25.4bn to a two-month low $2.799 TN. Money Funds gained $119bn y-o-y, or 4.4%.

Total Commercial Paper rose another $10.0bn to a five-year high $1.139 TN. CP gained $173bn y-o-y, or 16.1%.

Currency Watch:

The U.S. dollar index was little changed at 89.194 (down 3.2% y-o-y). For the week on the upside, the euro increased 0.3% and the Swiss franc dipped 0.1%. For the week on the downside, the Brazilian real declined 2.2%, the Australian dollar 2.2%, the South African rand 1.9%, the South Korean won 1.9%, the Japanese yen 1.4%, the Canadian dollar 1.0%, the Singapore dollar 0.9%, the New Zealand dollar 0.7%, the Mexican peso 0.6%, the Norwegian krone 0.6%, the Swedish krona 0.4%, and the British pound 0.3%. The Chinese renminbi gained 0.43% versus the dollar this week (up 3.26% y-t-d).

Commodities Watch:

The Goldman Sachs Commodities Index fell 1.5% (up 3.2% y-t-d). Spot Gold dipped 1.2% to $1,333 (up 2.3%). Silver sank 4.2% to $16.709 (down 2.5%). Crude dipped 69 cents to $65.45 (up 8%). Gasoline lost 3.4% (up 4%), and Natural Gas sank 19% (down 4%). Copper slipped 0.4% (down 3%). Wheat gained 1.3% (up 5%). Corn rose 1.4% (up 3%).

Trump Administration Watch:

January 31 – Reuters (Damon Darlin): “President Donald Trump called on the U.S. Congress… to pass legislation to stimulate at least $1.5 trillion in new infrastructure spending. In his State of the Union speech to Congress, Trump offered no other details of the spending plan, such as how much federal money would go into it, but said it was time to address America’s ‘crumbling infrastructure.’ Rather than increase federal spending massively, Trump said: ‘Every federal dollar should be leveraged by partnering with state and local governments and, where appropriate, tapping into private-sector investment.’”

January 30 – Bloomberg (Toluse Olorunnipa and Justin Sink): “President Donald Trump plans to promote the Republican tax overhaul he signed into law in his first State of the Union speech on Tuesday night, but fiscal headwinds mean he’s likely to have less legislative success in his second year in office. Democrats and Republicans have voiced concerns about the administration’s approach to financing a large-scale infrastructure program and military investment… after passing a $1.5 trillion tax bill that’s projected to balloon the federal deficit. ‘He has to get some credit for the tax bill but it’s going to turn out to be perhaps a Pyrrhic victory because he’s not going to be able to get anything else done this year,’ Steve Bell, a former Republican Senate Budget Committee staff director, said… ‘You are not going to get a major infrastructure bill.’”

January 31 – Politico (Sarah Ferris and Seung Min Kim): “Congress is a week away from another government shutdown. And if it happens this time, the blame may lie with Republicans, who are struggling to keep their lawmakers in line. Republicans have considered a stopgap funding bill that could run one month or possibly deeper into March, according to multiple sources. Discussions have been fluid, however, as House and Senate Republicans gather this week in West Virginia for their annual retreat. The House could vote as soon as Tuesday, two days before funding runs dry. But many rank-and-file GOP lawmakers who reluctantly backed the last temporary funding bill, including conservatives and defense hawks, are balking at yet another patch.”

January 31 – Bloomberg (Liz McCormick and Saleha Mohsin): “President Donald Trump’s administration will increase the amount of long-term debt it sells to $66 billion this quarter, marking the first boost in borrowing since 2009 as the Treasury seeks to cover mounting budget deficits. The Treasury is shaping the government’s borrowing plans against a budget shortfall that grew to $665.7 billion last fiscal year because of higher spending on Medicare, Social Security and other programs for an aging population. The gap is expected to widen further due to tax cuts enacted this year that are projected to reduce revenue by almost $1.5 trillion over the next decade.”

January 31 – Wall Street Journal (Kate Davidson and Daniel Kruger): “For decades, the U.S. government could issue as much debt as it needed to finance deficits without worrying about how it affected financial markets or the economy. That might be changing. Treasury yields are rising, some investors think, in part because the supply of government bonds hitting financial markets is on the rise as budget deficits rise as a result of the Trump administration’s recent $1.5 trillion tax cut. The Treasury said… that the size of its regular auctions of bills, notes and bonds were going up in the coming months. A group of private banks that advise the Treasury—known as Treasury Borrowing Advisory Committee, or TBAC—estimated the Treasury would need to borrow on net $955 billion in the fiscal year that ends Sep. 30, up substantially from $519 billion the previous fiscal year… The TBAC group estimated that would rise further to $1.083 trillion in fiscal 2019 and $1.128 trillion in fiscal 2020.”

January 29 – Reuters (Susan Cornwell): “As the U.S. Congress limps toward the likely passage next week of another stopgap spending bill to avert a government shutdown, a Washington think tank has estimated the federal budget deficit is on track to blow through $1 trillion in 2019. If it does, it would be the first time since 2012 the U.S. economy will have to support a deficit so large, highlighting a basic shift for the Republican Party, which has traditionally prided itself on fiscal conservatism. The Committee for a Responsible Federal Budget… said the red ink may rise in fiscal 2019 to $1.12 trillion. If current policies continue, it said, the deficit could top a record-setting $2 trillion by 2027.”

January 30 – New York Times (Sui-Lee Wee): “Chinese officials have warned that they will retaliate against American companies if President Trump imposes tariffs on China, an American business group said…, with airplanes and agricultural products among the likely targets. The warning, issued by the American Chamber of Commerce in China, came just hours before Mr. Trump was expected to address the issue during his State of the Union address. The Trump administration is investigating whether it should impose a series of trade actions against China, in areas like technology and intellectual property theft as well as in traditional areas of trade disputes like steel and aluminum.”

January 29 – Bloomberg (Jonathan Stearns and Nikos Chrysoloras): “The European Union gave President Donald Trump a fresh warning about any U.S. curbs on imports from Europe by pledging rapid retaliation, highlighting the persistent risk of a trans-Atlantic trade war. The EU fired the shot across the U.S. bow after Trump said… over the weekend that he has ‘a lot of problems with the European Union.’ This ‘may morph into something very big’ from ‘a trade standpoint,’ he said… ‘The European Union stands ready to react swiftly and appropriately in case our exports are affected by any restrictive trade measures from the United States,’ Margaritis Schinas, chief spokesman of the commission, the 28-nation EU’s executive arm, told reporters…”

January 28 – Reuters (Steve Holland and Pete Schroeder): “President Donald Trump’s national security team is looking at options to counter the threat of China spying on U.S. phone calls that include the government building a super-fast 5G wireless network, a senior administration official said… The official, confirming the gist of a report from, said the option was being debated at a low level in the administration and was six to eight months away from being considered by the president himself. The 5G network concept is aimed at addressing what officials see as China’s threat to U.S. cyber security and economic security.”

U.S. Bubble Watch:

January 29 – Wall Street Journal (Harriet Torry): “Soaring stock prices and improving job prospects have set Americans off on a spending splurge that is cutting into how much they sock away for retirement and rainy days. U.S. household net worth has risen from $56 trillion in 2008 to $97 trillion in the third quarter of 2017. It is natural for people to spend a bit of their rising lifetime savings when asset values are increasing. Economists call that a ‘wealth effect.’ … The U.S. household saving rate dropped in December to its lowest level since the height of the 2000s housing boom, when many Americans were drawing on rising equity in their homes to spend on vacations, new cars, appliances and more.”

February 1 – Reuters (Richard Leong): “The U.S. economy is on track to grow at a 5.4% annualized rate in the first quarter following the latest data on manufacturing and construction spending, the Atlanta Federal Reserve’s GDPNow forecast model showed… The latest estimate on gross domestic product was faster than the 4.2% growth pace calculated on Monday…”

February 1 – Bloomberg (Katia Dmitrieva): “Productivity in the U.S. unexpectedly fell for the first time since early 2016 as working hours slightly outpaced output, underscoring a sluggish pace of efficiency gains during this expansion… Measure of nonfarm business employee output per hour decreased at 0.1% annualized rate (est. 0.7% gain) after downwardly revised 2.7% gain in previous three months.”

January 31 – Bloomberg (Sho Chandra): “Total U.S. employee compensation rose in the fourth quarter and matched the biggest 12-month gain since 2008, as private-sector pay picked up… Index rose 0.6% q/q (matching est.) after 0.7% gain in prior three months… Private-sector wages and salaries rose from a year earlier by 2.8%, also matching the best gain of this expansion.”

January 30 – Wall Street Journal (Laura Kusisto): “The U.S. homeownership rate rose in 2017 for the first time in 13 years, driven by young buyers who overcame rising prices, tight supply and strict lending conditions to purchase their first homes. The annual increase marks a crucial turning point because it comes after the federal government reined in bubble-era policies that encouraged banks to ease lending standards to boost homeownership. This time, what’s driving the market is a shift in favor of owning rather than renting coming from the largest homebuying generation since the baby boomers: millennials.”

January 30 – CNBC (Diana Olick): “The supply crisis in the housing market is not letting up, and consequently neither are the gains in home values. National home prices continued their run higher in November, rising 6.2% annually on S&P CoreLogic Case-Shiller's most broad survey, up from 6.1% in October. Another S&P index of the nation's 20 largest housing markets showed a 6.4% gain… ‘Home prices continue to rise three times faster than the rate of inflation,’ says David M. Blitzer, Managing Director and Chairman of the Index Committee at S&P Dow Jones Indices. Blitzer blames the continued lack of supply for the price gains…”

January 30 – Bloomberg (Matthew Boesler): “Following a surge in the number of Americans forming households as renters over the past decade in lieu of homeownership, the tide is starting to turn in the other direction. The number of owner-occupied housing units rose 2% in 2017, logging the fastest pace of increase over a four-quarter stretch since 2005 -- around the time the homeownership rate peaked. Units occupied by renters were down 0.2% from a year earlier…”

January 30 – Bloomberg (Patrick Clark): “A new generation of affluent homebuyers powered by a surge in inherited wealth is driving the luxury-home market, demanding larger spaces and fancier finishes, according to a report heralding ‘the rise of the new aristocracy.’ Prospective homebuyers under 50 account for most of those shopping for homes priced at $1 million or more… Nearly a quarter of high-net-worth consumers between 25 and 49 said they would look for at least 20,000 square feet when they made their next home purchase… The report is based on a survey of more than 500 consumers with at least $1 million in investable assets, conducted… on behalf of Luxury Portfolio International…”

February 1 – Bloomberg (Shelly Hagan): “U.S. consumer confidence, along with a measure of Americans’ views of the economy, advanced last week to the highest levels in nearly 17 years, the Bloomberg Consumer Comfort Index showed… Measure tracking current views of the economy increased to 57.8, also the highest since March 2001…”

February 1 – Reuters (Lucia Mutikani): “U.S. construction spending increased more than expected in December as investment in private construction projects rose to a record high and federal government outlays rebounded strongly. …Construction spending rose 0.7% to an all-time high of $1.25 trillion.”

January 30 – Financial Times (Nicole Bullock): “US initial public offerings are off to their strongest start to a year on record, as the equity market rally lures companies to list. According to Dealogic, companies have raised nearly $8bn in IPOs so far this year, the most since it began tracking the market in 1995. At 17, the number of deals is the highest year to date since 1996.”

January 31 – Financial Times (Ed Crooks): “US oil production has returned to its record high point, 47 years after the previous peak during the final days of the last Texas oil boom, as the shale revolution that was temporarily set back by low crude prices has reignited. The government’s Energy Information Administration estimated… that US output was running at just under 10.04m barrels per day last November, fractionally below the previous record set in November 1970. Soaring output from shale wells has put the US on course to overtake Saudi Arabia and Russia to become the world’s largest crude producer, shaking up oil markets and the geopolitics of energy.”

January 31 – Bloomberg (Jeanna Smialek): “The man who made the term ‘irrational exuberance’ famous says investors are at it again. ‘There are two bubbles: We have a stock market bubble, and we have a bond market bubble,’ Alan Greenspan, 91, said… on Bloomberg Television… Greenspan, who led the Federal Reserve from 1987 until 2006, memorably used the phrase to describe asset values during the 1990’s dot-com bubble… ‘At the end of the day, the bond market bubble will eventually be the critical issue, but for the short term it’s not too bad… But we’re working, obviously, toward a major increase in long-term interest rates, and that has a very important impact, as you know, on the whole structure of the economy.’”

Federal Reserve Watch:

January 31 – Bloomberg (Craig Torres): “Janet Yellen spent most of her four years as Federal Reserve chair as a dove but ended her term on a hawkish note, building the case for further interest-rate increases at her final policy meeting before handing over to Jerome Powell. While leaving rates unchanged, the U.S. central bank said ‘gains in employment, household spending and business fixed investment have been solid,’ in… that also upgraded the outlook for inflation, paving the way for a hike in March. Powell will be sworn in as Fed chair on Feb. 5. Policy makers tweaked the language of the statement to include two references to the word ‘further’ in connection with their outlook for additional gradual rate hikes, which economists said was designed to underscore that rates were headed higher.”

China Watch:

January 31 – Bloomberg: “China’s banking regulator has told lenders in Shanghai to increase their scrutiny of loans for mergers and acquisitions to ensure the funds aren’t used to buy land… A significant portion of M&A loans in Shanghai have been used for deals involving land as the main underlying asset, the China Banking Regulatory Commission’s Shanghai branch said in a notice issued in recent days… The regulator requested banks to strictly comply with current policies on M&A loans and other real estate lending policies. The directive marks the latest move in China’s crackdown on risks in the $38 trillion banking industry and its campaign to reduce the flow of money into riskier areas such as real estate. Authorities stepped up restrictions on lenders’ entrusted loans business last month, plugging a loophole in shadow financing to the property sector, after last year tightening the sources of home loans.”

January 28 – Financial Times (Emma Dunkley and Gabriel Wildau): “China’s $4tn bond market faces a refinancing challenge over the next five years as more than half of the outstanding debt matures, heightening concerns over default risk by some borrowers. Companies, state-owned enterprises, financial institutions and sovereign borrowers… have $409bn of onshore and offshore bonds maturing in 2018, followed by $619bn in 2019 and $664bn in 2020, according… Dealogic. The $2.7tn in maturing debt represents more than half the total amount of China’s $4tn in outstanding bond issuance, including perpetual bonds. A test for many borrowers is that new debt will be more expensive given a higher interest rate environment.”

January 28 – Reuters (Stella Qiu and Ryan Woo): “China’s economic growth will likely slow to 6.5-6.8% this year, a senior official at the country’s top economic planner wrote in the Beijing Daily…, while warning about the risks of ‘Black Swan’ and ‘Gray Rhino’ events. Black swans, or unforeseen occurrences, and gray rhinos, or highly obvious yet ignored threats, are likely to occur this year with adverse consequences, Fan Hengshan, vice secretary general of the National Development and Reform Commission (NDRC), wrote in a commentary in the state-controlled newspaper.”

January 29 – Bloomberg: “The crisis surrounding HNA Group Co. deepened after it emerged that the Chinese company’s ability to repay its debt will face a potential shortfall of at least 15 billion yuan ($2.4bn) in the first quarter. The sprawling conglomerate warned major creditors about its financial status in a meeting in Hainan last week, though it also said that the pressure will probably ease in the second quarter as the group steps up asset disposals…”

January 30 – Bloomberg: “China’s Great Fire Sale looks set to take off. HNA Group Co., the indebted Chinese aviation-to-hotels conglomerate, told creditors it will seek to sell about 100 billion yuan ($16bn) in assets in the first half of the year to repay debts and stave off a liquidity crunch… Under the proposal, about 80% of that would be executed in the second quarter… The move is the latest in a steady drumbeat of news signaling the urgency of HNA’s liquidity situation. It also shows how after spending tens of billions of dollars gobbling up large stakes in everything from Deutsche Bank AG to Hilton Worldwide Holdings Inc., the company that once symbolized the country’s seemingly insatiable appetite for overseas assets is reversing course as China clamps down on what it describes as ‘irrational’ investments.”

January 31 – Reuters (Stella Qiu and Ryan Woo): “China’s manufacturing sector sustained growth at multi-month highs in January, a private business survey showed…, as factories continued to raise output to meet new orders, suggesting resilience in the world’s second-largest economy.”

January 29 – Bloomberg: “Three quarters of companies surveyed by the American Chamber of Commerce in China say they feel increasingly unwelcome, reflecting perceptions foreign firms aren’t treated equally to domestic competitors. The disparity in some cases comes from uneven enforcement of the law, which some firms say has become a version of protectionism, according to a survey released Tuesday. Protectionism is one of the top challenges, along with rising labor costs and supply of skilled workers, even as an increasing share of firms report rising revenues, according to responses from more than 400 companies…”

Central Bank Watch:

February 1 – Financial Times (Nicholas Megaw): “The European Central Bank may be forced to fight back if US leaders continue to prod currency markets to dent the strength of the dollar, one of the central bank’s most senior policymakers has warned. Currency markets gyrated last week after US Treasury Secretary Steven Mnuchin declared that the White House would welcome a weaker dollar… In an interview…, ECB boardmember Benoît Cœuré echoed earlier calls from ECB president Mario Draghi to ‘keep to what we’ve agreed in the relevant fora, which is we’re not targeting exchange rates’. However, he added that the central bank could be forced to respond if a repeat performance from the US starts to affect the ECB’s chances of meeting its inflation target.”

January 28 – Bloomberg (Wout Vergauwen, Ruben Munsterman and Jana Randow): “The European Central Bank has to end its quantitative easing as soon as possible, according to ECB Governing Council member Klaas Knot, who said there’s not a single reason anymore to continue with the program. ‘The program has done what could realistically be expected of it,’ Knot, who also heads the Dutch Central Bank, said…”

January 29 – Bloomberg (Alessandro Speciale and Jana Randow): “European Central Bank policy makers are sticking to the assumption that their bond-buying program will be wound down over about three months rather than brought to a sudden halt… Even the more-hawkish members of the Governing Council, who are pushing for policy language that would signal the end of crisis-era stimulus measures, endorse a gradual slowing of asset purchases after the latest extension concludes in September, the officials said, citing informal discussions.”

February 1 – Nikkei Asian Review (Tatsuya Goto): “The Bank of Japan is starting to face skeptics within its own ranks who question the sustainability of massive monetary easing and point to its potential side effects as the economy continues on a recovery path. Following a two-day policy meeting…, BOJ Gov. Haruhiko Kuroda said there was only a ‘very limited debate’ on the possibility of tapering monetary easing. But according to a summary of opinions voiced during the meeting, at least two board members argued for a change to the BOJ's approach. It ‘may be necessary to consider what the desirable policy conduct would be going forward,’ one member said. The discussion also touched on re-examining the bank's interest rate targets and exchange-traded fund purchases -- a more extensive debate than the BOJ chief is willing to admit.”

Global Bubble Watch:

January 29 – Bloomberg (Sid Verma and Dani Burger): “Record bullish positions are building up across currency, equity and commodity markets as hedge funds and real-money investors dump the dollar and U.S. Treasuries to crowd into risk assets around the world. Goldman Sachs warns that ‘extreme’ sentiment is propelling global shares to their best start to a year ever, while U.S. government bonds head for their worst on record. Investors are throwing caution to wind to wager more gains are nigh… ‘There are some notable net long and short positions that are moving into stretched territory,’ said Ben Emons, chief economist at Intellectus Partners… ‘This positioning speaks very much to the global synchronization theme out there whereby the dollar plays a pivotal role.’”

January 30 – Bloomberg (Dani Burger): “Volatility is finally starting to rear its head, fueling intense trading on VIX exchange-traded products as buyers try to keep pace. As investors reassess the record bullishness in risky assets, the Cboe Volatility Index is rising for a second straight day, touching the highest level in more than five months. That result: ETPs that tie their fortunes to the VIX -- either by tracking or shorting futures on the gauge -- have begun to furiously change hands. Less than five hours into the U.S. trading session, volume on the ProShares Ultra VIX Short-Term Futures ETF has already exceeded 70 million shares. That’s more than twice the historical volume for this time of day, and already half the volume of the fund’s busiest day ever. Another ProShares security, the Short VIX Short-Term Futures ETF, has surpassed 17 million shares, within striking distance of its 23 million record trading day. Two of the five most-active ETPs on Tuesday were linked to volatility.”

January 30 – Wall Street Journal (Matt Wirz): “Last fall, a hydroelectric dam in Tajikistan, the government of Portugal and a cruise-ship operator all issued debt at unusually low interest rates. The seemingly unconnected deals are part of a proliferation of aggressive bond sales influenced by a decade of loose monetary policy and a demographic shift in global investing. Historical limits on who can borrow, and at what cost, have broken down as fund managers agree to previously unpalatable terms. Central bankers in the U.S., Europe and Japan helped shape the new breed of deals by simultaneously purchasing over $1 trillion in high-quality bonds since 2009 and lowering benchmark interest rates… Modest economic growth came, but the strategy crowded private investors out of safe debt, prompting them to buy riskier bonds to boost returns. Retiring baby boomers amplified the trend by moving their investments away from stocks into bonds, boosting assets in U.S. bond mutual funds to $4.6 trillion in November from $1.5 trillion a decade earlier…”

January 28 – Financial Times (Kate Allen and Jonathan Wheatley): “The drumbeat for bond investors is that 2018 will mark the end of a historic bull market. But the allocations they are making in the key month of January tell a different story. Sales of debt by eurozone periphery countries and emerging markets have had a blistering start to the year, with Spain’s ability to attract €43bn of orders for a 10-year bond the most vivid demonstration of investors’ willingness to take on risk… ‘There is an enormous amount of cash around in the new year and people want to be invested because they sense that things may change later, but that there are not going to be any big monetary policy moves in the near term,’ said Lee Cumbes, head of public sector debt Emea at Barclays…”

January 28 – Financial Times (James Fontanella-Khan, Eric Platt and Arash Massoudi): “Global dealmaking has made its strongest start since the turn of the century, reflecting boardroom confidence from US tax reform, a strengthening international economy and surging equity markets. A total of $273bn in mergers and acquisitions so far this year marks the busiest January since the peak of the dotcom boom in 2000, data from Dealogic shows.”

January 28 – Bloomberg (Yuji Nakamura and Andrea Tan): “At 2:57 a.m. on Friday morning in Tokyo, someone hacked into the digital wallet of Japanese cryptocurrency exchange Coincheck Inc. and pulled off one of the biggest heists in history. Three days later, the theft of nearly $500 million in digital tokens is still reverberating through virtual currency markets and policy circles around the world. The episode… has heightened calls for stricter oversight at a time when many governments are struggling to formulate a response to the digital-asset boom.”

January 29 – Reuters (Subrat Patnaik): “Microsoft Corp issued an emergency security update on Monday to plug Intel Corp’s buggy Spectre firmware patch after the chipmaker’s fix caused computers to reboot more often than normal. Microsoft said it was rolling out an out-of-band update that specifically disables Intel’s Spectre variant 2 patch.”

Fixed-Income Bubble Watch:

January 31 – Bloomberg (Shelly Hagan): “The rise in bond yields has further to go. So says a Bank of America Merrill Lynch global research report… U.S. economist Michelle Meyer and her colleagues argue that the market hasn’t fully taken into account how far the Federal Reserve intends to raise interest rates. While investors seem to believe in the Fed’s ability to more or less hike rates three times this year, they remain skeptical about increases thereafter… ‘We think that the market is mispriced and will ultimately capitulate to the Fed, sending rates higher,’ the economists wrote. They pointed to three main drivers that will push yields up: rising inflation, continued economic growth and a higher equilibrium interest rate.”

January 30 – Bloomberg (Chikako Mogi and Chikafumi Hodo): “Nearly six years after Ford Motor Co. reclaimed its good name in the credit community, the automaker was put on notice Tuesday when Moody’s… signaled its investment-grade rating could again be at risk. Moody’s changed its rating outlook on Ford to negative from stable, citing ‘a more challenging operating environment’ as new Chief Executive Officer Jim Hackett seeks to get the 114-year-old automaker back in shape. Dubbed a ‘fitness redesign,’ the turnaround plan includes cutting $14 billion in costs, curbing lower-margin car models and investing $11 billion in an expansive portfolio of electric-powered vehicles.”

January 29 – Bloomberg (David Yong and Lianting Tu): “Asian bond investors may be taking their eyes off the protections on junk bonds in the pursuit of higher yields. The safeguards provided by the fine print in bond documents have dwindled further, according to Moody’s... Its analysis of 10 junk bonds worth $3.34 billion in the last quarter of 2017 showed that covenant strength fell to the lowest level since Moody’s started scoring it in 2011. As ample cash conditions drive spreads of investment-grade credits to their tightest in more than a decade, investors are turning to lower-rated names which come with added risks. The pace of high-yield offerings has accelerated in 2018 after hitting a record $55.8 billion last year…”

Europe Watch:

January 31 – Reuters (Maria Sheahan): “Industrial workers in Germany began a second day of 24-hour strikes over pay and working hours on Thursday… The IG Metall union has called for full-day walkouts through Friday, firing a last warning shot before it ballots for extended industrial action that could be crippling to companies reliant on a supply chain of car parts and other components.”

Japan Watch:

January 30 – Bloomberg (Chikako Mogi and Chikafumi Hodo): “The Bank of Japan increased the amount of bonds it offered to buy at a regular operation for the first time since July, helping to bring down yields and weaken the yen. The BOJ sought to buy 330 billion yen ($3bn) of 3-to-5 year debt, more than the 300 billion yen at the last operation… The Japanese central bank is acting amid a global bond rout that is challenging its yield-curve control policy. Governor Haruhiko Kuroda told lawmakers… that the central bank will continue easing to reach its 2% inflation target.”

January 30 – Reuters (Leika Kihara and Tetsushi Kajimoto): “The Bank of Japan ramped up efforts to dispel market speculation of an early withdrawal of its massive stimulus, boosting its bond buying plan on Wednesday and reassuring markets that monetary policy will remain ultra-loose given meager inflation. BOJ Governor Haruhiko Kuroda and his deputy Kikuo Iwata… stressed the bank will maintain ‘powerful’ easing with inflation far from its 2% target. Iwata blamed market misunderstanding of BOJ policy for driving up the yen more than he expected, saying investors were wrong to assume the central bank will soon raise rates.”

EM Bubble Watch:

January 29 – Financial Times (Kate Allen): “Emerging markets are loading up on public debt that could mean headwinds for investors, analysts at Citi warn. Growth in many emerging economies is strong, their currencies are appreciating against the US dollar and they are attracting a flood of global investors, lured by the relatively high bond yields they offer. Yet this uptick in economic performance has not fed through into the public finances, David Lubin of Citi Research says. ‘There has been a more or less linear increase in EM public debt to GDP ratios since the great financial crisis,’ he says.”

January 28 – Bloomberg (Kartik Goyal): “The timing for India to sell an estimated record amount of debt couldn’t be worse. Prime Minister Narendra Modi’s government will seek to borrow 6.5 trillion rupees ($102bn) in the fiscal year starting April 1… That compares with the 6.05 trillion rupees expected for the current year. Whereas falling oil prices and bond yields have benefited Modi since he took power in 2014, their steep ascent in the past six months is posing a threat. Chief Economic Adviser Arvind Subramanian cautioned Monday that the government can’t rule out a pause in its plan for fiscal consolidation, helping extend a rout that has made Indian sovereign notes Asia’s worst performers.”

Leveraged Speculation Watch:

January 30 – Bloomberg (Saijel Kishan): “Renaissance Technologies, the world’s most profitable hedge fund, said there’s a ‘significant’ risk of a correction in prices and is preparing for possible market turbulence. While accelerating global growth, corporate tax reform and a business-friendly administration in the U.S. have contributed to market gains, it’s not clear these factors justify current valuations, especially in light of sovereign debt levels, Ed Hubner, the quant firm’s head of risk control, wrote… ‘While the fear of missing out may not be a concern for equity investors, increasing euphoria mixed with a bit of complacency certainly is,’ he said. ‘Historically low levels of volatility may well have given investors a false sense of security in the nearly two years since the last market correction.’ Hubner also cited the flattening of the yield curve as a cause for concern and said there are technical pressures on Treasuries… ‘Who is going to buy the paper the Federal Reserve accumulated during the years of quantitative easing? If the Chinese reassess their appetite for U.S. debt, rates will have to move up to finance the projected $700 billion U.S. deficit this year,’ he said.”

February 1 – Bloomberg (Scott Schnipper): “Hedge funds gained 9.03% last year, the best annual performance since a 9.75% gain in 2010, led by Long Short Equity funds, and buoyed by the second-longest bull market in the U.S. Last year, 42% of all funds notched double-digit gains -- the most since since 2013 -- and more than double the 17% that reported negative returns.”

Geopolitical Watch:

January 28 – Reuters (Tuvan Gumrukcu): “President Tayyip Erdogan said… that Turkey will ‘clean’ its entire border with Syria in a sign that the Turkish offensive on the Syrian Kurdish YPG group in northern Syria’s Afrin region could be extended further. Since Turkey’s assault in Afrin began nine days ago, it has increased tensions between Ankara and the United States, which has supported the YPG in other parts of Syria in the fight against Islamic State.”