Saturday, October 4, 2014

06/12/2009 No Conundrum, Again *

For the week, the S&P500 added 0.7% (up 4.8% y-t-d), and the Dow increased 0.4% (up 0.3% y-t-d). The Morgan Stanley Consumer index declined 1.0% (up 3.0%). The Utilities jumped 4.0%, cutting its 2009 decline to 5.2%. The Morgan Stanley Cyclicals increased 0.5% (up 24.1%), and the Transports added 0.3% (down 5.0%). The Banks jumped 4.2% (down 12.9%), and the Broker/Dealers added 0.2% (up 33.5%). The broader market quieted down a bit. The S&P 400 Mid-Caps added 0.2% (up 10.9%), while the small cap Russell 2000 declined 0.7% (up 5.5%). The Nasdaq100 slipped 0.2% (up 23.0%), while the Morgan Stanley High Tech index gained 2.1% (up 35.6%). The Semiconductors rose 1.5% (up 29.5%), and the InteractiveWeek Internet index added 0.1% (up 45.1%). The Biotechs increased 0.7% (up 5.6%). With Bullion falling $16, the HUI gold index dropped 5.0% (up 15.6%).

One-month Treasury bill rates ended the week at 8 bps, and three-month bills closed at 18 bps. Two-year government yields declined about a basis point to 1.18%. Five year T-note yields fell 6 bps to 2.74%. Ten-year yields declined 4 bps to 3.79%. The long-bond saw yields end the week up one basis point to 4.64%. The implied yield on 3-month December ’09 Eurodollars sank 25.5 bps to 1.11%. Benchmark Fannie MBS yields were unchanged at 4.90%. The spread between benchmark MBS and 10-year T-notes widened 4 bps to 111 bps. Agency 10-yr debt spreads narrowed 12 to 20 bps. The 2-year dollar swap spread declined 7 to 42 bps; the 10-year dollar swap spread declined 10.25 to 27.75 bps; and the 30-year swap spread declined 10.5 to negative 24.25 bps. Corporate bond spreads were mixed to narrower. An index of investment grade bond spreads was unchanged at 172 bps, while an index of junk spreads narrowed another 28 to 846 bps.

Corporate debt issuance was about half of last week's blistering $39bn (according to Bloomberg). Investment grade issuers included Citigroup $3.0bn, Dell $1.0bn, Anadarko $900 million, International Game Technology $500 million, Fortune Brands $500 million, Pacific Gas & Electric $500 million, CVS $480 million, American Financial Group $350 million, CMS Energy $300 million, Kansas Gas & Electric $300 million, and Entergy Mississippi $150 million.

The list of junk issuers included Right Aid $410 million, Interpublic $600 million, Penn Virginia Corp $300 million, Connacher Oil $200 million, Wallace Theater $157 million, and Clearwater Paper $150 million.

June 11 – Bloomberg (Pierre Paulden and Katherine Burton): “Convertible bonds that punished hedge funds in 2008 are driving returns at Canyon Partners and Citadel Investment Group LLC and helping companies… raise capital. Canyon, the $14.4 billion investment firm run by former Drexel Burnham Lambert Inc. bankers, gained more than 51% in its convertible fund through May 22… Citadel posted a 21% return in its two main funds through May, aided by convertible bets.”

I saw no convert issuance this week.

International dollar debt issuers included Ontario $4.0bn, Suncorp-Metway $2.5bn, Australian & New Zealand Bank $1.5bn, Korea Hydro & Nuclear $1.0bn, BNP Paribas $450 million, Lloyds Bank $250 million, and Royal Bank of Canada $200 million.

June 12 – Bloomberg (Garfield Reynolds): “Emerging-market equity funds received $3.4 billion in the week to June 10, the 14th-straight week of net inflows… EPFR Global said.”

U.K. 10-year gilt yields rose 5 bps to 3.97%, while German bund yields dropped 9 bps to 3.63%. The German DAX equities index was little changed (up 5.4%). Japanese 10-year "JGB" yields added 2 bps to 1.51%. The Nikkei 225 jumped 3.8% (up 14.4%). Emerging markets were mixed. Brazil’s benchmark dollar bond yields declined 3 bps to 5.97%. Brazil’s Bovespa equities index added 0.2% (up 42.6% y-t-d). The Mexican Bolsa gained 2.2% (up 13.8% y-t-d). Mexico’s 10-year $ yields jumped 27 bps to 6.24%. Russia’s RTS equities index was unchanged (up 78.4%). India’s Sensex equities index increased 0.9% (up 58%). China’s Shanghai Exchange slipped 0.4% (up 50.7%).

Freddie Mac 30-year fixed mortgage rates surged 30 bps to 5.59% (down 73bps y-o-y), with a 3-week gain of 77 bps. Fifteen-year fixed rates jumped 27 bps to 5.06% (down 87bps y-o-y). One-year ARMs gained 23 bps to 5.04% (down 5bps y-o-y). Bankrate's survey of jumbo mortgage borrowing costs had 30-yr fixed jumbo rates up 11 bps to 6.67% (down 59bps y-o-y).

Federal Reserve Credit dropped $40.5bn last week to $2.025TN. Fed Credit has declined $221bn y-t-d, although it expanded $1.152 TN over the past 52 weeks (132%). Elsewhere, Fed Foreign Holdings of Treasury, Agency Debt this past week (ended 6/10) surged $17.9bn to a record $2.750 TN. "Custody holdings" have been expanding at an 20.9% rate y-t-d, and were up $445bn over the past year, or 19.3%.

Bank Credit jumped $29.6bn to $9.788 TN (week of 6/3). Bank Credit was up $373bn year-over-year, or 4.0%. Bank Credit is now down $125bn y-t-d (3.0% annualized). For the week, Securities Credit rose $33.6bn. Loans & Leases declined $4.0bn to $7.110 TN (52-wk gain of $212bn, or 3.1%). C&I loans dropped $17.3bn, with a one-year decline of 0.3%. Real Estate loans expanded $14.5bn (up 7.0% y-o-y). Consumer loans fell $6.5bn, while Securities loans gained $7.2bn. Other loans dipped $2.0bn.

Year-to-date total US ABS issuance of $60bn (tallied by JPMorgan's Christopher Flanagan) is about two-thirds of the $102bn from comparable 2008. U.S. CDO issuance of $24bn compares to last year's y-t-d $15bn.

M2 (narrow) "money" supply slipped $7.5bn to $8.349 TN (week of 6/1). Narrow "money" has expanded at a 4.4% rate y-t-d and 9.1% over the past year. For the week, Currency added $0.9bn, while Demand & Checkable Deposits declined $6.1bn. Savings Deposits increased $5.2bn, while Small Denominated Deposits fell $4.3bn. Retail Money Funds declined $3.2bn.

Total Money Market Fund assets (from Invest Co Inst) fell $16.3bn last week to $3.747 TN. Money fund assets have declined $83bn y-t-d, or 4.9% annualized. Money funds expanded $306bn, or 8.9%, over the past year.

Total Commercial Paper outstanding declined $14.8bn this past week to $1.230 TN. CP has declined $452bn y-t-d (61% annualized) and $542bn over the past year (31%). Asset-backed CP sank $32.5bn to $525bn, with a 52-wk drop of $236bn (31%).

International reserve assets (excluding gold) - as accumulated by Bloomberg’s Alex Tanzi – were down $24bn y-o-y to $6.798 TN. Reserves have increased $33bn year-to-date.

Global Credit Market Dislocation Watch:

June 10 – Bloomberg (Niklas Magnusson): “Sweden’s four largest banks can handle loan losses in Estonia, Latvia and Lithuania of 150 billion kronor ($20 billion) over a three-year period, the Nordic country’s Financial Supervisory Authority said. ‘All of the big banks can withstand extreme pressure in the coming period,’ the… financial watchdog said… ‘There is currently no need for any of the big banks to strengthen their capital adequacy based on the regulatory requirements.’”

Government Finance Bubble Watch:

June 8 – Bloomberg (Liz Capo McCormick and Dakin Campbell): “The biggest price swings in Treasury bonds this year are undermining Federal Reserve Chairman Ben S. Bernanke’s efforts to cap consumer borrowing rates and pull the economy out of the worst recession in five decades… The rise in borrowing costs in the face of record low interest rates, Fed purchases and a contracting economy is the opposite of the challenge Bernanke’s predecessor, Alan Greenspan, confronted when he led the Fed. In February 2005, Greenspan said… that a decline in long-term bond yields after six rate increases was a ‘conundrum.’ At the time, he was trying to keep the economy from overheating and sparking inflation. Now, Bernanke may be facing his own.”

June 12 – Bloomberg (Meera Louis): “European governments have approved $5.3 trillion of aid, more than the annual gross domestic product of Germany, to support banks during the credit crunch, according to a European Union document. The U.K. pledged 781.2 billion euros ($1.1 trillion) to restore confidence in its lenders, the most of any of the 27 EU members…”

Currency Watch:

June 12 – Bloomberg (Joshua Goodman and Michael Forsythe): “Leaders of Brazil, Russia, India and China will probably use their first summit next week to press the case that their 15% share of the world economy and 42% of global currency reserves should give them more clout… Brazil and Russia joined China this week in saying they would shift some $70 billion of reserves into multicurrency bonds issued by the International Monetary Fund… ‘The rebalancing of relative economic power is not only alive but gaining momentum,’ said Mohamed El-Erian, chief executive officer of Pacific Investment Management… ‘Average investors need to make sure that they are not hostage to an outdated conventional wisdom that underexposes them to this phenomenon.’”

June 9 – Bloomberg: “The world should discuss ideas to reform the global monetary system, though any talk of dumping the dollar is ‘unrealistic,’ China’s Vice Foreign Minister He Yafei said. ‘No one is talking about dumping the dollar…Some experts and scholars have proposed the idea of a super sovereign currency. We should have such a discussion.” Russian President Dmitry Medvedev last week proposed that nations use a mix of regional reserve currencies to reduce reliance on the dollar. The subject may be on the agenda when he meets his counterparts on June 16 in the Ural Mountains city of Yekaterinburg, the Kremlin said…”

June 8 – Bloomberg (Shanthy Nambiar and Lilian Karunungan): “The BRICs are buying dollars at the fastest pace since before credit markets froze in September, protecting exports even as leaders of the biggest emerging markets consider alternatives to the U.S. currency. Brazil, Russia, India and China increased foreign reserves by more than $60 billion in May to limit currency gains as the first global recession since World War II restricted exports, data compiled by central banks and strategists show. Brazil bought the most dollars in a year, India’s reserves gained the most since January 2008 and Russia added the most foreign exchange since July.”

The dollar index declined 0.6% this week to 80.20 (down 1.4% y-t-d). For the week on the upside, the British pound increased 2.9%, the New Zealand dollar 2.6%, the Australian dollar 2.5%, the Brazilian real 1.7%, the Swedish krona 1.6%, the Norwegian krone 1.2%, the South African rand 0.7%, the Swiss franc 0.5%, the Japanese yen 0.3%, the Euro 0.3%, and the Canadian dollar 0.1%. On the downside, the South Korean won declined 0.9%, the Mexican peso 0.8%, and the Taiwanese dollar 0.6%.

Commodities Watch:

June 11 – Bloomberg (Grant Smith): “The International Energy Agency raised its global oil-demand forecast for the first time in 10 months on signs that the economic slowdown is abating. The adviser to 28 nations increased its global oil demand estimate for this year by 120,000 barrels a day to 83.3 million barrels a day, driven by consumption in U.S. and China. Consumption worldwide will contract by 2.9% from last year, the biggest drop since 1981…”

June 11 – Bloomberg (Zainab Fattah): “Copper imports by China, the world’s largest consumer of the metal, climbed for a fourth month to a record in May… China’s urban fixed-asset investment surged 32.9%... in the first five months from a year earlier as the government pumped money into building railways, oil pipelines and low-cost housing.”

Gold ended the week down 1.7% to $939 (up 6.5% y-t-d). Silver fell 3.7% to $14.83 (up 31.3% y-t-d). July Crude inflated another $3.76 (4-wk gain of $15.20) to $72.20 (up 62% y-t-d). July Gasoline jumped 5.1% (up 93.4% y-t-d), and June Natural Gas increased 0.6% (down 1.4% y-t-d). September Copper rose 4.2% (up 70% y-t-d). July Wheat fell 6.1% (down 4.3% y-t-d), and July Corn dropped 4.2% (up 4.5% y-t-d). The CRB index rose 1.7% (up 14.3% y-t-d). The Goldman Sachs Commodities Index (GSCI) surged 3.7% (up 35.3% y-t-d).

China Reflation Watch:

June 12 – Bloomberg: “China’s new lending doubled in May and industrial output and retail sales climbed more than economists estimated… New loans jumped to 664.5 billion yuan ($97 billion) from 318.5 billion yuan a year earlier… Industrial-output growth accelerated to 8.9% and sales rose 15.2%...”

June 10 – Bloomberg (Zainab Fattah): “China’s property sales and investment accelerated, adding to signs that growth in the world’s third-largest economy is recovering. Sales rose 45.3% to 1 trillion yuan ($146 billion) in the first five months of 2009 from a year earlier and real- estate investment growth quickened to 6.8%... Sales grew 35.4% in the first four months.”

June 10 – Bloomberg: “Zhao Hang, who helped devise China’s auto-stimulus package, is facing demand from car buyers battling an unexpected consequence -- two-month waiting lists. ‘Eight friends have asked me to make calls or write notes to contacts to help speed purchases,’ Zhao, president of the government-linked China Automotive Technology & Research Center said… Beijing drivers, used to leaving showrooms with new cars the same day, now have to wait about three weeks for a Hyundai Motor Co. Yuedong Elantra, China’s bestselling car, or as long as eight weeks for a Honda Motor Co. CR-V sport-utility vehicle.”

June 11 – Bloomberg: “China’s exports fell by a record as the global recession cut demand for goods produced by the world’s third-largest economy. Overseas sales dropped 26.4% in May from a year earlier… China… has cut taxes, boosted lending and pledged to keep its currency stable to sustain overseas sales amid the worst global slump since the Great Depression.”

Japan Watch:

June 12 – Bloomberg (Toru Fujioka): “Japan’s household sentiment rose to a 14-month high in May, adding to signs that the deepest postwar recession may be easing.”

India Bubble Watch:

June 12 – Bloomberg (Kartik Goyal): “India’s industrial production unexpectedly rose for the first time in three months, suggesting interest-rate cuts and government stimulus measures are helping resuscitate demand in Asia’s third-biggest economy. Output at factories, utilities and mines advanced 1.4% from a year earlier after a revised 0.75% drop in March…”

Latin America Watch:

June 12 – Bloomberg (Jens Erik Gould): “Mexico may join Russia, Brazil and China in increasing financing for the Washington-based International Monetary Fund, Mexican central bank Governor Guillermo Ortiz said.”

June 8 – Bloomberg (Eliana Raszewski): “Argentina’s inflation rate is picking up, even as growth in South America’s second-biggest economy comes to a standstill, putting pressure on policy makers to weaken the currency. The monthly inflation rate rose to 1.5% in May from 1.2 percent in April…”

Unbalanced Global Economy Watch:

June 12 – Bloomberg (Brian Swint): “European industrial production dropped by the most on record in April as the worldwide recession ravaged demand for goods. Production in the euro region plunged 21.6% from a year earlier…”

June 8 – Bloomberg (Helena Bedwell): “Georgia’s recession is deepening at an “alarming” pace as a result of a two-month political protest that has interrupted trade and spooked investors in the former Soviet state, Finance Minister Kakha Baindurashvili said. ‘I directly blame this on street politics,” Baindurashvili, 30, said… ‘It has influenced our plans and affected investor confidence.’”

Bursting Bubble Economy Watch:

June 8 – Bloomberg (Rich Miller and Matthew Benjamin): “As if General Motors Corp. didn’t have enough to worry about, a 60% jump in gasoline prices this year may cause inflation to soar as it did in 2008 and throw another roadblock in the way of recovery… The increases threaten a burst of inflation that could sap demand just as the U.S. economy is starting to right itself after the biggest contraction in five decades.”

Central Banker Watch:

June 8 – Bloomberg (Tracy Withers): “New Zealand central bank Governor Alan Bollard says tools such as quantitative easing are imperfect and he doesn’t want to use them, he said in an interview published yesterday. ‘If we felt we’d got to the stage where we though monetary policy wasn’t having its normal orthodox impact, we have prepared to do other things,” Bollard told news agency Scoop. ‘I should say I’m not expecting to have to use them. Because we see them as imperfect tools, I’m hoping we never will.’”

Real Estate Bust Watch:

June 11 – Bloomberg (Sarah Mulholland): “Investors in bonds that packaged $62 billion of debt for U.S. offices, hotels and shopping malls are bracing for more loan defaults through 2010 as Bank of America Merrill Lynch says landlords’ monthly payments may jump 20% or more. Principal is coming due on the so-called partial interest- only loans as an 18-month-old recession saps demand for commercial real estate. About $179 billion of such loans were written between 2005 and 2007 and bundled into bonds, according to data from Bank of America Merrill Lynch.”

MBS/ABS/CDO/CP/Money Funds and Derivatives Watch:

June 12 – Bloomberg: “Credit-default swaps are “instruments of destruction” and should be “outlawed,” said George Soros, the billionaire hedge fund manager who made money last year while most peers posted losses. ‘Some derivatives ought not to be allowed to be traded at all,’ Soros…told a conference…citing credit-default swaps. ‘The more I hear about it, the more I realize that they’re truly toxic.’ Derivatives should be as tightly regulated as stocks, he added.”

June 11 – Bloomberg (Brian Louis): “Shirley Breitmaier’s mortgage payment started out at $98 when she refinanced her three-bedroom home… in 2007. The 73-year-old widow may see it jump to $3,500 a month in two years. Breitmaier took out a payment-option adjustable rate mortgage, a loan popular during the housing boom for its low minimum payments before resetting at higher costs later. About 1 million option ARMs are estimated to reset higher in the next four years, according to… First American CoreLogic… About three quarters of those loans will adjust next year and in 2011, with the peak coming in August 2011 when about 54,000 loans recast…”

Speculator Watch:

June 12 – Bloomberg (Tomoko Yamazaki): “Hedge funds returned an average 5.2% in May, the best performance in more than nine years, as they attracted more money and global markets rallied, Eurekahedge Pte said. The Eurekahedge Hedge Fund Index, tracking more than 2,000 funds, has advanced 9.2% this year…”

Crude Liquidity Watch:

June 11 – Bloomberg (Zainab Fattah): “The vacancy rate in Dubai’s residential property market could double to about a third by the end of 2010…UBS AG said. The amount of empty houses and apartments may increase from as much as 15% at the moment, Saud Masud…analyst at UBS, said… About 30,000 homes will be competed by 2011, Masud estimates.”

No Conundrum, Again:

Ten-year Treasury yields traded briefly above 4.0% this week for the first time since last October. Benchmark MBS yields jumped as high as 5.12%, up from 3.94% as recently as May 20th. Long-bond yields reached the highest (4.76%) since October 2007.

Despite a near zero Fed funds rate and about $25bn of weekly MBS purchases by the Federal Reserve, yields have surprised the marketplace on the upside. Those of the bullish persuasion are content to see rising yields as confirmation of economic recovery. Others are referring to another “Conundrum.” It is worth noting that 10-year Treasury yields are about 20 bps higher than their German counterparts today, after trading near 20 bps lower only a month ago.

When the Greenspan Fed finally nudged up the funds rate from 1% to 1.25% at the end of June 2004, MBS yields were trading at about 5.5%. By the end of 2005 - after Fed funds had been hiked 325 bps to 4.50% - benchmark MBS yields had only increased 30 bps to 5.80%. Mortgage and housing Bubbles continued to gain strong momentum. Greenspan began referring to the low bond yield “Conundrum” – the phenomena where market yields were failing to respond to so-called Federal Reserve “tightening.” The new “Bernanke Conundrum” is a problematic rise in market yields in the face of ultra-low Fed funds and massive quantitative ease (including MBS purchases).

I never bought into Greenspan’s Conundrum, nor do I see any current mystery with regard to U.S. market yields. During the period 2004 through 2007, Credit Bubble excess played a fundamental role in distorting the demand for U.S. securities, especially Treasuries and agencies (debt and MBS). Back then I titled a CBB “No Conundrum.”

In particular, massive speculative leveraging of mortgage-related securities during the boom created excess market demand and artificially low yields throughout the mortgage finance arena. Extremely loose financial conditions were self-reinforcing, as cheap and readily available mortgage Credit inflated home prices and (temporarily) deflated Credit costs. Market distortion-induced excess returns incited a fateful flood of speculative finance into the mortgage sector. At the same time, Credit Bubble-induced dollar outflows (massive Current Account deficits coupled with heightened flows seeking profits from dollar weakness) inundated foreign central banks (notably China’s), creating artificial foreign demand for U.S. Treasuries and agency securities. In short, the Fed's post-tech Bubble reflation had spurred unwieldy Bubbles throughout the U.S. securities and asset markets – Bubbles the Fed refused to tackle.

The Credit Bubble created incredibly distorted supply and demand dynamics for both mortgage securities and Treasuries. At the same time, Bubble-related price and financial profit distortions fostered demand for (“money-like”) U.S. debt securities. This process eased the burden of recycling massive U.S. global outflows back to dollar instruments. The “private” Credit system was expanding uncontrollably, while Fed rate tinkering provided no restraint. Today, with the Wall Street/mortgage finance Bubble having burst, our challenge is to carefully analyze dynamics in an effort to gauge the emergence of new supply/demand and price relationships.

Until proven otherwise, I will view the recent backup in U.S. market yields as indicating the emergence of important new global market dynamics. For much of the past year, the dollar benefited from various facets of a short-covering rally. This dollar strength reinforced the perception of U.S. Treasury and agency securities as premier global safe haven assets. Global financial crisis buoyed the dollar, albeit temporarily. U.S. market yields collapsed, bolstering the view in Washington and throughout the markets that U.S. policymakers retained virtually unlimited flexibility.

The belief in a renewed King Dollar, in combination with what appeared powerful global deflationary forces, had most convinced that inflation risk had been taken completely out of the equation. But after trading to almost 90 in early March, the dollar index again dropped back below 80. The combination of double-digit (as % of GDP) U.S. federal deficits, massive Federal Reserve “quantitative ease,” and renewed dollar weakness granted virtually unlimited flexibility to policymakers around the globe. China, the U.S. and Europe were on the forefront of unprecedented synchronized global monetary and fiscal stimulus. Government finance Bubble and global reflation dynamics quickly emerged.

Global reflation has the markets reexamining early held views. For one, the dollar has become much less appealing, both as a safe haven vehicle and as a longer-term store of value. To be sure, the U.S. is these days a fiscal blackhole. Moreover, global reflation is typically more constructive for the “emerging” and “commodity” economies. And the greater the flows from the “Core” (U.S.) to the “Periphery” the more incentive there is to diversify out of the devaluing dollar. The greater the relative outperformance of non-dollar asset-classes - the greater the self-reinforcing speculative flows available to fuel global reflation. Meanwhile, the combination of a weaker dollar and the emerging global reflationary scenario dramatically alter the prospective U.S. inflationary backdrop. Crude prices have more than doubled from February lows.

The rejuvenated dollar from a few months back appeared to assure great leeway to the Bernanke Fed. The expectation was that the Fed essentially had unlimited capacity to employ “quantitative easing.” This bolstered the market’s generally sanguine view of the yield impact from the Treasury’s massive funding requirements. Especially with the announcement of huge ongoing MBS purchases, the view solidified that the Fed would essentially peg long-term market yields - as it does short-term borrowing rates. And, importantly, the perception that the Fed could set artificially low long-term interest rates – hence Treasury funding costs – worked to bolster a more optimistic reading of the U.S. fiscal position (not to mention the U.S. household balance sheet).

Yet a much more uncertain world is emerging. Global reflation and international markets are – as inflation and market dynamics tend to do - taking on a life of their own. And just as Credit Bubble dynamics overwhelmed Greenspan rate tinkering back in 2004/05, there are now strong countervailing market forces working against the efficacy of Bernanke helicopter money. If global reflation takes hold simultaneous with a weakening dollar, inflation could easily emerge as a major threat here in the U.S. And if global markets begin determining longer-term U.S. Treasury and MBS yields – as opposed to the Bernanke Fed manipulating them artificially low – the U.S. recovery outlook becomes greatly more clouded.

During the 2005 “Conundrum,” market dynamics fed the U.S. Bubble, as artificially low rates boosted household borrowings, asset prices and consumption. Increasingly, it appears the new “Conundrum” is putting upward pressure on market yields. Such a scenario holds the potential to stop the mortgage refinancing boom in its tracks, while delaying a meaningful recovery in housing markets and household consumption.

It is fundamental to my analysis that the unfolding reflation will be altogether different than previous ones. On a global basis - and contrary to the consensus view - I expect the U.S. economy to under-perform. Already, a scenario is unfolding where reflation hurts the U.S. consumer through higher energy and import costs, rising borrowing costs, and a greater tax burden. And in contrast to more recent inflations, U.S. securities will be anything but the focal point of global reflation dynamics. I expect global markets to increasingly determine U.S. market yields, with resulting higher borrowing costs and less liquidity generally stymieing recovery in our asset markets.

The consensus view would scoff at my thesis of global markets disciplining our policymakers. Many assume that the Fed would respond to rising yields by increasing its purchases of MBS and Treasuries. But monetization would become greatly more problematic in the event of a market turn against our currency. And our foreign creditors have been signaling monetization angst. The really problematic scenario unfolds when market yields spike higher, the Fed monetizes, dollar selling intensifies, and the world questions our capacity to service our federal and mortgage debts.

An economy can only inflate Credit, devalue its currency, flood the world with its debt obligations – all working to disburse financial and economic power out to the world – until at some point power dynamics reach a tipping point. There is No Conundrum, Again…