Having attained a head of steam, a positive outcome could provide additional juice to the equities rally. Sovereign bond markets, enjoying even stronger momentum, may have to think twice. Is the market’s 100% probability for a July rate cut justifiable in the event of market exuberance in response to improved prospects for a successful completion of trade negotiations?
There was definitely some push back to market expectations for an imminent start to a rate cut cycle. At least a few Fed officials are not oblivious to the risk of bowing to rate cut pressures:
June 25 – New York Times (Jeanna Smialek): “Jerome H. Powell, chairman of the Federal Reserve, said… that the central bank is weighing whether an interest-rate cut will be needed as trade risks stir economic uncertainty and inflation lags. But he made clear that the institution considers itself independent from the White House and President Trump, who continues to push publicly for a rate cut. Mr. Powell said the case for a rate cut has strengthened somewhat given that economic ‘crosscurrents have re-emerged, with apparent progress on trade turning to greater uncertainty and with incoming data raising renewed concerns about the strength of the global economy.’ But he stopped short of saying a cut was guaranteed, noting that the Fed would continue to watch economic events unfold and would avoid reacting to short-term issues.”
June 24 – Bloomberg (Christopher Condon and Rich Miller): “Federal Reserve Bank of Dallas President Robert Kaplan… sounded a note of caution about cutting interest rates. ‘I am concerned that adding monetary stimulus, at this juncture, would contribute to a build-up of excesses and imbalances in the economy which may ultimately prove to be difficult and painful to manage,’ Kaplan wrote in an essay released by the Dallas Fed.”
June 28 – Bloomberg (Craig Torres and Michael McKee): “It’s too early to know whether policy makers should cut interest rates and whether such a reduction should be a quarter or half percentage point, Federal Reserve Bank of San Francisco President Mary Daly said…”
It would be one rather atypical backdrop for commencing monetary stimulus. Fox Business: “Dow Celebrates Best June in 81 years, S&P Best in 64 Years.” USAToday: “Stocks Post Best 1st Half Since 1997.” Newsmax: “Wall Street Soars 18%, Global Stocks Surge $18T in 1st Half.”
Bloomberg headline (Gowri Gurumurthy): “Junk Sales Hit 21-Month High as Issuers Lock in Lower Rates.” Junk issuance jumped to $28 billion in June, following May’s $26 billion. Year-to-date issuance of $130 billion is running 18% above comparable 2018.
June 28 – Bloomberg (Drew Singer and Vildana Hajric): “For anyone who was anxious that U.S. investors would be bowled over in 2019 by the biggest crush of new listings in more than a decade, some news. You were wrong. So far. Not only has one deal after another surged after pricing, but the market itself has shown no ill effects with billions of dollars of new equity sloshing around. In June alone, as the S&P 500 surged to records, 10 initial public offerings rose by 50% or more in their debut sessions, the most of any month since at least 2008. The average return of 37% is double gains earlier in the year. ‘We’re partying like it’s 1999,’ said Kim Forrest, chief investment officer at Bokeh Capital Management... ‘We’re bringing new companies to the public that we either use or we want to own.’”
According to Axios (using Baker McKenzie data): A total of 62 initial public offerings raised $25 billion during the second quarter, the strongest pace in five years. “Average IPO returns were 30% as Beyond Meat and the tech sector took flight.”
June 25 - Bloomberg (Vildana Hajric and Carolina Wilson): “As the risk of an economic slowdown lingers, exchange-traded fund investors are seeking shelter in bond funds. They’ve poured about $72 billion into fixed-income ETFs this year through June 24, with the funds on track for their biggest first-half inflows ever… Those bets have also fueled assets in the debt strategies to hit an all-time high of nearly $741 billion.”
It requires some creativity on the Fed’s part to justify additional monetary stimulus based on domestic conditions (I know, “inflation below target.”). Yet this is much more about global fragility than the U.S. economy. A positive outcome in Osaka would be constructive for sentiment from China to the U.S. Why then do global sovereign yields seem to look past the G20 (while equities can’t seem to shake the giddies)? Why would 10-year Treasury yields end the week down another five bps to (a near 30-month low) 2.00% - in the face of some Fed pushback on imminent rate cuts? How about German bund yields down four bps to a record low negative 0.33%. Swiss yields down to negative 0.58%, and Japanese 10-year yields at negative 0.16%? French 10-year yields turn negative (0.005%) for the first time, with Spanish yields down to only 0.40%.
Why do bond markets at home and abroad have about zero fear of a Trump/Xi agreement with positive ramifications for risk market sentiment and economic prospects (with, seemingly, receding central bank dovishness)? Because, I would posit, the collapse of bond yields is chiefly about unfolding global financial fragilities rather than trade disputes and slower growth. More specifically, faltering Chinese Bubbles significantly raise the likelihood of the type of global de-risking/deleveraging dynamic that would wreak havoc on securities and derivatives markets across the globe.
There are key elements of the current environment reminiscent of 2007. Recall that after the initial subprime scare that pushed the S&P500 down to 1,370 in mid-August, the index then rallied back to post a record high 1,576 on October 11th. After a weak November, the S&P500 ended 2007 at 1,475 (returning 5.6% for 2007). Meanwhile, the bond market was having none of it. After trading to 5.30% in mid-June, yields sank 127 bps by year-end (on the way to March’s 3.31% low) despite the widely held view the inconsequential subprime issue was to be quickly relegated to the dustbin of history.
These are two distinct Bubbles – the U.S. “mortgage finance Bubble” and the “global government finance Bubble.” Bond yields collapsed in 2007 in response to an unsustainable financial structure. There were Trillions of mispriced mortgage securities and derivative contracts that, because of egregious late-cycle excesses, were acutely vulnerable to any tightening of finance. Moreover, large quantities of mispriced securities were held on leverage.
“Crazy” end-of-cycle lending, risk intermediation, and speculative excesses became increasingly untenable. The more sophisticated market operators started to reduce exposure to the most suspect instruments. Subprime securities began to lose market value, and the marketplace turned increasingly illiquid. Credit conditions for the marginal (subprime) home buyer tightened significantly, which set in motion deflating home prices, pressure on higher-tier mortgage securities (i.e. “alt A”) and a more systemic tightening of mortgage Credit. What started at the “Periphery” gravitated to the “Core,” with Trillions of mispriced securities, speculative leverage, and ill-conceived derivatives coming under heightened pressure.
Even in the face of the subprime dislocation, the view held that “Washington will never allow a housing bust.” Indeed, the implicit government guarantee of GSE securities was more crucial than ever heading right into the crisis. Agency Securities actually increased a record $905 billion in 2007 (to $7.398 TN), perceived money-like Credit instrumental in sustaining “Terminal Phase” excess.
U.S. Non-Financial Debt expanded $2.478 TN in 2007, accelerating from 2006’s $2.432 TN and 2005’s $2.246 TN. The Credit Bubble was sustained by the combination of market confidence in the implicit federal guarantee of Agency Securities along with prospects for aggressive Federal Reserve stimulus (the Fed cut 50bps in September '07 and another 25 bps in October and December), along with sinking market yields and lower prime mortgage borrowing costs.
This is where it gets interesting. Rapid Credit growth throughout 2007 underpinned stock prices, general consumer confidence and overall economic activity. Nominal GDP expanded at a 5% rate during 2007’s first half, 4.3% in Q3 and 4.1% during Q4.
Meanwhile, bond yields completely detached from equities and traditional fundamental factors. Why were yields collapsing in the face of booming Credit growth and inflating risk markets? Because the preservation of “Terminal Phase” excess was fomenting a late-cycle parabolic rise in systemic risk: inflating quantities of increasingly risky Credit instruments, dysfunctional risk intermediation, destabilizing market speculation, and extreme late-cycle imbalances/maladjustment. Stated somewhat differently: efforts to sustain the boom were exacerbating structural impairment. The bond market discerned an increasingly untenable situation.
History Rhymes. China’s Aggregate Financing (approx. non-government system Credit growth) jumped $1.60 TN during 2019’s first five months, 31% ahead of comparable 2018 Credit growth. So far this year, Aggregate Financing is expanding at better than 12% annualized. This is a rate of growth sufficient to sustain the economic Bubble (Beijing’s 6.5% growth target), apartment prices, corporate profits, stock prices and general market and economic confidence.
But extending the “Terminal Phase” has ensured a historic parabolic surge in systemic risk. Consumer (chiefly mortgage) borrowings have increased 17.2% over the past year (40% in two years!). Thousands of uneconomic businesses continue to pile on debt. Unprecedented over- and mal-investment runs unabated. Millions more apartments are constructed. The bloated Chinese banking system continues to inflate with loans of rapidly deteriorating quality.
Global risk markets have been conditioned for faith both in Beijing’s endless capacity to sustain the boom and global central bankers’ determination to maintain system liquidity and economic expansion. So long as Chinese Credit keeps flowing at double-digit rates, inflating perceived wealth ensures Chinese spending and finance continue to buoy vulnerable emerging market booms and the global economy more generally. Global risk markets remain more than content.
At this stage, however, global bonds have adopted an altogether different focus: China’s financial and economic structures are untenable. Sustaining rapid Credit growth is increasingly fraught with peril. With market players now questioning Beijing’s implicit guarantee for smaller and mid-sized banks and financial institutions, financial conditions are in the process of tightening at the financial system’s “Periphery.” And tightened Credit conditions have begun to reverberate in the real economy.
And what about the possible impact of a positive G20 and momentum toward a U.S./China trade deal? Stocks, no surprise, are readily excitable. For global safe haven bonds, however, it’s of little consequence. How can this be? Because even a trade deal would at this point have minimal impact on what has become deep and rapidly worsening structural impairment. Trade deal or not, Chinese exports to the U.S. will decline, right along with capital investment. Even with a deal, the Chinese financial system faces the consequences of years of rapid expansion, as economic prospects deteriorate. Sure, 6% growth as far as the eye can see. This implies a further surge in consumer debt and even more dangerous mortgage finance and apartment Bubbles. Unparalleled overcapacity and maladjustment.
Record U.S. stock prices in October 2007 made it easy to dismiss the momentous ramifications associated with subprime borrowers (the “Periphery”) losing access to cheap Credit – to disregard the blow-up of two Bear Stearns structured Credit funds, widening Credit spreads, pockets of market illiquidity, and waning confidence in some sophisticated derivative structures. Acute monetary instability (i.e. equities and $140 crude) was mistaken for resilient bull markets.
I would closely monitor unfolding developments in Chinese Credit – funding issues for small and mid-sized banks; ructions in the money markets; trust issues with repo collateral, inter-banking lending, and counterparties; vulnerabilities in local government financing vehicles (LGFV); heightened concerns for speculative leverage; and the overarching issue of the implicit Beijing guarantee for essentially the entire Chinese financial system. The overarching issue is one of prospective losses of monumental dimensions. These losses will have to be shared in the marketplace. As much as global markets bank on Beijing bankrolling China’s entire financial apparatus, the Chinese government will not welcome the prospect of bankrupting itself.
The solution, of course, is for China to simply inflate its way out of debt trouble – just like everyone else. What an incredibly dangerous myth the world fully bought into. Reflation – in the U.S., China, Europe, Japan and globally – has only inflated the size and scope of Bubbles. China could see $4 TN of new Credit this year – debt of increasingly suspect quality. Such reckless Credit excess is placing the Chinese currency at great risk. It took about 18 months from the initial U.S. subprime blowup to full-fledged financial crisis. While one could certainly argue for earlier (i.e. December), China’s crisis clock began ticking no later than with last month’s takeover of Baoshang Bank.
June 27 – Bloomberg: “Almost five weeks after Chinese officials shocked investors by taking over a regional bank, smaller lenders are still struggling with the consequences. Demand for their debt is tumbling. Debt issuance by small banks this month has tanked to a 16-month low. The cost of borrowing is surging. Lenders paid record high premiums on negotiable certificates of deposits -- a type of short-term debt that they rely heavily on for funding -- relative to bigger peers. While the central bank has injected a net 325 billion yuan ($47bn) into the nation’s financial system last week and lifted the short-term debt quota for big brokerages to ease the crunch affecting smaller banks, the measures have failed to shift investor concerns. The fact that some of Baoshang Bank Co.’s creditors may face losses has driven financial institutions to reassess counterparty risks and become more selective in whom to lend to… ‘Some institutions are mulling making white and black lists for small banks and that will affect credit expansion of those banks,’ said Lv Pin, an analyst with Citic Securities.”
June 24 – Bloomberg: “Liquidity conditions for China’s lenders and its non-banking financial institutions are heading in different directions following the surprise seizure of a bank last month. A measure of cash in the interbank system fell to its lowest close since 2009 on Monday, as the central bank has been providing liquidity to the market to ease concern over credit risks at small and medium-sized banks. That’s just as financial firms like insurers continue to face financing difficulties almost a month after the government takeover of Baoshang Bank Co. The People’s Bank of China injected a net 285 billion yuan ($41.5bn) of funds via open market operations last week, the most since late May. The problem is injections like these have not benefited non-banking firms that rely on corporate debt for funding because bond traders are still worried about counterparty risks. ‘Non-bank financial institutions have been having more difficulty in acquiring capital via negotiable certificates of deposit,’ said Ken Cheung, a senior Asian currency strategist at Mizuho Bank Ltd. ‘Large banks are less heavily affected.’ China’s overnight and seven-day pledged repurchase rates for the overall market rose to as high as 8% and 18.3% on Monday…Those prices indicate what non-bank financial institutions could be paying to get funding. The same rates for lenders were at 0.99% and 2.27%.”
June 26 – Bloomberg: “Investors in China’s local government financing vehicle bonds -- the market’s hottest trade earlier this year -- have a new risk to consider. At least that’s what yields are signaling, a month after the big jolt from the government’s Baoshang Bank Co. seizure. LGFV notes pay less than company debt because of the assumption that they carry an implied government guarantee, so they should have done relatively better in a risk-averse environment. Instead, borrowing costs for lower-rated LGFVs are rising while yields on corporate bonds are trending lower. It’s another example of the linkages between players in China’s financial system, not all of which are evident on the surface. As small banks struggle to access liquidity amid the Baoshang Bank fallout, that becomes a potential problem for their big borrowers -- often weaker LGFVs. ‘As the risk appetite in the market has become quite low, lower rated LGFVs will have difficulties in refinancing and they will come under bigger pressure to repay debt,’ said Liu Yu, a fixed-income analyst with Guosheng Securities Co. ‘The risk of lower rated LGFVs is increasing and some may default on their borrowing through non-standard financing channels.’”
June 25 – Financial Times (Don Weinland and Sherry Fei Ju): “A rare public default at a Chinese trust company is drawing attention to cracks in the Rmb7.9tn ($1.13tn) market for the investment products in the country, where similar failures have been dealt with behind the scenes in the past. Anxin Trust, which missed payments on Rmb11.8bn for 25 trust products earlier this year, has been forced to publicly document its default because, unlike most trusts, it is listed on the Shanghai stock exchange. The situation has offered a rare glimpse into the factors leading up to failed trust products, which for Anxin include giving loans to an acquisitive property group that has since been delisted from a Chinese bourse. The trust company’s shares tumbled more than 9% on Tuesday after it said its parent company’s shares had been frozen by a court in Shanghai.”
June 24 – Bloomberg: “One of the most opaque areas of China’s credit markets involves the practice of companies buying their own bonds. That may soon get a lot tougher, contributing to financing difficulties that are already bedeviling the nation’s policy makers. At issue is a sharp increase in scrutiny by financial institutions of the collateral that their counterparties offer up in the repurchase market, a crucial channel for short-term funding. If the debt sold by issuers that indirectly purchased a portion of their own bonds -- which could account for as much as 8% of China’s corporate bonds, according to Citic Securities Co. -- is shunned, that will squeeze liquidity for a swathe of the nation’s businesses.”
June 26 – Financial Times (Don Weinland): “Chinese regulators are hitting the brakes on a record surge in US dollar bond sales by local government financing companies despite unprecedented demand for the debt. Local government financing vehicles, which have been used for years by Chinese cities and provinces to raise funds for local infrastructure projects, sold $12.4bn in US dollar bonds in the first half of the year, according to Dealogic, nearly doubling issuance from the same period last year. The boom in debt deals, however, is expected to come to an abrupt end on Friday, after which Chinese regulators are likely to impose stricter rules on the companies.”
For the Week:
The S&P500 slipped 0.3% (up 17.3% y-t-d), and the Dow declined 0.4% (up 14.0%). The Utilities dropped 2.1% (up 13.5%). The Banks jumped 2.1% (up 14.2%), and the Broker/Dealers gained 1.3% (up 12.6%). The Transports rose 1.1% (up 14.1%). The S&P 400 Midcaps gained 0.9% (up 17.0%), and the small cap Russell 2000 advanced 1.1% (up 16.2%). The Nasdaq100 declined 0.7% (up 21.2%). The Semiconductors jumped 3.4% (up 26.3%). The Biotechs added 0.6% (up 13.4%). With bullion rising $10, the HUI gold index gained 2.2% (down 20.9%).
Three-month Treasury bill rates ended the week at 2.04%. Two-year government yields dipped one basis point to 1.76% (down 73bps y-t-d). Five-year T-note yields slipped two bps to 1.77% (down 75bps). Ten-year Treasury yields declined five bps to 2.01% (down 68bps). Long bond yields fell five bps to 2.53% (down 49bps). Benchmark Fannie Mae MBS yields added a basis point to 2.74% (down 75bps).
Greek 10-year yields fell nine bps to 2.43% (down 197bps y-t-d). Ten-year Portuguese yields dropped 10 bps to 0.48% (down 125bps). Italian 10-year yields declined five bps to 2.10% (down 64bps). Spain's 10-year yields fell four bps to 0.40% (down 102bps). German bund yields declined four bps to negative 0.33% (down 57bps). French yields fell five bps to negative 0.005% (down 64bps). The French to German 10-year bond spread narrowed one to about 32 bps. U.K. 10-year gilt yields slipped a basis point to 0.83% (down 44bps). U.K.'s FTSE equities index added 0.2% (up 10.4% y-t-d).
Japan's Nikkei Equities Index was little changed (up 6.3% y-t-d). Japanese 10-year "JGB" yields were unchanged at negative 0.16% (down 16bps y-t-d). France's CAC40 added 0.2% (up 17.1%). The German DAX equities index increased 0.5% (up 17.4%). Spain's IBEX 35 equities index dipped 0.3% (up 7.7%). Italy's FTSE MIB index declined 0.7% (up 15.9%). EM equities were mixed. Brazil's Bovespa index fell 1.0% (up 10.9%), and Mexico's Bolsa declined 0.8% (up 3.7%). South Korea's Kospi index increased 0.2% (up 4.4%). India's Sensex equities index gained 0.5% (up 9.2%). China's Shanghai Exchange declined 0.8% (up 19.4%). Turkey's Borsa Istanbul National 100 index rallied another 2.6% (up 5.7%). Russia's MICEX equities index added 0.2% (up 16.7%).
Investment-grade bond funds saw inflows of $3.238 billion, and junk bond funds posted inflows of $3.089 billion (from Lipper).
Freddie Mac 30-year fixed mortgage rates sank 11 bps to 3.73% (down 82bps y-o-y). Fifteen-year rates fell nine bps to 3.16% (down 88bps). Five-year hybrid ARM rates dropped nine bps to 3.39% (down 48bps). Bankrate's survey of jumbo mortgage borrowing costs had 30-yr fixed rates up five bps to 4.17% (down 44bps).
Federal Reserve Credit last week declined $13.4bn to $3.796 TN. Over the past year, Fed Credit contracted $477bn, or 11.2%. Fed Credit inflated $985 billion, or 35%, over the past 347 weeks. Elsewhere, Fed holdings for foreign owners of Treasury, Agency Debt dropped $10.1bn last week to $3.467 TN. "Custody holdings" gained $67.7bn y-o-y, or 2.0%.
M2 (narrow) "money" supply rose another $27.0bn last week to a record $14.756 TN. "Narrow money" rose $636bn, or 4.5%, over the past year. For the week, Currency increased $2.1bn. Total Checkable Deposits fell $20.0bn, while Savings Deposits jumped $38.3bn. Small Time Deposits added $2.7bn. Retail Money Funds rose $3.9bn.
Total money market fund assets gained $8.1bn to $3.192 TN. Money Funds gained $315bn y-o-y, or 10.9%.
Total Commercial Paper jumped $17.4bn to $1.130 TN. CP was up $45bn y-o-y, or 4.1%.
Currency Watch:
June 23 – Financial Times: “The US dollar has been enjoying its status as the world’s highest-yielding major currency, as interest rates have hit 2.5% after four rises last year. This has encouraged investors to sell their euros and yen to buy the greenback. But this week’s meeting of G20 leaders in Osaka, together with the US Federal Reserve’s dovish pivot at its June meeting, could conspire against the dollar. Interest rates markets are pricing in two to three cuts in the US this year, while Citi economists say a half percentage point cut in July is now ‘inevitable’… ‘It seems to us as if the ‘dovish’ Fed and Trump/Xi trade optimism narratives are both being rolled into a single ball of dollar negativity,’ said Stephen Gallo, a strategist at BMO Capital Markets in London.”
The U.S. dollar index declined 0.1% to 96.13 (down 0.1% y-t-d). For the week on the upside, the New Zealand dollar increased 2.0%, the South African rand 1.8%, the Australian dollar 1.4%, the Canadian dollar 1.0%, the South Korean won 0.8%, the Swedish krona 0.7%, and the Singapore dollar 0.2%. The euro and Swiss franc were little changed. On the downside, the Brazilian real declined 0.7%, the Mexican peso 0.5%, the Japanese yen 0.5%, the Norwegian krone 0.4% and the British pound 0.3%. The Chinese renminbi was little changed versus the dollar this week (up 0.17% y-t-d).
Commodities Watch:
The Bloomberg Commodities Index gained 1.0% this week (up 3.5% y-t-d). Spot Gold added 0.7% to $1,409 (up 9.9%). Silver slipped 0.2% to $15.341 (down 1.3%). WTI crude gained $1.04 to $58.47 (up 29%). Gasoline jumped 2.2% (up 43%), and Natural Gas rose 5.6% (down 22%). Copper increased 0.4% (up 3%). Wheat declined 0.7% (up 5%). Corn dropped 4.9% (up 15%).
Market Instability Watch:
June 21 – Bloomberg (Sarah Ponczek): “One crossed-out word was all it took to send financial markets into a unified celebration that has few precedents in the past decade. Stocks rose to records, bonds surged, oil jumped almost 10% and even gold got into the act, as traders celebrated a dovish conversion at the Federal Reserve. One back-of-the-envelope measure shows the rally in everything was the strongest since 2011. Banished of late has been the soul searching that had afflicted investors for more than a year. Instead, investors closed their eyes and bought, fortified by the willingness of Jerome Powell’s central bank to forego its pledge to be ‘patient’ in formulating interest-rate policy.”
June 28 – Bloomberg (Antonio Vanuzzo and Jan-Henrik Förster): “Liquidity risk in corporate bonds has shifted to investors from banks since the last crisis, as the volume of outstanding debt has doubled, according to a Deutsche Bank AG report… Mutual funds now have 43 times more corporate bonds on their balance sheets than dealers, compared with 2 times in 2007, according to the report by analysts Kinner Lakhani, Amandeep Singh and Brian Bedeli. Even as post-crisis regulations reduced risks in the banking system, investment funds piled into higher yielding bonds that can be difficult to sell quickly. Natixis-backed H20 Asset Management became the third major European fund manager to face market turmoil in less than a year amid questions about the liquidity of its investments…”
June 28 – Bloomberg (John Gittelsohn and Nishant Kumar): “‘You can’t always get what you want,’ the Rolling Stones sang. The band didn’t have illiquid assets in mind, but investors who put their money into funds that put it into things that can be hard to sell in a hurry would certainly agree, as was shown by recent market turmoil. Bank of England Governor Mark Carney said funds that hold illiquid assets but allow unlimited withdrawals have been ‘built on a lie.’ Carney warned that the risks are ‘systemic,’ with some $30 trillion tied up in difficult-to-trade instruments. A lot of that money is in mutual funds and exchange-traded products owned by mom and pop investors, raising questions of who’s responsible for keeping investors safe from having liquidity dry up at just the wrong time.”
June 24 – Bloomberg (Justina Lee): “Jerome Powell and his colleagues are stoking U.S. stocks to fresh records, but they’re also sharpening the valuation dilemma confronting investors the world over. The prospect of easier monetary policy is adding fuel to a mammoth rally in bond proxy shares like real estate companies and utilities. Investors betting on a growth slowdown are ramping up premiums for U.S. defensive stocks to the most in six years, as high-quality equities in Europe also notch fresh records. Companies that post reliable earnings -- growth stocks -- are at a two-decade high versus value shares.”
June 24 – New York Times (Avantika Chilkoti and Pat Minczeski): “Bonds, stocks and currencies are moving in tandem more often, as central-bank surprises and trade uncertainty assert their grip over markets. Known by investors as ‘risk-on, risk-off,’ the phenomenon happens when markets essentially split into two broad buckets that move together: risk-off, or haven assets, which rally when investors grow skittish; and risk-on, or growth assets, which rally when risk appetite returns. A basket of assets that reflect either risk-on or risk-off sentiment has moved together nearly a quarter of the past 100 days through June 21, the highest level since mid-2016, according to a Wall Street Journal analysis.”
June 25 – Wall Street Journal (Andrew Ackerman and Ben Eisen): “Investor anxiety about a Trump administration push to overhaul housing finance is showing up in prices in the market for mortgage-backed securities. Securities issued by mortgage giants Fannie Mae and Freddie Mac are trading at a growing discount compared with securities sold by Ginnie Mae, another government agency that backs mortgages… That has led to higher borrowing costs for plain vanilla mortgages. The market for Fannie and Freddie’s securities is the world’s second largest behind Treasurys. Investor demand for the securities is strong because the companies are currently backstopped by the U.S. government. The companies are central to the popular 30-year mortgage, which locks in steady payments for buyers.”
June 25 – Bloomberg (Liz McCormick): “The transformation of the swap spread curve is complete. On Tuesday, the two-year swap rate briefly fell below the two-year Treasury note’s yield, turning the spread negative for the first time. Longer-maturity swap spreads have been negative for weeks (the five-year) to years (the 30-year). Until the financial crisis, swap rates -- which entail credit risk -- were higher than Treasury yields. That began to change during the crisis as dealers were forced to shore up capital. The inversion eventually expanded from the 30-year sector to shorter tenors in response to new regulatory requirements and China shedding some of its holdings of U.S. debt.”
June 24 – Financial Times (Joe Rennison): “Lowly rated ‘junk’ companies flocked to sell bonds as borrowing costs fell after the Federal Reserve opened the door to a potential cut in interest rates. More than 10 US high-yield bonds were expected to be sold this week, including a $500m bond from packaged food company Post Holdings, a $300m deal from housebuilder William Lyon Homes and a $450m deal from recently bankrupt chemical company Hexion… That would surpass the nine deals snapped up last week…”
June 24 – Wall Street Journal (Corrie Driebusch): “The U.S. may have held off on an airstrike against Iran in favor of sanctions, but U.S. stock investors are decidedly choosing aerospace and defense. This year, investors have been on the offense when it comes to buying the defense sector’s stocks. The SPDR Aerospace & Defense Exchange Traded Fund is up 30% in 2019, roughly twice that of the Utilities Select Sector SPDR Fund.”
Trump Administration Watch:
June 26 – Reuters (Susan Heavey and Andrea Shalal): “U.S. President Donald Trump said… that a trade deal with Chinese President Xi Jinping was possible this weekend but he is prepared to impose U.S. tariffs on virtually all remaining Chinese imports if the two countries continue to disagree. Trump… also raised the possibility that he may impose a lower, 10% duty on a $300 billion list of Chinese imports, instead of the proposed 25% rate.”
June 26 – Associated Press (Paul Wiseman): “President Donald Trump said… that he’s under little pressure to reach a trade deal with China when he meets late this week with President Xi Jinping and is prepared to impose further tariffs on Chinese imports. ‘The Chinese economy’s going down the tubes,” Trump said… ‘They want to make a deal more than I do.’ The president has threatened to impose tariffs on an additional $300 billion in Chinese imports — on top of the $250 billion in goods he’s already taxed — a move that would extend his import taxes to virtually everything China ships to the United States. He says the new tariffs might start at 10%. Earlier, the administration had said additional tariffs might reach 25%.”
June 25 – Associated Press (Joe McDonald): “China… criticized Washington’s efforts to enforce U.S. law abroad following a news report three Chinese banks might be penalized over dealings with North Korea. The banks named by The Washington Post as facing possible loss of access to the U.S. financial system denied they were under investigation. The Post said a court found three Chinese banks in contempt for ignoring demands for information about possible violations of sanctions imposed over North Korea’s nuclear program.”
June 25 – Reuters (Steve Holland and Parisa Hafezi): “U.S. President Donald Trump threatened… to obliterate parts of Iran if it attacked ‘anything American,’ in a new war of words with Iran which condemned fresh U.S. sanctions on Tehran as ‘mentally retarded.’”
June 26 – The Hill (Jordan Fabian): “President Trump… said tech giants Google and Facebook should be sued over alleged bias toward conservatives. ‘We should be suing Google and Facebook and all that, which perhaps we will,’ Trump said during a phone interview with Fox Business Network. Trump also attacked Twitter, claiming without evidence that the company is ‘making it very hard’ to ‘get out my message’ by making it more difficult for people to follow him. ‘Twitter is just terrible, what they do,’ he said.”
June 26 – Reuters (Trevor Hunnicutt, Ann Saphir and Howard Schneider): “U.S. President Donald Trump accused Federal Reserve Chairman Jerome Powell… of doing a ‘bad job’ and ‘out to prove how tough he is,’ but any move to oust him would likely touch off a legal fight with big repercussions in financial markets as well. Trump’s renewed criticism of Powell for not lowering interest rates to help the United States compete against China, delivered in an interview on Fox Business Network, was the latest in a series of attacks that started only months after Trump made him Fed chief in early 2018. ‘I have the right to demote him. I have the right to fire him,’ Trump said…, adding that he had ‘never suggested’ doing so.”
June 26 – Bloomberg (Rich Miller): “President Donald Trump said the U.S. should have Mario Draghi, president of the European Central Bank, at the helm of its monetary policy – ‘instead of our Fed person’ -- and reiterated that he has the right to demote or fire Federal Reserve Chairman Jerome Powell. ‘Nobody ever heard of him before, and now I made him and he wants to show how tough he is,’ Trump said… ‘OK, let him show how tough he is. He’s not doing a good job.”
June 23 – Wall Street Journal (Stu Woo in Beijing and Dustin Volz): “The Trump administration is examining whether to require that next-generation 5G cellular equipment used in the U.S. be designed and manufactured outside China, according to people familiar with the matter. The move could reshape global manufacturing and further fan tensions between the countries. A White House executive order last month to restrict some foreign-made networking gear and services due to cybersecurity concerns started a 150-day review of the U.S. telecommunications supply chain. As part of that review, U.S. officials are asking telecom-equipment manufacturers whether they can make and develop U.S.-bound hardware, which includes cellular-tower electronics as well as routers and switches, and software outside of China, the people said.”
June 27 – Wall Street Journal (Mike Bird): “A U.S. judge found three unnamed Chinese banks to be in contempt of court in April, according to recently unsealed documents from the District Court for the District of Columbia. This could add a dangerous new element to the trade tensions between Washington and Beijing. The ruling, relating to the banks’ failure to comply with subpoenas issued a year-and-a-half ago, mandates a fine of $50,000 a day for each bank. But this penalty may not be the lenders’ biggest problem. The case also opens up the possibility of sanctions that would lock them out of the international system of dollar transactions, as Iran has been. It will be up to the heads of the U.S. Department of the Treasury and the Justice Department, not the courts themselves, to decide whether to proceed with such constraints. That makes it a valuable political weapon for President Trump. Crucially, it is one for which China has no equivalent.”
June 26 – CNBC (Jessica Bursztynsky): “Even if the U.S. and China come to some sort of an agreement at this week’s G-20 summit, the world’s two largest economies will still be fighting for much longer, conservative economics writer Stephen Moore told CNBC... ‘This trade dispute isn’t going to be solved in the next year or two. This is going to be the epic battle of our times,’ said Moore, who withdrew his name from President Donald Trump’s consideration in May for a nomination to the Federal Reserve Board. ‘It’s going to go on for 10 or 15 years.’”
June 27 – Reuters (Neha Dasgupta): “U.S. President Donald Trump… demanded India withdraw retaliatory tariffs imposed by New Delhi this month, calling the duties ‘unacceptable’ in a stern message that signals trade ties between the two countries are fast deteriorating. India slapped higher duties on 28 U.S. products after the United States withdrew tariff-free entry for certain Indian goods. Washington is also upset with New Delhi’s plans to restrict cross-border data flows and impose stricter rules on e-commerce that hurt U.S. firms operating in India. ‘I look forward to speaking with Prime Minister Modi about the fact that India, for years having put very high tariffs against the United States, just recently increased the tariffs even further,’ Trump said on Twitter.”
June 24 – Reuters (Kanishka Singh): “U.S. President Donald Trump has recently spoken privately about withdrawing from the defense treaty with Japan as he is of the view that the postwar pact treated the United States unfairly, Bloomberg reported… However, Trump has not taken any steps in this regard and such a move is highly unlikely, it said, citing people familiar with the matter.”
Federal Reserve Watch:
June 25 – Wall Street Journal (Nick Timiraos): “Federal Reserve Chairman Jerome Powell pushed back against President Trump’s repeated demands for lower interest rates—citing the central bank’s decadeslong independence—while explaining why it might nevertheless cut interest rates soon. ‘The independence of the Fed from direct political control is an important institutional feature that has served the country well, served the economy well,’ Mr. Powell said… ‘When you see central banks lacking those protections, you see bad things happening—and that includes, by the way, our experience here in the United States.’”
June 25 – Reuters (Trevor Hunnicutt): “Federal Reserve officials… pushed back on market expectations and presidential pressure for the central bank to deliver a significant U.S. interest rate cut of half a percentage point as soon as its next meeting. Chairman Jerome Powell defended the central bank’s independence from President Donald Trump and financial markets, both of which seem to be pushing for aggressive rate cuts, in remarks at the Council on Foreign Relations… ‘The Fed is insulated from short-term political pressures,’ said Powell. Asked later about the possibility of disappointing markets by not delivering a cut, Powell added, ‘We’re not in the business, really, of trying to work through short-term movements in financial conditions. We have to look through that.’”
June 24 – Reuters (Laura Pitel): “U.S. President Donald Trump again criticized the Federal Reserve… for not cutting interest rates, keeping up his pressure on the central bank to change its policies. ‘Despite a Federal Reserve that doesn’t know what it is doing - raised rates far to fast (very low inflation, other parts of world slowing, lowering & easing) & did large scale tightening, $50 Billion/month, we are on course to have one of the best Months of June in U.S. history,’ he wrote on Twitter. ‘Think of what it could have been if the Fed had gotten it right. Thousands of points higher on the Dow, and GDP in the 4’s or even 5’s. Now they stick, like a stubborn child, when we need rates cuts, & easing, to make up for what other countries are doing against us. Blew it!’”
June 24 – New York Times (Jeanna Smialek): “President Trump continued his assault on the Federal Reserve on Monday, blaming the central bank for reining in a United States economy that is on track to reach its longest expansion in history. Mr. Trump, in a pair of tweets, said the economy and stock market would have been even stronger had the Fed kept interest rates low rather than raising rates four times in 2018. ‘Now they stick, like a stubborn child, when we need rates cuts, & easing, to make up for what other countries are doing against us. Blew it!,’ Mr. Trump tweeted.”
June 24 – CNBC (Jeff Cox): “Dallas Fed Robert Kaplan called on his fellow central bankers to continue to be patient as economic events unfold before making changes to interest rates. In an essay delivered Monday, Kaplan said he is watching factors such as the U.S.-China trade tensions as well as decelerating global growth and whether they will lead to ‘a material deterioration’ of domestic activity. ‘At this stage, I believe it is too early to make a judgment on this question,’ he wrote. ‘These heightened uncertainties have intensified over the past seven weeks, and it is certainly possible that events could occur in the near future which would substantially reduce these uncertainties.’ Thus, as it pertains to policy, ‘I believe it would be wise to take additional time and allow events to unfold as we consider whether it is appropriate to make changes to the stance of U.S. monetary policy.’”
U.S. Bubble Watch:
June 23 – Financial Times (Rana Foroohar): “At the beginning of July, the US’s current economic expansion will officially become its longest one since 1854, the year National Bureau of Economic Research data on business cycles started. Unemployment is at a 49-year low. Asset prices are near record highs. And the US Federal Reserve signalled yet again last week that it was leaning towards lowering rates due to ‘uncertainties’ in the economic outlook and muted inflation. That intuitively makes sense when you consider how rocky geopolitics are at the moment, and how bifurcated this recovery has been, mostly favouring large multinational companies and individuals with lots of assets. But it is also rather stunning how quickly the Fed has gone from tightening monetary policy to preparing to ease it, and concerning that the central bank will be working from a historically low rate base as it attempts to navigate the next recession, whenever it comes.”
June 26 – Bloomberg (Ryan Haar): “The U.S. merchandise-trade deficit widened in May to a five-month high amid a surge in imports following President Donald Trump’s decision to increase levies on $200 billion of items from China. The gap increased to $74.5 billion from $70.9 billion in the prior month… Imports rose 3.7%, the biggest jump in four years, while exports advanced 3%, the most since early 2018.”
June 25 – Reuters (Lucia Mutikani): “Sales of new U.S. single-family homes unexpectedly fell for a second straight month in May, suggesting lower mortgage rates had yet to provide a boost to the struggling housing market. …New home sales dropped 7.8% to a seasonally adjusted annual rate of 626,000 units last month, the lowest level since December.”
June 25 – CNBC (Diana Olick): “Home prices in April were 3.5% higher than a year earlier, according to the S&P CoreLogic Case-Shiller U.S. National Home Price Index. The rise was lower than the 3.7% gain seen in March. The 10-city composite, however, began to gain again, rising 2.3% annually, up from 2.2% in the previous month. The 20-city composite rose 2.5% year over year, down from 2.6% in March.”
June 26 – Associated Press (Martin Crutsinger): “Orders to U.S. factories for long-lasting manufactured goods fell sharply in May while demand in a category that tracks business investment rose modestly. Orders fell 1.3% in May following an even bigger 2.8% drop in April... That weakness reflected a sharp falloff in orders for commercial aircraft, a category that has been hurt by the troubles with Boeing’s MAX aircraft…”
June 24 – Wall Street Journal (Rebecca Elliott and Bradley Olson): “Shale drillers transformed the U.S. into the world’s largest oil producer, churning out roughly 12 million barrels a day… But after years of losing money, they are coming under intense pressure from investors and Wall Street financiers to boost returns. How they respond will shape America’s heady pursuit of ‘energy independence’ and its burgeoning status as a geopolitical oil player. Companies long valued on growth prospects are seeing new capital dry up as many find it more expensive than anticipated to meet lofty production goals… As the frenzy slows, the pace of U.S. production growth is set to moderate this year. Many older wells are falling short of expectations, and some operators acknowledge that they have fewer future drilling locations than they once predicted. Over the past 10 years, 40 of the largest independent oil and gas producers collectively spent roughly $200 billion more than they took in from operations…”
June 25 – Reuters (Grace Shao): “Chinese home buyers last year ponied up much less cash in the U.S. as the trade war continues to escalate between the world’s two largest economies. As President Donald Trump and President Xi Jinping prepare to meet this week, there are worries that decline in spending could extend further. U.S. property sales to Chinese buyers saw a 4% drop from 2017 to 2018, according to numbers provided by Juwai.com, China’s largest foreign property sales site. ‘The worsening trade relationship between China and the US may cause Chinese investors to shift their presence into other key markets,’ property consultancy Knight Frank said…”
June 24 – Reuters (Sanjana Shivdas): “U.S. companies’ borrowing to spend on capital investments rose 18% in May from a year earlier, the Equipment Leasing and Finance Association (ELFA) said. Companies signed up for $9.1 billion in new loans, leases and lines of credit last month, up from $7.7 billion a year earlier. Borrowings rose 3% from the previous month. ‘The continued low interest rate environment, coupled with solid fundamentals in the U.S. economy, provide incentive for U.S. businesses to expand and grow their operations,’ ELFA Chief Executive Officer Ralph Petta said.”
China Watch:
June 27 – Wall Street Journal (Lingling Wei and Bob Davis): “Chinese President Xi Jinping plans to present President Trump with a set of terms the U.S. should meet before Beijing is ready to settle a market-rattling trade confrontation, raising questions of whether the two leaders will agree to relaunch talks. Among the preconditions, said Chinese officials with knowledge of the plan, Beijing is insisting that the U.S. remove its ban on the sale of U.S. technology to Chinese telecommunications giant Huawei Technologies Co. Beijing also wants the U.S. to lift all punitive tariffs and drop efforts to get China to buy even more U.S. exports than Beijing said it would when the two leaders last met in December.”
June 27 – Bloomberg: “There’s no change to China’s conditions for making a trade deal with the U.S. as the two nations’ leaders prepare to meet this weekend, a government spokesman said. ‘China’s core concerns must be addressed properly,’ Ministry of Commerce spokesman Gao Feng said… when asked about the three demands laid out by Vice Premier Liu He in May. In order to reach an agreement the U.S. must remove all extra tariffs, set targets for Chinese purchases of goods in line with real demand and ensure that the text of the deal is ‘balanced’ to ensure the ‘dignity’ of both nations, according to Liu.”
June 27 – CNBC (Evelyn Cheng): “The Chinese Ministry of Commerce maintained a firm stance against the U.S. during a weekly press conference Thursday, less than two days ahead of a scheduled meeting between the leaders of the two countries. ‘We urge the U.S. to immediately cancel its pressure and sanction measures on Huawei and other Chinese companies, and push for the stable and healthy development of China-U.S. trade relations,’ Gao Feng, spokesman for the Ministry of Commerce, said… Gao added that China is unchanged in its position on the trade war, as laid out by lead negotiator and Vice Premier Liu He in May. The three primary points are canceling all additional tariffs, not arbitrarily changing what the two countries’ leaders agreed upon at the G-20 meeting in Argentina late last year and that a trade agreement must be on equal terms.”¬
June 26 – Reuters (Brenda Goh): “More than half Chinese consumers have avoided buying anything made in the United States in support of their country in an escalating trade war, a survey suggests, posing a ‘significant’ risk to U.S. companies. The poll, conducted by London-based advisory firm Brunswick which surveyed 1,000 Chinese consumers, said 56% of respondents had said they had avoided U.S. products, while 68% said their opinion of American firms had become more negative. ‘This poses a significant bottom line risk to U.S. companies as three in four Chinese consumers say they often buy products from American businesses,’ Brunswick said…”
June 25 – Bloomberg (Shawn Donnan): “President Donald Trump often cites China’s massive exports to the U.S. as a grave injustice hanging over the world economy. But lately it pays to look at Chinese imports for the pain that his tariff wars are inflicting on global growth. The world’s biggest trading nation last month saw imports from Japan, South Korea and the U.S. fall sharply from a year earlier… The 27% fall from the U.S. is perhaps not surprising given a year of tit-for-tat tariffs, but a drop of 16% from Japan and 18% from South Korea is reason to consider the broader effects of Trump’s trade battles.”
June 26 – Bloomberg: “The People’s Bank of China has asked commercial lenders not to lower the interest rate of home mortgages from the current level in order to curb the growth of home loans, according to people familiar with the matter. The PBOC offered verbal guidance to state-owned banks, joint stock banks and other commercial lenders, the people said, asking not to be identified as they’re not authorized to speak publicly. Banks received the guidance early this month, according to two of the people… China’s household leverage ratio increased to 53.2% at the end of 2018 from 17.9% in 2008…”
June 25 – Bloomberg: “A Chinese bank that backstopped a dollar bond from a distressed private conglomerate has made the payment on its behalf, the first payout for an offshore note from the nation under this structure. China Construction Bank Corp., which provided a standby letter of credit -- effectively a pledge to repay if the borrower can’t -- for China Minsheng Investment Group Corp.’s $300 million note, made the payment on June 18. That’s after the trustee of the note demanded payment four days earlier… The development is expected to soothe investor concern about delays in receiving payments from such guarantors on issuer’s behalf, given a lack of precedent. It also affirmed investor perception that a letter of credit is a stronger credit support compared to other commonly used ones like keepwell provisions, which stop short of a guarantee.”
June 24 – Wall Street Journal (Timothy W. Martin and Eva Dou): “Hackers believed to be backed by China’s government have infiltrated the cellular networks of at least 10 global carriers, swiping users’ whereabouts, text-messaging records and call logs, according to a new report, amid growing scrutiny of Beijing’s cyberoffensives. The multiyear campaign, which is continuing, targeted 20 military officials, dissidents, spies and law enforcement—all believed to be tied to China—and spanned Asia, Europe, Africa and the Middle East, says Cybereason Inc., a Boston-based cybersecurity firm that first identified the attacks. The tracked activity in the report occurred in 2018.”
June 23 – Reuters (Ben Blanchard and Kevin Yao): “China’s Assistant Minister of Foreign Affairs Zhang Jun said… that China will not allow the Group of 20 nations to discuss the Hong Kong issue at its summit this week. Millions of people demonstrated on the streets of Hong Kong this month against a bill that would allow people to be extradited to the mainland to face trial in courts controlled by the Communist Party.”
June 26 – Reuters (Jessie Pang and Vivam Tong): “Protesters in Hong Kong blocked roads and forced workers to leave the justice secretary’s offices on Thursday in the latest unrest to rock the city over an extradition bill that has now been suspended. Millions have thronged the streets in the past three weeks to demand that the bill, which would allow criminal suspects to be sent to mainland China for trial in courts controlled by the Chinese Communist Party, be scrapped altogether. ‘You know what everybody has deep in their hearts - is that this is about our future and it’s very very personal,’ said 53-year-old Brian Kern, who was attending the protests.”
June 23 – Financial Times (Alice Woodhouse): “Migration consultants have seen a sharp rise in interest from Hong Kong citizens following recent mass protests against a controversial proposal that would allow extradition to China. John Hu, director of John Hu Migration Consulting, said his office has been fielding 100 calls a day from people enquiring about gaining citizenship abroad — almost three times the number of calls he was receiving before the protests started.”
Central Banking Watch:
June 25 – Bloomberg (Jana Randow, Catherine Bosley, and Karin Matussek): “Mario Draghi is once again testing the boundaries of the law in his efforts to lift the euro zone out of its economic malaise. When the European Central Bank president promised last week to add monetary stimulus if the outlook doesn’t improve, he said one option is to resume large-scale purchases of government bonds. He also said self-imposed limits on how much debt the institution can buy could be raised. That raises a potential legal hurdle, as those limits were designed to ensure the ECB doesn’t fall foul of European Union law that forbids printing money to fund governments. While the EU’s top court has said quantitative easing is legal, judges in Germany -- which is critical for the success of QE as the biggest buyer of debt under the program -- haven’t yet issued a final ruling on a challenge there. The German court said on Tuesday that it’ll hold fresh hearings on July 30-31…”
June 25 – Bloomberg (Lucca De Paoli, Lucy Meakin, and Carolynn Look): “Bank of England Governor Mark Carney reprimanded investment funds that hold illiquid assets but allow unlimited withdrawals, adding to pressure on firms like H2O Asset Management. ‘These funds are built on a lie, which is that you can have daily liquidity, and that for assets that fundamentally aren’t liquid,’ Carney told a parliamentary committee… ‘That leads to an expectation of individuals that it’s not that different than having money in a bank. You get a series of problems, you get a structural problem but then you get a consumer issue.’”
Europe Watch:
June 27 – Bloomberg (Jeannette Neumann): “Euro-area economic confidence declined more than forecast in June, dropping to its lowest level since 2016… The European Commission’s gauge of sentiment fell to 103.3 points, after 105.2 points in May and below the median forecast of 104.8. That was primarily due to a sharp decline in confidence among industry executives, who saw the most significant decrease in about eight years.”
June 24 – Reuters (Joseph Nasr): “German business morale fell to its lowest level since November 2014 in June, a survey showed…, adding weight to expectations that Europe’s largest economy contracted in the second quarter.”
Japan Watch:
June 25 – Wall Street Journal (Megumi Fujikawa): “The global trend toward lower interest rates is threatening one of the world’s most unusual experiments in central banking. Nearly three years ago, the Bank of Japan said it would fix the yield of the 10-year Japanese government bond around zero. It was a rare move, since central banks usually wield their power by controlling short-term interest rates. Now market demand for the 10-year bonds has pushed yields well below the zero target—as low as minus 0.195% on Friday before recovering to minus 0.15% as of Wednesday. Rates that low can be good for the economy by bringing down borrowing costs for companies. But they expose the nation’s commercial banks to a further profit squeeze and threaten the BOJ’s credibility, already damaged by its inability to reach its 2% inflation target.”
EM Watch:
June 24 – New York Times (Peter S. Goodman): “The shocking rebuke of Turkey’s governing party in Sunday’s mayoral election in Istanbul resonated as more than a yearning for new leadership in the nation’s largest city. It signaled mounting despair over the economic disaster that has befallen the nation under the strongman rule of President Recep Tayyip Erdogan. Through the course of a 16-year run as Turkey’s supreme leader, Mr. Erdogan has time and again delivered on his promises of potent economic growth. Yet not unlike an athlete who puts up record-shattering numbers through performance-enhancing drugs, he has produced expansion by resorting aggressively to debt. He has unleashed credit to his cronies in the real estate and construction industries, who have filled the horizons with monumental infrastructure projects. The bill has come due. Over the last two years, financiers have taken note of the staggering debt burdens confronting Turkey’s major companies and grown fearful of the increasingly dubious prospects for full repayment.”
June 23 – Financial Times (David Gardner): “Ekrem Imamoglu may not be a name to conjure with. But by decisively defeating the proxy of Recep Tayyip Erdogan on his home turf of Istanbul — after the Turkish president bullied the judiciary into ordering a re-run of the opposition’s first, wafer-thin victory in March’s municipal elections — Mr Imamoglu may have called the beginning of the end for the giant of Turkey’s politics this century.”
June 24 – Financial Times (Laura Pitel): “For the tens of thousands who danced in the streets of Istanbul after Ekrem Imamoglu’s electoral victory, the triumph was about much more than the mayorship of Istanbul. ‘This is only a beginning,’ they chanted. Mr Imamoglu has previously sought to bat away questions about his ambitions beyond the city he will now lead. But in his victory speech on Sunday night, he nodded to the broader consequences of his win against the party of Recep Tayyip Erdogan, the Turkish president, who has so often seemed unstoppable. ‘The winner of this election is not one person, one party, one group or one segment,’ he told a room packed with TV cameras… ‘All of Istanbul and Turkey have won.’”
June 28 – Bloomberg (Rahul Satija): “Indian shadow banks’ woes are worsening by the day with investors now demanding the highest premium in six years to hold their short-term debt. Spreads on top-rated one-year bonds of Indian non-bank lenders over government bonds of the same maturity have risen 63 bps since India’s mini-Lehman moment when the systemically important Infrastructure Leasing & Financial Services Ltd. was cut to default in September. This is the widest level since 2013… Trouble has only spread across the sector in recent months. Edelweiss Financial and Piramal Capital & Housing Finance are the latest to join an expanding list of non-bank financiers downgraded or placed under watch by rating companies after ICRA cut their long-term ratings this week.”
June 27 – Reuters (Tom Perry): “Slowing capital inflows to Lebanon and weaker deposit growth increase the risk of a debt rescheduling or other steps that may constitute a default despite fiscal consolidation measures in the 2019 draft budget, Moody’s… said. The draft budget aims to cut the deficit to 7.6% of gross domestic product from 11.5% last year, with Lebanese leaders warning the country faces financial crisis without reform. Asked about the Moody’s credit analysis, Finance Minister Ali Hassan Khalil said… ‘matters are under control’.”
Global Bubble Watch:
June 27 – Reuters (Greg Roumeliotis and Pamela Barbaglia): “Mega deals set the pace for mergers and acquisitions (M&A) globally in the second quarter of 2019, as large U.S. companies defied trade row jitters and seized on strong equity and debt capital markets to agree on transformative combinations. Global M&A volume reached $842 billion in the second quarter, down 13% and 27% from the first quarter of 2019 and second quarter of 2018 respectively, according to… Refinitiv… U.S. M&A totaled $466 billion in the second quarter, down just 3% from a year ago. Dealmaking in Europe, however, plunged 54% to $152 billion, while Asia M&A dived 49% to $132 billion.”
June 28 – Bloomberg (Neha D'silva and Finbarr Flynn): “Asian bond sales in dollars, yen and euros hit a record in the second quarter, as dovish central banks kept borrowing costs attractive, amid headwinds from the ongoing trade war that threatens to derail economic growth. Bond sales by issuers in Asia excluding Japan in the three currencies crossed $100 billion in the second quarter, the most ever for the period… That helped year-to-date issuance hit a record as well.”
June 25 – Bloomberg (John Ainger): “The century-bond fanfare is back. Austria is looking at the possibility of launching a new 100-year security as yields across the globe drop to record lows. The nation first launched a note of that length two years ago, and it currently yields just over 1%, highlighting just how desperate investors are for returns. ‘It’s a great time to issue,’ said Jens Peter Sorensen, chief analyst at Danske Bank A/S. ‘It is driven by necessity and the hunt for yield.’”
June 24 – Financial Times (Joshua Chaffin and Don Weinland): “Wu Xiaohui was shopping in New York. For buildings. ‘He didn’t really care — he’d point out the window and say: that one!’ recalls a real estate executive who met Mr Wu, then chairman of China’s Anbang Insurance. The acquisition strategy — to the extent there was one — appeared to be ‘the bigger, the better’, the executive recalled. Among the baubles Mr Wu snapped up was the fabled Waldorf-Astoria Hotel, the preferred Manhattan lodging of visiting kings, presidents and Frank Sinatra. Anbang paid $1.95bn for it in late 2014 — the biggest ever sum for a US hotel. These days Wu is in jail in China, sentenced to 18 years for fraud and embezzlement. Anbang, meanwhile, is under the control of the Chinese government and looking to unload US properties worth billions of dollars. The reversal is part of a dramatic exodus by Chinese companies that stormed the Manhattan property market — paying record-breaking sums for trophy buildings and filling the pockets of opportunistic sellers — only to beat a hasty retreat a few years later. ‘It’s like a tsunami that came rushing in and then the waters went back out to the sea,’ one developer says.”
Fixed-Income Bubble Watch:
June 25 – Bloomberg (Vildana Hajric and Carolina Wilson): “As the risk of an economic slowdown lingers, exchange-traded fund investors are seeking shelter in bond funds. They’ve poured about $72 billion into fixed-income ETFs this year through June 24, with the funds on track for their biggest first-half inflows ever… Those bets have also fueled assets in the debt strategies to hit an all-time high of nearly $741 billion.”
June 24 – Financial Times (Joe Rennison): “Heavy hints of further monetary easing from the Federal Reserve have boosted almost all corners of the debt markets, from sovereign bonds to corporate credit. But there is one part of the market that has stubbornly sat out the rally: triple-C bonds, one of the lowest rungs on the ratings ladder. Bonds rated triple C and below have fallen 1.5% since trade tensions escalated at the beginning of May, compared with gains of 1.7% for higher-rated, double-B bonds. Typically, the lowest rated bonds offer investors higher returns because of the increased risk of lending to struggling companies.”
Leveraged Speculation Watch:
June 27 – Bloomberg (Scott Deveau): “The global economy is likely heading toward a ‘significant market downturn,’ according to billionaire Paul Singer. ‘The global financial system is very much toward the risky end of the spectrum,’ Singer said during a panel… ‘Global debt is at an all-time high. Derivatives are at an all-time high.’ The co-founder and co-chief executive officer of Elliott Management Corp. estimated that there will be a market correction of 30% to 40% when the downturn hits. He said he couldn’t predict the timing.”
June 28 – Bloomberg (Sammy Criscitello): “Global hedge fund liquidations exceeded launches for the third consecutive quarter as managers faced a tough capital-raising environment. About 213 funds closed in the first three months of this year, compared with 136 that opened, according to… Hedge Fund Research Inc… Liquidations remained steady from the prior quarter, while launches rose about 23%. Hedge fund startups are under pressure amid lackluster performance and investor discontent over high fees. Investors pulled $17.8 billion from hedge funds in the first three months of this year, the fourth consecutive quarterly outflow.”
Geopolitical Watch:
June 25 – Reuters (Lesley Wroughton): “President Donald Trump is still committed to a pressure campaign to force Venezuelan President Nicolas Maduro to step aside to make way for opposition leader Juan Guaido, Washington’s envoy for Venezuela said…”
June 24 – Reuters (Manaure Quintero): “A Russian air force plane landed on Monday in Venezuela’s main airport…, three months after a similar arrival spurred a war of words between Washington and Moscow.”
June 24 – Reuters (Maria Kiselyova): “The U.S. deployment of land-based missile systems near Russia’s borders could lead to a stand-off comparable to the 1962 Cuban missile crisis, Russian Deputy Foreign Minister Sergei Ryabkov was quoted as saying… Russia has been fiercely critical of U.S. plans to deploy missile systems in eastern Europe, and of Washington’s withdrawal from the INF arms control treaty. The Cuban missile crisis erupted in 1962 when the Soviet Union responded to a U.S. missile deployment in Turkey by sending ballistic missiles to Cuba, sparking a standoff that brought the world to the brink of nuclear war.”
June 25 – Reuters (Hyonhee Shin): “The recent U.S. extension of sanctions against North Korea was an act of hostility and an outright challenge to an historic summit between the two countries in Singapore last year, a spokesman for Pyongyang’s foreign ministry said…”
June 23 – Bloomberg (Andrea Shalal): “U.S. arms makers say European demand for fighter jets, missile defenses and other weapons is growing fast amid heightened concerns about Russia and Iran. The U.S. government sent a group of unusually high-ranking officials including Commerce Secretary Wilbur Ross to the Paris Airshow this year, where nearly 400 U.S. companies were showcasing equipment as the United States and Iran neared open confrontation in the Persian Gulf. Lockheed Martin, Boeing and other top weapons makers said they had seen accelerating demand for U.S. weapons at the biennial air show despite escalating trade tensions between the United States and Europe.”
June 28 – Bloomberg (Craig Torres and Michael McKee): “It’s too early to know whether policy makers should cut interest rates and whether such a reduction should be a quarter or half percentage point, Federal Reserve Bank of San Francisco President Mary Daly said…”
It would be one rather atypical backdrop for commencing monetary stimulus. Fox Business: “Dow Celebrates Best June in 81 years, S&P Best in 64 Years.” USAToday: “Stocks Post Best 1st Half Since 1997.” Newsmax: “Wall Street Soars 18%, Global Stocks Surge $18T in 1st Half.”
Bloomberg headline (Gowri Gurumurthy): “Junk Sales Hit 21-Month High as Issuers Lock in Lower Rates.” Junk issuance jumped to $28 billion in June, following May’s $26 billion. Year-to-date issuance of $130 billion is running 18% above comparable 2018.
June 28 – Bloomberg (Drew Singer and Vildana Hajric): “For anyone who was anxious that U.S. investors would be bowled over in 2019 by the biggest crush of new listings in more than a decade, some news. You were wrong. So far. Not only has one deal after another surged after pricing, but the market itself has shown no ill effects with billions of dollars of new equity sloshing around. In June alone, as the S&P 500 surged to records, 10 initial public offerings rose by 50% or more in their debut sessions, the most of any month since at least 2008. The average return of 37% is double gains earlier in the year. ‘We’re partying like it’s 1999,’ said Kim Forrest, chief investment officer at Bokeh Capital Management... ‘We’re bringing new companies to the public that we either use or we want to own.’”
According to Axios (using Baker McKenzie data): A total of 62 initial public offerings raised $25 billion during the second quarter, the strongest pace in five years. “Average IPO returns were 30% as Beyond Meat and the tech sector took flight.”
June 25 - Bloomberg (Vildana Hajric and Carolina Wilson): “As the risk of an economic slowdown lingers, exchange-traded fund investors are seeking shelter in bond funds. They’ve poured about $72 billion into fixed-income ETFs this year through June 24, with the funds on track for their biggest first-half inflows ever… Those bets have also fueled assets in the debt strategies to hit an all-time high of nearly $741 billion.”
It requires some creativity on the Fed’s part to justify additional monetary stimulus based on domestic conditions (I know, “inflation below target.”). Yet this is much more about global fragility than the U.S. economy. A positive outcome in Osaka would be constructive for sentiment from China to the U.S. Why then do global sovereign yields seem to look past the G20 (while equities can’t seem to shake the giddies)? Why would 10-year Treasury yields end the week down another five bps to (a near 30-month low) 2.00% - in the face of some Fed pushback on imminent rate cuts? How about German bund yields down four bps to a record low negative 0.33%. Swiss yields down to negative 0.58%, and Japanese 10-year yields at negative 0.16%? French 10-year yields turn negative (0.005%) for the first time, with Spanish yields down to only 0.40%.
Why do bond markets at home and abroad have about zero fear of a Trump/Xi agreement with positive ramifications for risk market sentiment and economic prospects (with, seemingly, receding central bank dovishness)? Because, I would posit, the collapse of bond yields is chiefly about unfolding global financial fragilities rather than trade disputes and slower growth. More specifically, faltering Chinese Bubbles significantly raise the likelihood of the type of global de-risking/deleveraging dynamic that would wreak havoc on securities and derivatives markets across the globe.
There are key elements of the current environment reminiscent of 2007. Recall that after the initial subprime scare that pushed the S&P500 down to 1,370 in mid-August, the index then rallied back to post a record high 1,576 on October 11th. After a weak November, the S&P500 ended 2007 at 1,475 (returning 5.6% for 2007). Meanwhile, the bond market was having none of it. After trading to 5.30% in mid-June, yields sank 127 bps by year-end (on the way to March’s 3.31% low) despite the widely held view the inconsequential subprime issue was to be quickly relegated to the dustbin of history.
These are two distinct Bubbles – the U.S. “mortgage finance Bubble” and the “global government finance Bubble.” Bond yields collapsed in 2007 in response to an unsustainable financial structure. There were Trillions of mispriced mortgage securities and derivative contracts that, because of egregious late-cycle excesses, were acutely vulnerable to any tightening of finance. Moreover, large quantities of mispriced securities were held on leverage.
“Crazy” end-of-cycle lending, risk intermediation, and speculative excesses became increasingly untenable. The more sophisticated market operators started to reduce exposure to the most suspect instruments. Subprime securities began to lose market value, and the marketplace turned increasingly illiquid. Credit conditions for the marginal (subprime) home buyer tightened significantly, which set in motion deflating home prices, pressure on higher-tier mortgage securities (i.e. “alt A”) and a more systemic tightening of mortgage Credit. What started at the “Periphery” gravitated to the “Core,” with Trillions of mispriced securities, speculative leverage, and ill-conceived derivatives coming under heightened pressure.
Even in the face of the subprime dislocation, the view held that “Washington will never allow a housing bust.” Indeed, the implicit government guarantee of GSE securities was more crucial than ever heading right into the crisis. Agency Securities actually increased a record $905 billion in 2007 (to $7.398 TN), perceived money-like Credit instrumental in sustaining “Terminal Phase” excess.
U.S. Non-Financial Debt expanded $2.478 TN in 2007, accelerating from 2006’s $2.432 TN and 2005’s $2.246 TN. The Credit Bubble was sustained by the combination of market confidence in the implicit federal guarantee of Agency Securities along with prospects for aggressive Federal Reserve stimulus (the Fed cut 50bps in September '07 and another 25 bps in October and December), along with sinking market yields and lower prime mortgage borrowing costs.
This is where it gets interesting. Rapid Credit growth throughout 2007 underpinned stock prices, general consumer confidence and overall economic activity. Nominal GDP expanded at a 5% rate during 2007’s first half, 4.3% in Q3 and 4.1% during Q4.
Meanwhile, bond yields completely detached from equities and traditional fundamental factors. Why were yields collapsing in the face of booming Credit growth and inflating risk markets? Because the preservation of “Terminal Phase” excess was fomenting a late-cycle parabolic rise in systemic risk: inflating quantities of increasingly risky Credit instruments, dysfunctional risk intermediation, destabilizing market speculation, and extreme late-cycle imbalances/maladjustment. Stated somewhat differently: efforts to sustain the boom were exacerbating structural impairment. The bond market discerned an increasingly untenable situation.
History Rhymes. China’s Aggregate Financing (approx. non-government system Credit growth) jumped $1.60 TN during 2019’s first five months, 31% ahead of comparable 2018 Credit growth. So far this year, Aggregate Financing is expanding at better than 12% annualized. This is a rate of growth sufficient to sustain the economic Bubble (Beijing’s 6.5% growth target), apartment prices, corporate profits, stock prices and general market and economic confidence.
But extending the “Terminal Phase” has ensured a historic parabolic surge in systemic risk. Consumer (chiefly mortgage) borrowings have increased 17.2% over the past year (40% in two years!). Thousands of uneconomic businesses continue to pile on debt. Unprecedented over- and mal-investment runs unabated. Millions more apartments are constructed. The bloated Chinese banking system continues to inflate with loans of rapidly deteriorating quality.
Global risk markets have been conditioned for faith both in Beijing’s endless capacity to sustain the boom and global central bankers’ determination to maintain system liquidity and economic expansion. So long as Chinese Credit keeps flowing at double-digit rates, inflating perceived wealth ensures Chinese spending and finance continue to buoy vulnerable emerging market booms and the global economy more generally. Global risk markets remain more than content.
At this stage, however, global bonds have adopted an altogether different focus: China’s financial and economic structures are untenable. Sustaining rapid Credit growth is increasingly fraught with peril. With market players now questioning Beijing’s implicit guarantee for smaller and mid-sized banks and financial institutions, financial conditions are in the process of tightening at the financial system’s “Periphery.” And tightened Credit conditions have begun to reverberate in the real economy.
And what about the possible impact of a positive G20 and momentum toward a U.S./China trade deal? Stocks, no surprise, are readily excitable. For global safe haven bonds, however, it’s of little consequence. How can this be? Because even a trade deal would at this point have minimal impact on what has become deep and rapidly worsening structural impairment. Trade deal or not, Chinese exports to the U.S. will decline, right along with capital investment. Even with a deal, the Chinese financial system faces the consequences of years of rapid expansion, as economic prospects deteriorate. Sure, 6% growth as far as the eye can see. This implies a further surge in consumer debt and even more dangerous mortgage finance and apartment Bubbles. Unparalleled overcapacity and maladjustment.
Record U.S. stock prices in October 2007 made it easy to dismiss the momentous ramifications associated with subprime borrowers (the “Periphery”) losing access to cheap Credit – to disregard the blow-up of two Bear Stearns structured Credit funds, widening Credit spreads, pockets of market illiquidity, and waning confidence in some sophisticated derivative structures. Acute monetary instability (i.e. equities and $140 crude) was mistaken for resilient bull markets.
I would closely monitor unfolding developments in Chinese Credit – funding issues for small and mid-sized banks; ructions in the money markets; trust issues with repo collateral, inter-banking lending, and counterparties; vulnerabilities in local government financing vehicles (LGFV); heightened concerns for speculative leverage; and the overarching issue of the implicit Beijing guarantee for essentially the entire Chinese financial system. The overarching issue is one of prospective losses of monumental dimensions. These losses will have to be shared in the marketplace. As much as global markets bank on Beijing bankrolling China’s entire financial apparatus, the Chinese government will not welcome the prospect of bankrupting itself.
The solution, of course, is for China to simply inflate its way out of debt trouble – just like everyone else. What an incredibly dangerous myth the world fully bought into. Reflation – in the U.S., China, Europe, Japan and globally – has only inflated the size and scope of Bubbles. China could see $4 TN of new Credit this year – debt of increasingly suspect quality. Such reckless Credit excess is placing the Chinese currency at great risk. It took about 18 months from the initial U.S. subprime blowup to full-fledged financial crisis. While one could certainly argue for earlier (i.e. December), China’s crisis clock began ticking no later than with last month’s takeover of Baoshang Bank.
June 27 – Bloomberg: “Almost five weeks after Chinese officials shocked investors by taking over a regional bank, smaller lenders are still struggling with the consequences. Demand for their debt is tumbling. Debt issuance by small banks this month has tanked to a 16-month low. The cost of borrowing is surging. Lenders paid record high premiums on negotiable certificates of deposits -- a type of short-term debt that they rely heavily on for funding -- relative to bigger peers. While the central bank has injected a net 325 billion yuan ($47bn) into the nation’s financial system last week and lifted the short-term debt quota for big brokerages to ease the crunch affecting smaller banks, the measures have failed to shift investor concerns. The fact that some of Baoshang Bank Co.’s creditors may face losses has driven financial institutions to reassess counterparty risks and become more selective in whom to lend to… ‘Some institutions are mulling making white and black lists for small banks and that will affect credit expansion of those banks,’ said Lv Pin, an analyst with Citic Securities.”
June 24 – Bloomberg: “Liquidity conditions for China’s lenders and its non-banking financial institutions are heading in different directions following the surprise seizure of a bank last month. A measure of cash in the interbank system fell to its lowest close since 2009 on Monday, as the central bank has been providing liquidity to the market to ease concern over credit risks at small and medium-sized banks. That’s just as financial firms like insurers continue to face financing difficulties almost a month after the government takeover of Baoshang Bank Co. The People’s Bank of China injected a net 285 billion yuan ($41.5bn) of funds via open market operations last week, the most since late May. The problem is injections like these have not benefited non-banking firms that rely on corporate debt for funding because bond traders are still worried about counterparty risks. ‘Non-bank financial institutions have been having more difficulty in acquiring capital via negotiable certificates of deposit,’ said Ken Cheung, a senior Asian currency strategist at Mizuho Bank Ltd. ‘Large banks are less heavily affected.’ China’s overnight and seven-day pledged repurchase rates for the overall market rose to as high as 8% and 18.3% on Monday…Those prices indicate what non-bank financial institutions could be paying to get funding. The same rates for lenders were at 0.99% and 2.27%.”
June 26 – Bloomberg: “Investors in China’s local government financing vehicle bonds -- the market’s hottest trade earlier this year -- have a new risk to consider. At least that’s what yields are signaling, a month after the big jolt from the government’s Baoshang Bank Co. seizure. LGFV notes pay less than company debt because of the assumption that they carry an implied government guarantee, so they should have done relatively better in a risk-averse environment. Instead, borrowing costs for lower-rated LGFVs are rising while yields on corporate bonds are trending lower. It’s another example of the linkages between players in China’s financial system, not all of which are evident on the surface. As small banks struggle to access liquidity amid the Baoshang Bank fallout, that becomes a potential problem for their big borrowers -- often weaker LGFVs. ‘As the risk appetite in the market has become quite low, lower rated LGFVs will have difficulties in refinancing and they will come under bigger pressure to repay debt,’ said Liu Yu, a fixed-income analyst with Guosheng Securities Co. ‘The risk of lower rated LGFVs is increasing and some may default on their borrowing through non-standard financing channels.’”
June 25 – Financial Times (Don Weinland and Sherry Fei Ju): “A rare public default at a Chinese trust company is drawing attention to cracks in the Rmb7.9tn ($1.13tn) market for the investment products in the country, where similar failures have been dealt with behind the scenes in the past. Anxin Trust, which missed payments on Rmb11.8bn for 25 trust products earlier this year, has been forced to publicly document its default because, unlike most trusts, it is listed on the Shanghai stock exchange. The situation has offered a rare glimpse into the factors leading up to failed trust products, which for Anxin include giving loans to an acquisitive property group that has since been delisted from a Chinese bourse. The trust company’s shares tumbled more than 9% on Tuesday after it said its parent company’s shares had been frozen by a court in Shanghai.”
June 24 – Bloomberg: “One of the most opaque areas of China’s credit markets involves the practice of companies buying their own bonds. That may soon get a lot tougher, contributing to financing difficulties that are already bedeviling the nation’s policy makers. At issue is a sharp increase in scrutiny by financial institutions of the collateral that their counterparties offer up in the repurchase market, a crucial channel for short-term funding. If the debt sold by issuers that indirectly purchased a portion of their own bonds -- which could account for as much as 8% of China’s corporate bonds, according to Citic Securities Co. -- is shunned, that will squeeze liquidity for a swathe of the nation’s businesses.”
June 26 – Financial Times (Don Weinland): “Chinese regulators are hitting the brakes on a record surge in US dollar bond sales by local government financing companies despite unprecedented demand for the debt. Local government financing vehicles, which have been used for years by Chinese cities and provinces to raise funds for local infrastructure projects, sold $12.4bn in US dollar bonds in the first half of the year, according to Dealogic, nearly doubling issuance from the same period last year. The boom in debt deals, however, is expected to come to an abrupt end on Friday, after which Chinese regulators are likely to impose stricter rules on the companies.”
For the Week:
The S&P500 slipped 0.3% (up 17.3% y-t-d), and the Dow declined 0.4% (up 14.0%). The Utilities dropped 2.1% (up 13.5%). The Banks jumped 2.1% (up 14.2%), and the Broker/Dealers gained 1.3% (up 12.6%). The Transports rose 1.1% (up 14.1%). The S&P 400 Midcaps gained 0.9% (up 17.0%), and the small cap Russell 2000 advanced 1.1% (up 16.2%). The Nasdaq100 declined 0.7% (up 21.2%). The Semiconductors jumped 3.4% (up 26.3%). The Biotechs added 0.6% (up 13.4%). With bullion rising $10, the HUI gold index gained 2.2% (down 20.9%).
Three-month Treasury bill rates ended the week at 2.04%. Two-year government yields dipped one basis point to 1.76% (down 73bps y-t-d). Five-year T-note yields slipped two bps to 1.77% (down 75bps). Ten-year Treasury yields declined five bps to 2.01% (down 68bps). Long bond yields fell five bps to 2.53% (down 49bps). Benchmark Fannie Mae MBS yields added a basis point to 2.74% (down 75bps).
Greek 10-year yields fell nine bps to 2.43% (down 197bps y-t-d). Ten-year Portuguese yields dropped 10 bps to 0.48% (down 125bps). Italian 10-year yields declined five bps to 2.10% (down 64bps). Spain's 10-year yields fell four bps to 0.40% (down 102bps). German bund yields declined four bps to negative 0.33% (down 57bps). French yields fell five bps to negative 0.005% (down 64bps). The French to German 10-year bond spread narrowed one to about 32 bps. U.K. 10-year gilt yields slipped a basis point to 0.83% (down 44bps). U.K.'s FTSE equities index added 0.2% (up 10.4% y-t-d).
Japan's Nikkei Equities Index was little changed (up 6.3% y-t-d). Japanese 10-year "JGB" yields were unchanged at negative 0.16% (down 16bps y-t-d). France's CAC40 added 0.2% (up 17.1%). The German DAX equities index increased 0.5% (up 17.4%). Spain's IBEX 35 equities index dipped 0.3% (up 7.7%). Italy's FTSE MIB index declined 0.7% (up 15.9%). EM equities were mixed. Brazil's Bovespa index fell 1.0% (up 10.9%), and Mexico's Bolsa declined 0.8% (up 3.7%). South Korea's Kospi index increased 0.2% (up 4.4%). India's Sensex equities index gained 0.5% (up 9.2%). China's Shanghai Exchange declined 0.8% (up 19.4%). Turkey's Borsa Istanbul National 100 index rallied another 2.6% (up 5.7%). Russia's MICEX equities index added 0.2% (up 16.7%).
Investment-grade bond funds saw inflows of $3.238 billion, and junk bond funds posted inflows of $3.089 billion (from Lipper).
Freddie Mac 30-year fixed mortgage rates sank 11 bps to 3.73% (down 82bps y-o-y). Fifteen-year rates fell nine bps to 3.16% (down 88bps). Five-year hybrid ARM rates dropped nine bps to 3.39% (down 48bps). Bankrate's survey of jumbo mortgage borrowing costs had 30-yr fixed rates up five bps to 4.17% (down 44bps).
Federal Reserve Credit last week declined $13.4bn to $3.796 TN. Over the past year, Fed Credit contracted $477bn, or 11.2%. Fed Credit inflated $985 billion, or 35%, over the past 347 weeks. Elsewhere, Fed holdings for foreign owners of Treasury, Agency Debt dropped $10.1bn last week to $3.467 TN. "Custody holdings" gained $67.7bn y-o-y, or 2.0%.
M2 (narrow) "money" supply rose another $27.0bn last week to a record $14.756 TN. "Narrow money" rose $636bn, or 4.5%, over the past year. For the week, Currency increased $2.1bn. Total Checkable Deposits fell $20.0bn, while Savings Deposits jumped $38.3bn. Small Time Deposits added $2.7bn. Retail Money Funds rose $3.9bn.
Total money market fund assets gained $8.1bn to $3.192 TN. Money Funds gained $315bn y-o-y, or 10.9%.
Total Commercial Paper jumped $17.4bn to $1.130 TN. CP was up $45bn y-o-y, or 4.1%.
Currency Watch:
June 23 – Financial Times: “The US dollar has been enjoying its status as the world’s highest-yielding major currency, as interest rates have hit 2.5% after four rises last year. This has encouraged investors to sell their euros and yen to buy the greenback. But this week’s meeting of G20 leaders in Osaka, together with the US Federal Reserve’s dovish pivot at its June meeting, could conspire against the dollar. Interest rates markets are pricing in two to three cuts in the US this year, while Citi economists say a half percentage point cut in July is now ‘inevitable’… ‘It seems to us as if the ‘dovish’ Fed and Trump/Xi trade optimism narratives are both being rolled into a single ball of dollar negativity,’ said Stephen Gallo, a strategist at BMO Capital Markets in London.”
The U.S. dollar index declined 0.1% to 96.13 (down 0.1% y-t-d). For the week on the upside, the New Zealand dollar increased 2.0%, the South African rand 1.8%, the Australian dollar 1.4%, the Canadian dollar 1.0%, the South Korean won 0.8%, the Swedish krona 0.7%, and the Singapore dollar 0.2%. The euro and Swiss franc were little changed. On the downside, the Brazilian real declined 0.7%, the Mexican peso 0.5%, the Japanese yen 0.5%, the Norwegian krone 0.4% and the British pound 0.3%. The Chinese renminbi was little changed versus the dollar this week (up 0.17% y-t-d).
Commodities Watch:
The Bloomberg Commodities Index gained 1.0% this week (up 3.5% y-t-d). Spot Gold added 0.7% to $1,409 (up 9.9%). Silver slipped 0.2% to $15.341 (down 1.3%). WTI crude gained $1.04 to $58.47 (up 29%). Gasoline jumped 2.2% (up 43%), and Natural Gas rose 5.6% (down 22%). Copper increased 0.4% (up 3%). Wheat declined 0.7% (up 5%). Corn dropped 4.9% (up 15%).
Market Instability Watch:
June 21 – Bloomberg (Sarah Ponczek): “One crossed-out word was all it took to send financial markets into a unified celebration that has few precedents in the past decade. Stocks rose to records, bonds surged, oil jumped almost 10% and even gold got into the act, as traders celebrated a dovish conversion at the Federal Reserve. One back-of-the-envelope measure shows the rally in everything was the strongest since 2011. Banished of late has been the soul searching that had afflicted investors for more than a year. Instead, investors closed their eyes and bought, fortified by the willingness of Jerome Powell’s central bank to forego its pledge to be ‘patient’ in formulating interest-rate policy.”
June 28 – Bloomberg (Antonio Vanuzzo and Jan-Henrik Förster): “Liquidity risk in corporate bonds has shifted to investors from banks since the last crisis, as the volume of outstanding debt has doubled, according to a Deutsche Bank AG report… Mutual funds now have 43 times more corporate bonds on their balance sheets than dealers, compared with 2 times in 2007, according to the report by analysts Kinner Lakhani, Amandeep Singh and Brian Bedeli. Even as post-crisis regulations reduced risks in the banking system, investment funds piled into higher yielding bonds that can be difficult to sell quickly. Natixis-backed H20 Asset Management became the third major European fund manager to face market turmoil in less than a year amid questions about the liquidity of its investments…”
June 28 – Bloomberg (John Gittelsohn and Nishant Kumar): “‘You can’t always get what you want,’ the Rolling Stones sang. The band didn’t have illiquid assets in mind, but investors who put their money into funds that put it into things that can be hard to sell in a hurry would certainly agree, as was shown by recent market turmoil. Bank of England Governor Mark Carney said funds that hold illiquid assets but allow unlimited withdrawals have been ‘built on a lie.’ Carney warned that the risks are ‘systemic,’ with some $30 trillion tied up in difficult-to-trade instruments. A lot of that money is in mutual funds and exchange-traded products owned by mom and pop investors, raising questions of who’s responsible for keeping investors safe from having liquidity dry up at just the wrong time.”
June 24 – Bloomberg (Justina Lee): “Jerome Powell and his colleagues are stoking U.S. stocks to fresh records, but they’re also sharpening the valuation dilemma confronting investors the world over. The prospect of easier monetary policy is adding fuel to a mammoth rally in bond proxy shares like real estate companies and utilities. Investors betting on a growth slowdown are ramping up premiums for U.S. defensive stocks to the most in six years, as high-quality equities in Europe also notch fresh records. Companies that post reliable earnings -- growth stocks -- are at a two-decade high versus value shares.”
June 24 – New York Times (Avantika Chilkoti and Pat Minczeski): “Bonds, stocks and currencies are moving in tandem more often, as central-bank surprises and trade uncertainty assert their grip over markets. Known by investors as ‘risk-on, risk-off,’ the phenomenon happens when markets essentially split into two broad buckets that move together: risk-off, or haven assets, which rally when investors grow skittish; and risk-on, or growth assets, which rally when risk appetite returns. A basket of assets that reflect either risk-on or risk-off sentiment has moved together nearly a quarter of the past 100 days through June 21, the highest level since mid-2016, according to a Wall Street Journal analysis.”
June 25 – Wall Street Journal (Andrew Ackerman and Ben Eisen): “Investor anxiety about a Trump administration push to overhaul housing finance is showing up in prices in the market for mortgage-backed securities. Securities issued by mortgage giants Fannie Mae and Freddie Mac are trading at a growing discount compared with securities sold by Ginnie Mae, another government agency that backs mortgages… That has led to higher borrowing costs for plain vanilla mortgages. The market for Fannie and Freddie’s securities is the world’s second largest behind Treasurys. Investor demand for the securities is strong because the companies are currently backstopped by the U.S. government. The companies are central to the popular 30-year mortgage, which locks in steady payments for buyers.”
June 25 – Bloomberg (Liz McCormick): “The transformation of the swap spread curve is complete. On Tuesday, the two-year swap rate briefly fell below the two-year Treasury note’s yield, turning the spread negative for the first time. Longer-maturity swap spreads have been negative for weeks (the five-year) to years (the 30-year). Until the financial crisis, swap rates -- which entail credit risk -- were higher than Treasury yields. That began to change during the crisis as dealers were forced to shore up capital. The inversion eventually expanded from the 30-year sector to shorter tenors in response to new regulatory requirements and China shedding some of its holdings of U.S. debt.”
June 24 – Financial Times (Joe Rennison): “Lowly rated ‘junk’ companies flocked to sell bonds as borrowing costs fell after the Federal Reserve opened the door to a potential cut in interest rates. More than 10 US high-yield bonds were expected to be sold this week, including a $500m bond from packaged food company Post Holdings, a $300m deal from housebuilder William Lyon Homes and a $450m deal from recently bankrupt chemical company Hexion… That would surpass the nine deals snapped up last week…”
June 24 – Wall Street Journal (Corrie Driebusch): “The U.S. may have held off on an airstrike against Iran in favor of sanctions, but U.S. stock investors are decidedly choosing aerospace and defense. This year, investors have been on the offense when it comes to buying the defense sector’s stocks. The SPDR Aerospace & Defense Exchange Traded Fund is up 30% in 2019, roughly twice that of the Utilities Select Sector SPDR Fund.”
Trump Administration Watch:
June 26 – Reuters (Susan Heavey and Andrea Shalal): “U.S. President Donald Trump said… that a trade deal with Chinese President Xi Jinping was possible this weekend but he is prepared to impose U.S. tariffs on virtually all remaining Chinese imports if the two countries continue to disagree. Trump… also raised the possibility that he may impose a lower, 10% duty on a $300 billion list of Chinese imports, instead of the proposed 25% rate.”
June 26 – Associated Press (Paul Wiseman): “President Donald Trump said… that he’s under little pressure to reach a trade deal with China when he meets late this week with President Xi Jinping and is prepared to impose further tariffs on Chinese imports. ‘The Chinese economy’s going down the tubes,” Trump said… ‘They want to make a deal more than I do.’ The president has threatened to impose tariffs on an additional $300 billion in Chinese imports — on top of the $250 billion in goods he’s already taxed — a move that would extend his import taxes to virtually everything China ships to the United States. He says the new tariffs might start at 10%. Earlier, the administration had said additional tariffs might reach 25%.”
June 25 – Associated Press (Joe McDonald): “China… criticized Washington’s efforts to enforce U.S. law abroad following a news report three Chinese banks might be penalized over dealings with North Korea. The banks named by The Washington Post as facing possible loss of access to the U.S. financial system denied they were under investigation. The Post said a court found three Chinese banks in contempt for ignoring demands for information about possible violations of sanctions imposed over North Korea’s nuclear program.”
June 25 – Reuters (Steve Holland and Parisa Hafezi): “U.S. President Donald Trump threatened… to obliterate parts of Iran if it attacked ‘anything American,’ in a new war of words with Iran which condemned fresh U.S. sanctions on Tehran as ‘mentally retarded.’”
June 26 – The Hill (Jordan Fabian): “President Trump… said tech giants Google and Facebook should be sued over alleged bias toward conservatives. ‘We should be suing Google and Facebook and all that, which perhaps we will,’ Trump said during a phone interview with Fox Business Network. Trump also attacked Twitter, claiming without evidence that the company is ‘making it very hard’ to ‘get out my message’ by making it more difficult for people to follow him. ‘Twitter is just terrible, what they do,’ he said.”
June 26 – Reuters (Trevor Hunnicutt, Ann Saphir and Howard Schneider): “U.S. President Donald Trump accused Federal Reserve Chairman Jerome Powell… of doing a ‘bad job’ and ‘out to prove how tough he is,’ but any move to oust him would likely touch off a legal fight with big repercussions in financial markets as well. Trump’s renewed criticism of Powell for not lowering interest rates to help the United States compete against China, delivered in an interview on Fox Business Network, was the latest in a series of attacks that started only months after Trump made him Fed chief in early 2018. ‘I have the right to demote him. I have the right to fire him,’ Trump said…, adding that he had ‘never suggested’ doing so.”
June 26 – Bloomberg (Rich Miller): “President Donald Trump said the U.S. should have Mario Draghi, president of the European Central Bank, at the helm of its monetary policy – ‘instead of our Fed person’ -- and reiterated that he has the right to demote or fire Federal Reserve Chairman Jerome Powell. ‘Nobody ever heard of him before, and now I made him and he wants to show how tough he is,’ Trump said… ‘OK, let him show how tough he is. He’s not doing a good job.”
June 23 – Wall Street Journal (Stu Woo in Beijing and Dustin Volz): “The Trump administration is examining whether to require that next-generation 5G cellular equipment used in the U.S. be designed and manufactured outside China, according to people familiar with the matter. The move could reshape global manufacturing and further fan tensions between the countries. A White House executive order last month to restrict some foreign-made networking gear and services due to cybersecurity concerns started a 150-day review of the U.S. telecommunications supply chain. As part of that review, U.S. officials are asking telecom-equipment manufacturers whether they can make and develop U.S.-bound hardware, which includes cellular-tower electronics as well as routers and switches, and software outside of China, the people said.”
June 27 – Wall Street Journal (Mike Bird): “A U.S. judge found three unnamed Chinese banks to be in contempt of court in April, according to recently unsealed documents from the District Court for the District of Columbia. This could add a dangerous new element to the trade tensions between Washington and Beijing. The ruling, relating to the banks’ failure to comply with subpoenas issued a year-and-a-half ago, mandates a fine of $50,000 a day for each bank. But this penalty may not be the lenders’ biggest problem. The case also opens up the possibility of sanctions that would lock them out of the international system of dollar transactions, as Iran has been. It will be up to the heads of the U.S. Department of the Treasury and the Justice Department, not the courts themselves, to decide whether to proceed with such constraints. That makes it a valuable political weapon for President Trump. Crucially, it is one for which China has no equivalent.”
June 26 – CNBC (Jessica Bursztynsky): “Even if the U.S. and China come to some sort of an agreement at this week’s G-20 summit, the world’s two largest economies will still be fighting for much longer, conservative economics writer Stephen Moore told CNBC... ‘This trade dispute isn’t going to be solved in the next year or two. This is going to be the epic battle of our times,’ said Moore, who withdrew his name from President Donald Trump’s consideration in May for a nomination to the Federal Reserve Board. ‘It’s going to go on for 10 or 15 years.’”
June 27 – Reuters (Neha Dasgupta): “U.S. President Donald Trump… demanded India withdraw retaliatory tariffs imposed by New Delhi this month, calling the duties ‘unacceptable’ in a stern message that signals trade ties between the two countries are fast deteriorating. India slapped higher duties on 28 U.S. products after the United States withdrew tariff-free entry for certain Indian goods. Washington is also upset with New Delhi’s plans to restrict cross-border data flows and impose stricter rules on e-commerce that hurt U.S. firms operating in India. ‘I look forward to speaking with Prime Minister Modi about the fact that India, for years having put very high tariffs against the United States, just recently increased the tariffs even further,’ Trump said on Twitter.”
June 24 – Reuters (Kanishka Singh): “U.S. President Donald Trump has recently spoken privately about withdrawing from the defense treaty with Japan as he is of the view that the postwar pact treated the United States unfairly, Bloomberg reported… However, Trump has not taken any steps in this regard and such a move is highly unlikely, it said, citing people familiar with the matter.”
Federal Reserve Watch:
June 25 – Wall Street Journal (Nick Timiraos): “Federal Reserve Chairman Jerome Powell pushed back against President Trump’s repeated demands for lower interest rates—citing the central bank’s decadeslong independence—while explaining why it might nevertheless cut interest rates soon. ‘The independence of the Fed from direct political control is an important institutional feature that has served the country well, served the economy well,’ Mr. Powell said… ‘When you see central banks lacking those protections, you see bad things happening—and that includes, by the way, our experience here in the United States.’”
June 25 – Reuters (Trevor Hunnicutt): “Federal Reserve officials… pushed back on market expectations and presidential pressure for the central bank to deliver a significant U.S. interest rate cut of half a percentage point as soon as its next meeting. Chairman Jerome Powell defended the central bank’s independence from President Donald Trump and financial markets, both of which seem to be pushing for aggressive rate cuts, in remarks at the Council on Foreign Relations… ‘The Fed is insulated from short-term political pressures,’ said Powell. Asked later about the possibility of disappointing markets by not delivering a cut, Powell added, ‘We’re not in the business, really, of trying to work through short-term movements in financial conditions. We have to look through that.’”
June 24 – Reuters (Laura Pitel): “U.S. President Donald Trump again criticized the Federal Reserve… for not cutting interest rates, keeping up his pressure on the central bank to change its policies. ‘Despite a Federal Reserve that doesn’t know what it is doing - raised rates far to fast (very low inflation, other parts of world slowing, lowering & easing) & did large scale tightening, $50 Billion/month, we are on course to have one of the best Months of June in U.S. history,’ he wrote on Twitter. ‘Think of what it could have been if the Fed had gotten it right. Thousands of points higher on the Dow, and GDP in the 4’s or even 5’s. Now they stick, like a stubborn child, when we need rates cuts, & easing, to make up for what other countries are doing against us. Blew it!’”
June 24 – New York Times (Jeanna Smialek): “President Trump continued his assault on the Federal Reserve on Monday, blaming the central bank for reining in a United States economy that is on track to reach its longest expansion in history. Mr. Trump, in a pair of tweets, said the economy and stock market would have been even stronger had the Fed kept interest rates low rather than raising rates four times in 2018. ‘Now they stick, like a stubborn child, when we need rates cuts, & easing, to make up for what other countries are doing against us. Blew it!,’ Mr. Trump tweeted.”
June 24 – CNBC (Jeff Cox): “Dallas Fed Robert Kaplan called on his fellow central bankers to continue to be patient as economic events unfold before making changes to interest rates. In an essay delivered Monday, Kaplan said he is watching factors such as the U.S.-China trade tensions as well as decelerating global growth and whether they will lead to ‘a material deterioration’ of domestic activity. ‘At this stage, I believe it is too early to make a judgment on this question,’ he wrote. ‘These heightened uncertainties have intensified over the past seven weeks, and it is certainly possible that events could occur in the near future which would substantially reduce these uncertainties.’ Thus, as it pertains to policy, ‘I believe it would be wise to take additional time and allow events to unfold as we consider whether it is appropriate to make changes to the stance of U.S. monetary policy.’”
U.S. Bubble Watch:
June 23 – Financial Times (Rana Foroohar): “At the beginning of July, the US’s current economic expansion will officially become its longest one since 1854, the year National Bureau of Economic Research data on business cycles started. Unemployment is at a 49-year low. Asset prices are near record highs. And the US Federal Reserve signalled yet again last week that it was leaning towards lowering rates due to ‘uncertainties’ in the economic outlook and muted inflation. That intuitively makes sense when you consider how rocky geopolitics are at the moment, and how bifurcated this recovery has been, mostly favouring large multinational companies and individuals with lots of assets. But it is also rather stunning how quickly the Fed has gone from tightening monetary policy to preparing to ease it, and concerning that the central bank will be working from a historically low rate base as it attempts to navigate the next recession, whenever it comes.”
June 26 – Bloomberg (Ryan Haar): “The U.S. merchandise-trade deficit widened in May to a five-month high amid a surge in imports following President Donald Trump’s decision to increase levies on $200 billion of items from China. The gap increased to $74.5 billion from $70.9 billion in the prior month… Imports rose 3.7%, the biggest jump in four years, while exports advanced 3%, the most since early 2018.”
June 25 – Reuters (Lucia Mutikani): “Sales of new U.S. single-family homes unexpectedly fell for a second straight month in May, suggesting lower mortgage rates had yet to provide a boost to the struggling housing market. …New home sales dropped 7.8% to a seasonally adjusted annual rate of 626,000 units last month, the lowest level since December.”
June 25 – CNBC (Diana Olick): “Home prices in April were 3.5% higher than a year earlier, according to the S&P CoreLogic Case-Shiller U.S. National Home Price Index. The rise was lower than the 3.7% gain seen in March. The 10-city composite, however, began to gain again, rising 2.3% annually, up from 2.2% in the previous month. The 20-city composite rose 2.5% year over year, down from 2.6% in March.”
June 26 – Associated Press (Martin Crutsinger): “Orders to U.S. factories for long-lasting manufactured goods fell sharply in May while demand in a category that tracks business investment rose modestly. Orders fell 1.3% in May following an even bigger 2.8% drop in April... That weakness reflected a sharp falloff in orders for commercial aircraft, a category that has been hurt by the troubles with Boeing’s MAX aircraft…”
June 24 – Wall Street Journal (Rebecca Elliott and Bradley Olson): “Shale drillers transformed the U.S. into the world’s largest oil producer, churning out roughly 12 million barrels a day… But after years of losing money, they are coming under intense pressure from investors and Wall Street financiers to boost returns. How they respond will shape America’s heady pursuit of ‘energy independence’ and its burgeoning status as a geopolitical oil player. Companies long valued on growth prospects are seeing new capital dry up as many find it more expensive than anticipated to meet lofty production goals… As the frenzy slows, the pace of U.S. production growth is set to moderate this year. Many older wells are falling short of expectations, and some operators acknowledge that they have fewer future drilling locations than they once predicted. Over the past 10 years, 40 of the largest independent oil and gas producers collectively spent roughly $200 billion more than they took in from operations…”
June 25 – Reuters (Grace Shao): “Chinese home buyers last year ponied up much less cash in the U.S. as the trade war continues to escalate between the world’s two largest economies. As President Donald Trump and President Xi Jinping prepare to meet this week, there are worries that decline in spending could extend further. U.S. property sales to Chinese buyers saw a 4% drop from 2017 to 2018, according to numbers provided by Juwai.com, China’s largest foreign property sales site. ‘The worsening trade relationship between China and the US may cause Chinese investors to shift their presence into other key markets,’ property consultancy Knight Frank said…”
June 24 – Reuters (Sanjana Shivdas): “U.S. companies’ borrowing to spend on capital investments rose 18% in May from a year earlier, the Equipment Leasing and Finance Association (ELFA) said. Companies signed up for $9.1 billion in new loans, leases and lines of credit last month, up from $7.7 billion a year earlier. Borrowings rose 3% from the previous month. ‘The continued low interest rate environment, coupled with solid fundamentals in the U.S. economy, provide incentive for U.S. businesses to expand and grow their operations,’ ELFA Chief Executive Officer Ralph Petta said.”
China Watch:
June 27 – Wall Street Journal (Lingling Wei and Bob Davis): “Chinese President Xi Jinping plans to present President Trump with a set of terms the U.S. should meet before Beijing is ready to settle a market-rattling trade confrontation, raising questions of whether the two leaders will agree to relaunch talks. Among the preconditions, said Chinese officials with knowledge of the plan, Beijing is insisting that the U.S. remove its ban on the sale of U.S. technology to Chinese telecommunications giant Huawei Technologies Co. Beijing also wants the U.S. to lift all punitive tariffs and drop efforts to get China to buy even more U.S. exports than Beijing said it would when the two leaders last met in December.”
June 27 – Bloomberg: “There’s no change to China’s conditions for making a trade deal with the U.S. as the two nations’ leaders prepare to meet this weekend, a government spokesman said. ‘China’s core concerns must be addressed properly,’ Ministry of Commerce spokesman Gao Feng said… when asked about the three demands laid out by Vice Premier Liu He in May. In order to reach an agreement the U.S. must remove all extra tariffs, set targets for Chinese purchases of goods in line with real demand and ensure that the text of the deal is ‘balanced’ to ensure the ‘dignity’ of both nations, according to Liu.”
June 27 – CNBC (Evelyn Cheng): “The Chinese Ministry of Commerce maintained a firm stance against the U.S. during a weekly press conference Thursday, less than two days ahead of a scheduled meeting between the leaders of the two countries. ‘We urge the U.S. to immediately cancel its pressure and sanction measures on Huawei and other Chinese companies, and push for the stable and healthy development of China-U.S. trade relations,’ Gao Feng, spokesman for the Ministry of Commerce, said… Gao added that China is unchanged in its position on the trade war, as laid out by lead negotiator and Vice Premier Liu He in May. The three primary points are canceling all additional tariffs, not arbitrarily changing what the two countries’ leaders agreed upon at the G-20 meeting in Argentina late last year and that a trade agreement must be on equal terms.”¬
June 26 – Reuters (Brenda Goh): “More than half Chinese consumers have avoided buying anything made in the United States in support of their country in an escalating trade war, a survey suggests, posing a ‘significant’ risk to U.S. companies. The poll, conducted by London-based advisory firm Brunswick which surveyed 1,000 Chinese consumers, said 56% of respondents had said they had avoided U.S. products, while 68% said their opinion of American firms had become more negative. ‘This poses a significant bottom line risk to U.S. companies as three in four Chinese consumers say they often buy products from American businesses,’ Brunswick said…”
June 25 – Bloomberg (Shawn Donnan): “President Donald Trump often cites China’s massive exports to the U.S. as a grave injustice hanging over the world economy. But lately it pays to look at Chinese imports for the pain that his tariff wars are inflicting on global growth. The world’s biggest trading nation last month saw imports from Japan, South Korea and the U.S. fall sharply from a year earlier… The 27% fall from the U.S. is perhaps not surprising given a year of tit-for-tat tariffs, but a drop of 16% from Japan and 18% from South Korea is reason to consider the broader effects of Trump’s trade battles.”
June 26 – Bloomberg: “The People’s Bank of China has asked commercial lenders not to lower the interest rate of home mortgages from the current level in order to curb the growth of home loans, according to people familiar with the matter. The PBOC offered verbal guidance to state-owned banks, joint stock banks and other commercial lenders, the people said, asking not to be identified as they’re not authorized to speak publicly. Banks received the guidance early this month, according to two of the people… China’s household leverage ratio increased to 53.2% at the end of 2018 from 17.9% in 2008…”
June 25 – Bloomberg: “A Chinese bank that backstopped a dollar bond from a distressed private conglomerate has made the payment on its behalf, the first payout for an offshore note from the nation under this structure. China Construction Bank Corp., which provided a standby letter of credit -- effectively a pledge to repay if the borrower can’t -- for China Minsheng Investment Group Corp.’s $300 million note, made the payment on June 18. That’s after the trustee of the note demanded payment four days earlier… The development is expected to soothe investor concern about delays in receiving payments from such guarantors on issuer’s behalf, given a lack of precedent. It also affirmed investor perception that a letter of credit is a stronger credit support compared to other commonly used ones like keepwell provisions, which stop short of a guarantee.”
June 24 – Wall Street Journal (Timothy W. Martin and Eva Dou): “Hackers believed to be backed by China’s government have infiltrated the cellular networks of at least 10 global carriers, swiping users’ whereabouts, text-messaging records and call logs, according to a new report, amid growing scrutiny of Beijing’s cyberoffensives. The multiyear campaign, which is continuing, targeted 20 military officials, dissidents, spies and law enforcement—all believed to be tied to China—and spanned Asia, Europe, Africa and the Middle East, says Cybereason Inc., a Boston-based cybersecurity firm that first identified the attacks. The tracked activity in the report occurred in 2018.”
June 23 – Reuters (Ben Blanchard and Kevin Yao): “China’s Assistant Minister of Foreign Affairs Zhang Jun said… that China will not allow the Group of 20 nations to discuss the Hong Kong issue at its summit this week. Millions of people demonstrated on the streets of Hong Kong this month against a bill that would allow people to be extradited to the mainland to face trial in courts controlled by the Communist Party.”
June 26 – Reuters (Jessie Pang and Vivam Tong): “Protesters in Hong Kong blocked roads and forced workers to leave the justice secretary’s offices on Thursday in the latest unrest to rock the city over an extradition bill that has now been suspended. Millions have thronged the streets in the past three weeks to demand that the bill, which would allow criminal suspects to be sent to mainland China for trial in courts controlled by the Chinese Communist Party, be scrapped altogether. ‘You know what everybody has deep in their hearts - is that this is about our future and it’s very very personal,’ said 53-year-old Brian Kern, who was attending the protests.”
June 23 – Financial Times (Alice Woodhouse): “Migration consultants have seen a sharp rise in interest from Hong Kong citizens following recent mass protests against a controversial proposal that would allow extradition to China. John Hu, director of John Hu Migration Consulting, said his office has been fielding 100 calls a day from people enquiring about gaining citizenship abroad — almost three times the number of calls he was receiving before the protests started.”
Central Banking Watch:
June 25 – Bloomberg (Jana Randow, Catherine Bosley, and Karin Matussek): “Mario Draghi is once again testing the boundaries of the law in his efforts to lift the euro zone out of its economic malaise. When the European Central Bank president promised last week to add monetary stimulus if the outlook doesn’t improve, he said one option is to resume large-scale purchases of government bonds. He also said self-imposed limits on how much debt the institution can buy could be raised. That raises a potential legal hurdle, as those limits were designed to ensure the ECB doesn’t fall foul of European Union law that forbids printing money to fund governments. While the EU’s top court has said quantitative easing is legal, judges in Germany -- which is critical for the success of QE as the biggest buyer of debt under the program -- haven’t yet issued a final ruling on a challenge there. The German court said on Tuesday that it’ll hold fresh hearings on July 30-31…”
June 25 – Bloomberg (Lucca De Paoli, Lucy Meakin, and Carolynn Look): “Bank of England Governor Mark Carney reprimanded investment funds that hold illiquid assets but allow unlimited withdrawals, adding to pressure on firms like H2O Asset Management. ‘These funds are built on a lie, which is that you can have daily liquidity, and that for assets that fundamentally aren’t liquid,’ Carney told a parliamentary committee… ‘That leads to an expectation of individuals that it’s not that different than having money in a bank. You get a series of problems, you get a structural problem but then you get a consumer issue.’”
Europe Watch:
June 27 – Bloomberg (Jeannette Neumann): “Euro-area economic confidence declined more than forecast in June, dropping to its lowest level since 2016… The European Commission’s gauge of sentiment fell to 103.3 points, after 105.2 points in May and below the median forecast of 104.8. That was primarily due to a sharp decline in confidence among industry executives, who saw the most significant decrease in about eight years.”
June 24 – Reuters (Joseph Nasr): “German business morale fell to its lowest level since November 2014 in June, a survey showed…, adding weight to expectations that Europe’s largest economy contracted in the second quarter.”
Japan Watch:
June 25 – Wall Street Journal (Megumi Fujikawa): “The global trend toward lower interest rates is threatening one of the world’s most unusual experiments in central banking. Nearly three years ago, the Bank of Japan said it would fix the yield of the 10-year Japanese government bond around zero. It was a rare move, since central banks usually wield their power by controlling short-term interest rates. Now market demand for the 10-year bonds has pushed yields well below the zero target—as low as minus 0.195% on Friday before recovering to minus 0.15% as of Wednesday. Rates that low can be good for the economy by bringing down borrowing costs for companies. But they expose the nation’s commercial banks to a further profit squeeze and threaten the BOJ’s credibility, already damaged by its inability to reach its 2% inflation target.”
EM Watch:
June 24 – New York Times (Peter S. Goodman): “The shocking rebuke of Turkey’s governing party in Sunday’s mayoral election in Istanbul resonated as more than a yearning for new leadership in the nation’s largest city. It signaled mounting despair over the economic disaster that has befallen the nation under the strongman rule of President Recep Tayyip Erdogan. Through the course of a 16-year run as Turkey’s supreme leader, Mr. Erdogan has time and again delivered on his promises of potent economic growth. Yet not unlike an athlete who puts up record-shattering numbers through performance-enhancing drugs, he has produced expansion by resorting aggressively to debt. He has unleashed credit to his cronies in the real estate and construction industries, who have filled the horizons with monumental infrastructure projects. The bill has come due. Over the last two years, financiers have taken note of the staggering debt burdens confronting Turkey’s major companies and grown fearful of the increasingly dubious prospects for full repayment.”
June 23 – Financial Times (David Gardner): “Ekrem Imamoglu may not be a name to conjure with. But by decisively defeating the proxy of Recep Tayyip Erdogan on his home turf of Istanbul — after the Turkish president bullied the judiciary into ordering a re-run of the opposition’s first, wafer-thin victory in March’s municipal elections — Mr Imamoglu may have called the beginning of the end for the giant of Turkey’s politics this century.”
June 24 – Financial Times (Laura Pitel): “For the tens of thousands who danced in the streets of Istanbul after Ekrem Imamoglu’s electoral victory, the triumph was about much more than the mayorship of Istanbul. ‘This is only a beginning,’ they chanted. Mr Imamoglu has previously sought to bat away questions about his ambitions beyond the city he will now lead. But in his victory speech on Sunday night, he nodded to the broader consequences of his win against the party of Recep Tayyip Erdogan, the Turkish president, who has so often seemed unstoppable. ‘The winner of this election is not one person, one party, one group or one segment,’ he told a room packed with TV cameras… ‘All of Istanbul and Turkey have won.’”
June 28 – Bloomberg (Rahul Satija): “Indian shadow banks’ woes are worsening by the day with investors now demanding the highest premium in six years to hold their short-term debt. Spreads on top-rated one-year bonds of Indian non-bank lenders over government bonds of the same maturity have risen 63 bps since India’s mini-Lehman moment when the systemically important Infrastructure Leasing & Financial Services Ltd. was cut to default in September. This is the widest level since 2013… Trouble has only spread across the sector in recent months. Edelweiss Financial and Piramal Capital & Housing Finance are the latest to join an expanding list of non-bank financiers downgraded or placed under watch by rating companies after ICRA cut their long-term ratings this week.”
June 27 – Reuters (Tom Perry): “Slowing capital inflows to Lebanon and weaker deposit growth increase the risk of a debt rescheduling or other steps that may constitute a default despite fiscal consolidation measures in the 2019 draft budget, Moody’s… said. The draft budget aims to cut the deficit to 7.6% of gross domestic product from 11.5% last year, with Lebanese leaders warning the country faces financial crisis without reform. Asked about the Moody’s credit analysis, Finance Minister Ali Hassan Khalil said… ‘matters are under control’.”
Global Bubble Watch:
June 27 – Reuters (Greg Roumeliotis and Pamela Barbaglia): “Mega deals set the pace for mergers and acquisitions (M&A) globally in the second quarter of 2019, as large U.S. companies defied trade row jitters and seized on strong equity and debt capital markets to agree on transformative combinations. Global M&A volume reached $842 billion in the second quarter, down 13% and 27% from the first quarter of 2019 and second quarter of 2018 respectively, according to… Refinitiv… U.S. M&A totaled $466 billion in the second quarter, down just 3% from a year ago. Dealmaking in Europe, however, plunged 54% to $152 billion, while Asia M&A dived 49% to $132 billion.”
June 28 – Bloomberg (Neha D'silva and Finbarr Flynn): “Asian bond sales in dollars, yen and euros hit a record in the second quarter, as dovish central banks kept borrowing costs attractive, amid headwinds from the ongoing trade war that threatens to derail economic growth. Bond sales by issuers in Asia excluding Japan in the three currencies crossed $100 billion in the second quarter, the most ever for the period… That helped year-to-date issuance hit a record as well.”
June 25 – Bloomberg (John Ainger): “The century-bond fanfare is back. Austria is looking at the possibility of launching a new 100-year security as yields across the globe drop to record lows. The nation first launched a note of that length two years ago, and it currently yields just over 1%, highlighting just how desperate investors are for returns. ‘It’s a great time to issue,’ said Jens Peter Sorensen, chief analyst at Danske Bank A/S. ‘It is driven by necessity and the hunt for yield.’”
June 24 – Financial Times (Joshua Chaffin and Don Weinland): “Wu Xiaohui was shopping in New York. For buildings. ‘He didn’t really care — he’d point out the window and say: that one!’ recalls a real estate executive who met Mr Wu, then chairman of China’s Anbang Insurance. The acquisition strategy — to the extent there was one — appeared to be ‘the bigger, the better’, the executive recalled. Among the baubles Mr Wu snapped up was the fabled Waldorf-Astoria Hotel, the preferred Manhattan lodging of visiting kings, presidents and Frank Sinatra. Anbang paid $1.95bn for it in late 2014 — the biggest ever sum for a US hotel. These days Wu is in jail in China, sentenced to 18 years for fraud and embezzlement. Anbang, meanwhile, is under the control of the Chinese government and looking to unload US properties worth billions of dollars. The reversal is part of a dramatic exodus by Chinese companies that stormed the Manhattan property market — paying record-breaking sums for trophy buildings and filling the pockets of opportunistic sellers — only to beat a hasty retreat a few years later. ‘It’s like a tsunami that came rushing in and then the waters went back out to the sea,’ one developer says.”
Fixed-Income Bubble Watch:
June 25 – Bloomberg (Vildana Hajric and Carolina Wilson): “As the risk of an economic slowdown lingers, exchange-traded fund investors are seeking shelter in bond funds. They’ve poured about $72 billion into fixed-income ETFs this year through June 24, with the funds on track for their biggest first-half inflows ever… Those bets have also fueled assets in the debt strategies to hit an all-time high of nearly $741 billion.”
June 24 – Financial Times (Joe Rennison): “Heavy hints of further monetary easing from the Federal Reserve have boosted almost all corners of the debt markets, from sovereign bonds to corporate credit. But there is one part of the market that has stubbornly sat out the rally: triple-C bonds, one of the lowest rungs on the ratings ladder. Bonds rated triple C and below have fallen 1.5% since trade tensions escalated at the beginning of May, compared with gains of 1.7% for higher-rated, double-B bonds. Typically, the lowest rated bonds offer investors higher returns because of the increased risk of lending to struggling companies.”
Leveraged Speculation Watch:
June 27 – Bloomberg (Scott Deveau): “The global economy is likely heading toward a ‘significant market downturn,’ according to billionaire Paul Singer. ‘The global financial system is very much toward the risky end of the spectrum,’ Singer said during a panel… ‘Global debt is at an all-time high. Derivatives are at an all-time high.’ The co-founder and co-chief executive officer of Elliott Management Corp. estimated that there will be a market correction of 30% to 40% when the downturn hits. He said he couldn’t predict the timing.”
June 28 – Bloomberg (Sammy Criscitello): “Global hedge fund liquidations exceeded launches for the third consecutive quarter as managers faced a tough capital-raising environment. About 213 funds closed in the first three months of this year, compared with 136 that opened, according to… Hedge Fund Research Inc… Liquidations remained steady from the prior quarter, while launches rose about 23%. Hedge fund startups are under pressure amid lackluster performance and investor discontent over high fees. Investors pulled $17.8 billion from hedge funds in the first three months of this year, the fourth consecutive quarterly outflow.”
Geopolitical Watch:
June 25 – Reuters (Lesley Wroughton): “President Donald Trump is still committed to a pressure campaign to force Venezuelan President Nicolas Maduro to step aside to make way for opposition leader Juan Guaido, Washington’s envoy for Venezuela said…”
June 24 – Reuters (Manaure Quintero): “A Russian air force plane landed on Monday in Venezuela’s main airport…, three months after a similar arrival spurred a war of words between Washington and Moscow.”
June 24 – Reuters (Maria Kiselyova): “The U.S. deployment of land-based missile systems near Russia’s borders could lead to a stand-off comparable to the 1962 Cuban missile crisis, Russian Deputy Foreign Minister Sergei Ryabkov was quoted as saying… Russia has been fiercely critical of U.S. plans to deploy missile systems in eastern Europe, and of Washington’s withdrawal from the INF arms control treaty. The Cuban missile crisis erupted in 1962 when the Soviet Union responded to a U.S. missile deployment in Turkey by sending ballistic missiles to Cuba, sparking a standoff that brought the world to the brink of nuclear war.”
June 25 – Reuters (Hyonhee Shin): “The recent U.S. extension of sanctions against North Korea was an act of hostility and an outright challenge to an historic summit between the two countries in Singapore last year, a spokesman for Pyongyang’s foreign ministry said…”
June 23 – Bloomberg (Andrea Shalal): “U.S. arms makers say European demand for fighter jets, missile defenses and other weapons is growing fast amid heightened concerns about Russia and Iran. The U.S. government sent a group of unusually high-ranking officials including Commerce Secretary Wilbur Ross to the Paris Airshow this year, where nearly 400 U.S. companies were showcasing equipment as the United States and Iran neared open confrontation in the Persian Gulf. Lockheed Martin, Boeing and other top weapons makers said they had seen accelerating demand for U.S. weapons at the biennial air show despite escalating trade tensions between the United States and Europe.”