Friday, May 5, 2017

Weekly Commentary: Belly of the Beast

We’re at an important juncture for the global Bubble. There are growing divergences and anomalies. Market signals are increasingly conflicting and confounding: European equities in melt-up and U.S. markets at record highs, while China falters. Bond yields rising and commodities sinking. Talk of derivative issues and leveraged player struggles. Often discordant economic data providing fodder for bulls and bears alike.

Let’s begin at home. While recovering somewhat from March’s huge disappointment, at 16.81 million annualized (SAAR) units, April vehicles sales were significantly below estimates (17.1 million). This supports the view of tightened lending standards in auto finance. Also boosting the bear case, the ISM Manufacturing Index dropped to a weaker-than-expected 54.8, down from March’s 57.2 and February’s 57.7. March Personal Spending was reported flat versus estimates of up 0.2%. First quarter Non-farm Productivity was reported at a stinkball down 0.6% (est. down 0.1%).

At the same time, those anticipating stronger Q2 growth were this week heartened by a slew of data points (market now sees 100% probability of June rate increase). Most notably, the ISM Non-Manufacturing Index bounced back strongly from March weakness. At 57.5, the index almost recovered back to February’s 56.7, the high going back to October 2015. The ISM Manufacturing Price Paid Index remained elevated at 68.5, and New Orders were a strong 57.5. Durable Goods Orders were stronger-than-expected. And an indicator I’m monitoring closely these days, mortgage purchase applications, increased last week to approach the strongest level since 2009. And, of course, at 194,000, non-farm payrolls bounced back briskly from March’s (revised) 79,000. As a reminder of how services these days so dominate U.S. economic structure, April saw only 6,000 manufacturing jobs added.

Examining the data, it’s not difficult to explain this week’s upward trajectory in equities and downward pressure on bond prices. Ten-year Treasury yields increased six bps this week to 2.35%. Meanwhile, the S&P500 and Nasdaq Composite ended the week at all-time highs. Spanish stocks jumped 3.9%, and Italian equities surged 4.2%.

More intriguing, yields and equities rose as commodities came under heavy selling pressure. Crude sank $3.11 this week, trading below $45 for the first time since November. WTI ended the week at $46.22, after trading as low as $43.76 overnight. There was more to the sell-off than OPEC and American shale production. The week also saw nickel drop 2.1%, tin 1.3% and lead 1.1%. Shanghai Aluminum fell 1.9%. The Chinese iron ore collapse continued, while Shanghai steel sank 6%. Copper lost 3.0%, trading to a 2017 low. Silver sank 5.7% and Platinum fell 3.5%.

It’s not all that astounding that markets disregard troubling issues unfolding in Chinese finance. The bullish narrative is focused on Trump administration tax cuts, deregulation and infrastructure spending. Throw in a European recovery and hope for EM. Talk is clearly not of a historic global Bubble vulnerable to a massive and fragile Credit Bubble in China. That is an analytical perspective markets avoid like the plague.

Market apathy notwithstanding, there are important developments to monitor. Let’s start with China’s economy, where it appears the past year’s Credit-induced thrust in activity has begun to wane. China’s Caixin Manufacturing PMI dropped to a weaker-than-expected (and barely expanding) 50.3 in April, the low since last September’s 50.1. Perhaps more ominously, the month-on-month decline in the Caixin Services index was even steeper. It dropped to 51.5, the weakest reading in almost a year.

The Shanghai Composite dropped 1.6% this week, trading to the low since mid-January. China’s growth-oriented ChiNext index fell 1.8% (down 7.3% y-t-d) to near multi-year lows. Notably, Hong Kong’s Hang Seng Financial index sank 2.7%.

May 4 – Bloomberg: “Signs are emerging that the Chinese government’s renewed drive to curb financial leverage is starting to bite. The number of wealth-management products issued by Chinese banks slumped 39% in April from the previous month, while trust firms distributed 35% fewer products, according to data compilers PY Standard and Use Trust. Sales of negotiable certificates of deposit, a popular instrument of interbank lending known as NCDs, tumbled 38% from a record, figures compiled by Bloomberg show. The system-wide contraction is a result of a flurry of government measures over the past month that included ordering banks to bolster risk controls, stepping up scrutiny of shadow financing and cracking down on malfeasance among senior bureaucrats. While the moves have rocked China’s financial markets, the government is sending a clear signal of its determination to curb the estimated $28 trillion debt pile that poses a risk to economic stability.”

May 3 – Financial Times (Gabriel Wildau in Shanghai and Peter Wells): “A key Chinese money-market rate matched a two-year high on Wednesday after the central bank drained cash from the banking system, part of an ongoing effort to tame financial risks by squeezing liquidity. Authorities are facing the tricky task of increasing regulation of risky financial instruments without spooking investors or raising borrowing costs in the real economy. Short-term lending rates have climbed since President Xi Jinping told a politburo meeting last week that financial security was ‘strategically important’ for economic and social development. Investors interpreted his remarks as a sign that monetary policy will tighten. The benchmark seven-day repo rate hit a two-year high of 3.18%...”

May 1 – Reuters (Adam Jourdan): “China's level of leverage is rising at an ‘alarming pace’, particularly in the finance sector, a senior central bank official said in a commentary, amid growing concern by the country's senior leaders over financial security. The official Xinhua news agency… cited Xu Zhong, head of the People's Bank of China's (PBOC) research bureau, as saying the country needed to deleverage at a ‘proper pace’ to reduce financial sector debt and avoid systemic financial risk. ‘China's overall leverage level is reasonable but is rising at an alarming pace, especially in the financial sector,’ Xu said.”

Chinese policymakers appear determined to diminish the expansion of its booming financial sector. The apparent plan is to apply constraints in a manner so to not unduly risk economic weakening or financial instability. Over recent years, officials have attempted various measures to rein in overheated real estate markets as well as speculative commodities, equities and bond markets. A couple times policymakers even came close to bursting Bubbles, before abruptly reversing course. In the end, the overall timid approach ensured the ongoing ballooning of China’s now mammoth financial sector and Credit Bubble more generally.

The problem confronting Beijing – and global policymakers more generally – relates to the old “Austrian” analysis that Bubbles are sustained only by ever-increasing quantities of Credit creation. Inflate a Credit Bubble – with resulting elevated price structures throughout the real economy, asset markets and the financial sphere – and these various inflated price levels become progressively susceptible to any meaningful and sustained slowdown in Credit creation.

There remains this dangerous misperception that economies can simply grow/inflate their way out of debt problems. This is at odds with reality. Especially late in the cycle, liquidity is funneled into inflating asset markets rather than to the real economy (suffering from overcapacity and waning profit opportunities). It becomes easier to make returns in finance than in goods and services. Meanwhile, policy measures to sustain the unstable boom further incentivize leveraging and speculating.

To this point, Chinese officials have “succeeded” in ensuring ever-increasing amounts of Credit. The upshot has been only more outrageous real estate (largely apartment) Bubbles, rapid Credit deterioration and deeper structural maladjustment.

Beijing understands that it has a problem and appears to have a new approach: They’re going to the Belly of the Credit Beast – “shadow banking” and, more specifically, “wealth management products” (WMP). They’re also cracking down on “insurance” companies.

I often refer to a Credit Bubble’s “Terminal Phase.” Systemic risk rises exponentially at the end of the cycle – rapidly escalating quantities of increasingly risky Credit. And contemporary finance is replete with products and vehicles to transform high-risk Credit into perceived safe and liquid (money-like) financial instruments. We saw this dynamic in the U.S. at the late-stage of the mortgage finance Bubble, with “AAA” ABS/MBS, derivatives and the like. In China, frightening amounts of high-risk Credit have been intermediated through a labyrinth of WMP and shadow banking.

This week saw some justified fear that Chinese measures may cripple shadow bank risk intermediation, slow system Credit growth, spur speculative deleveraging and spark illiquidity. The notoriously leveraged and speculative Chinese commodities sector proved the weak link. And a bout of intense deleveraging in this space raised fears that an unwind of leverage and resulting Credit instability could turn its sights on the mighty and mighty vulnerable apartment Bubble. How vulnerable is Chinese mortgage Credit these days to a tightening of Credit Availability and a self-reinforcing decline in home prices?

Of course, everyone knows that Beijing will not tolerate things getting out of hand. Much like the end to the ECB’s QE program, speculative markets are content to downplay China risks perceived to be at least a number of months into the distant future.

Chinese stocks retreated in Shanghai and Hong Kong as concerns mounted over Beijing’s efforts to reduce financial system leverage - along with worries that a selloff in commodities and spillover into equities could negatively impact economic confidence.

Friday from Bloomberg: “The Hang Seng China Enterprises Index led declines in Asia, sliding 1.6% at the close local time. Back on the mainland, the Shanghai Composite Index slipped 0.8%, taking its drop in the week to 1.6% and briefly breaking a key support level of 3,100 points. The gauge has fallen for four straight weeks… Northeast Securities Co. and Sinolink Securities Co. fell at least 5.8%. Brokers in Shenzhen received notice from regulators that they must stop combining funds raised from various wealth-management products into a single pool and investing them as one portfolio… Investors worry the regulation on asset-management pooling in Shenzhen might expand to brokers nationwide, said Capital Securities analyst Liao Chenkai.”

Beijing’s intentions notwithstanding, there’s high risk that things do spiral out of control. Shadow Banking has been the marginal source of risk intermediation during the recent Credit onslaught. This Credit avenue appears to be tightening rapidly, which creates a serious dilemma for various groups of risky borrowers. Moreover, heightened stress in the “repo”/money markets impinges the small and medium sized banks that have aggressively borrowed short-term finance for high-risk lending and financial speculation (at home and abroad). Meanwhile, Chinese authorities have begun to target the insurance industry, most certainly a bastion of all things ugly late-stage Credit Bubble.

This amounts to an unfolding serious tightening of Credit and financial conditions. Sure, Beijing can, once again, lean on the enormous state banks to pick up the slack. Here’s where things turn fascinating – if not comforting. China’s big banks stepping up at this point to support the scope of system Credit growth necessary to hold bust at bay (say, to the tune of $3.5 TN annually) places these mammoth financial institutions in direct harm’s way. Waning confidence in China’s big banks would have major global market ramifications.

Returning to the “important juncture for the global Bubble:” The bulls are feeling “break out,” with the S&P500 to play catch-up to Nasdaq (Comp up 13.3% y-t-d), technology (MHS up 18.8%) and biotech (up 18.7%). Are things at the brink of turning even crazier, or does a bout of risk aversion catch everyone unprepared?

I’ll be on the lookout next week for indications of waning “Risk On.” Perhaps China worries spur some contagion effects in Asia. Weakness in Asian financials would offer a clue. As the biggest beneficiary of Chinese reflation over recent months, EM would seem susceptible to contagion.

Further energy and commodity price weakness would reawaken concerns for commodity-related Credit. The yen declined 1.1% during this week’s generally “Risk On” backdrop. Fledgling “Risk Off” would be expected to provide a yen boost, likely at the expense of Japanese equities. With Emanuel Macron poised to win big in Sunday’s French election, I expect market attention to pivot back to Asia. That said, an abrupt reversal to “Risk Off” would catch global markets by surprise, certainly including the speculative Bubbles that have inflated throughout European securities markets.

For the Week:

The S&P500 added 0.6% (up 7.2% y-t-d), and the Dow gained 0.3% (up 6.3%). The Utilities were little changed (up 5.8%). The Banks jumped 1.5% (up 0.9%), and the Broker/Dealers added 0.4% (up 5.7%). The Transports gained 1.0% (up 1.6%). The S&P 400 Midcaps increased 0.3% (up 4.7%), while the small cap Russell 2000 slipped 0.2% (up 2.9%). The Nasdaq100 advanced 1.1% (up 16.1%), and the Morgan Stanley High Tech index jumped 1.5% (up 18.8%). The Semiconductors added 0.5% (up 11.5%). The Biotechs increased 0.4% (up 18.7%). With bullion sinking $47, the HUI gold index fell 3.1% (up 2.0%).

Three-month Treasury bill rates ended the week at 87 bps. Two-year government yields rose five bps to 1.31% (up 12bps y-t-d). Five-year T-note yields gained seven bps to 1.88% (down 5bps). Ten-year Treasury yields rose seven bps to 2.35% (down 10bps). Long bond yields added three bps to 2.98% (down 8bps).

Greek 10-year yields dropped 48 bps to 5.77% (down 125bps y-t-d). Ten-year Portuguese yields fell 16 bps to 3.5% (down 36bps). Italian 10-year yields dropped 12 bps to 2.17% (up 35bps). Spain's 10-year yields declined nine bps to 1.56% (up 18bps). German bund yields rose 10 bps to 0.42% (up 21bps). French yields added a basis point to 0.85% (up 17bps). The French to German 10-year bond spread narrowed nine to 43 bps. U.K. 10-year gilt yields increased three bps to 1.12% (down 12bps). U.K.'s FTSE equities index gained 1.3% (up 2.2%).

Japan's Nikkei 225 equities index advanced 1.3% (up 1.7% y-t-d). Japanese 10-year "JGB" yields were unchanged at 0.02% (down 2bps). France's CAC40 rose 3.1% (up 11.7%). The German DAX equities index gained 2.2% (up 10.8%). Spain's IBEX 35 equities index surged 3.9% (up 19.1%). Italy's FTSE MIB index jumped 4.2% (up 11.7%). EM equities were mixed. Brazil's Bovespa index added 0.5% (up 9.1%). Mexico's Bolsa increased 0.5% (up 8.4%). South Korea's Kospi rose 1.6% (up 10.6%). India’s Sensex equities index slipped 0.2% (up 12.1%). China’s Shanghai Exchange dropped 1.6% (unchanged). Turkey's Borsa Istanbul National 100 index declined 0.8% (up 20.2%). Russia's MICEX equities index declined 0.7% (down 10.3%).

Junk bond mutual funds saw outflows of $386 million (from Lipper).

Freddie Mac 30-year fixed mortgage rates slipped a basis point to 4.02% (up 41bps y-o-y). Fifteen-year rates were unchanged at 3.27% (up 41bps). The five-year hybrid ARM rate added a basis point to 3.13% (up 33bps). Bankrate's survey of jumbo mortgage borrowing costs had 30-yr fixed rates unchanged at 4.14% (up 38bps).

Federal Reserve Credit last week declined $7.9bn to $4.432 TN. Over the past year, Fed Credit declined $5.2bn (down 0.1%). Fed Credit inflated $1.621 TN, or 58%, over the past 234 weeks. Elsewhere, Fed holdings for foreign owners of Treasury, Agency Debt rose $4.6bn last week to $3.215 TN. "Custody holdings" were down $13.1bn y-o-y, or 0.4%.

M2 (narrow) "money" supply last week was little changed at a record $13.440 TN. "Narrow money" expanded $752bn, or 5.9%, over the past year. For the week, Currency increased $3.9bn. Total Checkable Deposits declined $11bn, while Savings Deposits gained $6.7bn. Small Time Deposits and Retail Money Funds were about changed.

Total money market fund assets gained $1.6bn to $2.644 TN. Money Funds fell $67bn y-o-y (2.5%).

Total Commercial Paper rose $12.4bn to $993bn. CP declined $128bn y-o-y, or 11.4%.

Currency Watch:

The U.S. dollar index declined 0.4% to 98.65 (down 3.7% y-t-d). For the week on the upside, the euro increased 1.0%, the New Zealand dollar 0.8%, the Swiss franc 0.7%, the South Korean won 0.5% and the British pound 0.2%. For the week on the downside, the Japanese yen declined 1.1%, the Mexican peso 0.9%, the Australian dollar 0.9%, the Singapore dollar 0.6%, the South African rand 0.4% and the Norwegian dollar 0.1%. The Chinese renminbi declined 0.14% versus the dollar this week (up 0.61% y-t-d).

Commodities Watch:

The Goldman Sachs Commodities Index was hit 3.0% (down 6.8% y-t-d). Spot Gold dropped 3.7% to $1,222 (up 6.0%). Silver sank 5.7% to $16.27 (up 1.8%). Crude fell $3.11 to $46.22 (down 14%). Gasoline lost 2.8% (down 10%), while Natural Gas slipped 0.3% (down 13%). Copper dropped 3.0% (up 1%). Wheat gained 2.1% (up 8%). Corn rose 1.2% (up 5.3%).

Trump Administration Watch:

May 1 – New York Times (Andrew Ross Sorkin): “For a brief moment, Wall Street stopped on Monday, as if time was suspended in an alternative reality. President Trump, for the first time as resident of the White House, said aloud that he was considering breaking up the nation’s biggest banks. Of course, he had said it on the campaign trail, but this seemed different. ‘I’m looking at that right now,’ Mr. Trump told Bloomberg News… ‘There’s some people that want to go back to the old system, right? So we’re going to look at that.’”

May 1 – Wall Street Journal (Ryan Tracy): “The Trump administration, looking to make its first major imprint on U.S. banking regulators, is preparing to replace Comptroller of the Currency Thomas Curry as chief overseer of federally chartered banks, according to people familiar… President Donald Trump could soon replace Mr. Curry with an acting head of the agency, who would serve until a new comptroller is confirmed…”

China Bubble Watch:

May 3 – Bloomberg: “China is breaking out its mouthpieces -- and wallet -- as it seeks to soothe investors in the face of tighter financial market regulations. The central bank-run Financial News urged stock investors not to overreact to tougher regulations in front-page commentary… The monetary authority will prevent swings in liquidity from exceeding tolerable levels, the official Xinhua News Agency-owned China Securities Journal added in a separate front-page opinion piece. The People’s Bank of China then injected more cash into the financial system through open-market operations Wednesday than on any day since January as the benchmark government bond yield climbed to the highest level in two years.”

May 3 – Bloomberg: “China’s deleveraging campaign is providing a reality check to the fledgling municipal bond market. Set up in 2015 to bring transparency to local-government borrowing practices, the new market benefited from the perception that Beijing had the provinces’ backs, with yields largely on par with the sovereign despite some weak municipal balance sheets. Not anymore -- a clampdown on risk and record levels of debt in China’s financial system is spurring a reassessment of the market, with the premium demanded by investors on muni bonds over central government debt surging to a record as volumes in the secondary market slide. While the shift to pricing based on risk is a step toward a more mature, world-standard bond market, for now at least it poses a challenge given plans for a record year of issuance… Sales in the local-government debt market are set to reach an all-time high of 1.63 trillion yuan ($237bn) in 2017…”

May 5 – Reuters (Matthew Miller and Shu Zhang): “China's Anbang Life Insurance Co was punished by the country's insurance regulator which on Friday barred the firm from applying to issue new products for three months, the latest move in an industry-wide crackdown. Anbang Life, a key part of Anbang Insurance Group Co, was cited for ‘disrupting market order’ by designing a product that bypassed regulations aimed at curbing growth of short-term, risky universal life insurance products, the China Insurance Regulatory Commission (CIRC) said in an online public notice. CIRC's move against Anbang Life comes during a widespread regulatory crackdown on what is seen as the excessive use of universal life products by some insurers, and as China's central leadership moves to curb risk in the financial system.”

April 29 – Reuters (Sue-Lin Wong and Kevin Yao): “Growth in China's manufacturing sector slowed faster than expected in April…, as producer price inflation cooled and policymakers' efforts to reduce financial risks in the economy weighed on demand. The National Bureau of Statistics' official Purchasing Managers' Index (PMI) fell to a six-month low of 51.2 in April from March's near five-year high of 51.8.”

May 3 – Reuters (Yawen Chen and Nicholas Heath): “China's factory sector lost momentum in April, with growth slowing to its weakest pace in seven months as domestic and export demand faltered and commodity prices fell, a private survey showed… The Caixin/Markit Manufacturing Purchasing Managers' index (PMI) fell to 50.3 in April, missing economist forecasts' of 51.0 and a significant decline from March's 51.2.”

May 3 – Reuters (Yawen Chen and Nicholas Heath): “Growth in China's services sector cooled to its slowest in almost a year in April as fears of slower economic growth dented business confidence, even as cost pressures eased… The Caixin/Markit services purchasing managers' index (PMI) fell to 51.5 from March's 52.2, the fourth monthly decline in a row…”

May 3 – Reuters (Kevin Yao): “China will step up its crackdown on illegal foreign exchange deals this year as authorities boost authenticity and compliance checks on trade and investment, its forex regulator said… Beijing has announced a series of measures since November to tighten capital outflow curbs, including closer scrutiny of outbound investments and individual foreign exchange purchases, to support the yuan and preserve its foreign exchange reserves.”

May 1 – Wall Street Journal (Anjani Trivedi): “Beware global auto makers: China is getting ready to flood the world with its car exports. Last week, a number of Chinese ministries and the National Development and Reform Commission jointly announced long-term plans for the auto industry. Among the goals: Higher developed-market export sales and market share. Lofty goals for China’s car makers are understandable. The report said autos and related industries bring 10% of the nation’s tax revenue and account for 10% of all jobs. And the industry has capacity to spare. Utilization rates vary widely but range from 60% to 80%. Meanwhile, production continues to rise.”

May 2 – Bloomberg (Sabrina Willmer and Erik Schatzker): “Kyle Bass, founder of Hayman Capital Management, warned that ballooning assets in Chinese wealth management products are another sign of a looming credit crisis in the nation. ‘Some of the longer-term assets aren’t doing very well,’ Bass said… ‘As soon as liabilities have problems all hell breaks loose.’ The wealth management products, or WMPs, have swelled to $4 trillion in assets in the last few years, he said. Bass has been sounding the alarm for some time that debt-burdened Chinese banks need to be restructured.”

Europe Watch:

May 2 – Bloomberg (Ferdinando Giugliano): “Emmanuel Macron looks on course to become France's new president, ending the threat of a euroskeptic at the Elysee. Even if Macron wins, though, it'll be too soon to celebrate a new phase of stability in the euro zone. Across the Alps, an economic and political storm is brewing -- and there's no sign anyone can stop it. Italy's economic problems are in many ways worse than France's. Public debt stands at nearly 133% of gross domestic product; in France, it's 96%. The last time Italy grew faster than France was in 1995… Meanwhile Italian politics goes from bad to worse. The Five Star Movement, a populist force that wants to hold a referendum on Italy's membership of the euro system, is riding high in the polls…”

May 2 – Bloomberg (Alessandro Speciale): “Euro-area factories expanded output at the fastest pace since 2011 as the currency bloc’s economy continued to gather momentum. A gauge of manufacturing activity rose to 56.7 in April from 56.2 the previous month, IHS Markit reported…”

May 3 – Reuters (Renee Maltezou): “Promising to cut pensions and give taxpayers fewer breaks, Greece has paved the way for the disbursement of further rescue funds from international lenders and possibly opened the door to reworking its massive debt. Officials from both sides reached agreement… on a package of bailout-mandated reforms, ending six months of staff-level haggling. Greek Finance Minister Euclid Tsakalotos announced it with a term associated with papal elections. ‘There was white smoke,’ he told reporters.”

May 2 – Reuters (Francois Murphy and Shadia Nasralla): “The European Central Bank will have to hold a discussion next month about its strategy for 2018 and the eventual exit from its ultra easy monetary policy, ECB Governing Council member Ewald Nowotny said… The ECB last week said that prospects for the euro zone economy have improved but the time to withdraw support has not yet come, resisting pressure from countries like Germany to start winding down its 2.3 trillion euro asset-purchase program. ‘At the (ECB) meeting in June we will have to discuss the future strategy, the strategy for the beginning of 2018,’ Nowotny… told newspaper Die Presse.”

May 2 – Bloomberg (Tommaso Ebhardt, Chiara Albanese, and Deena Kamel): “Alitalia SpA started bankruptcy proceedings for the second time in a decade, throwing the survival of Italy’s flag carrier in doubt after the airline failed to fend off budget rivals. Shareholders voted unanimously to file for insolvency administration, the airline said…”

Brexit Watch:

April 29 – Financial Times (Alex Barker, Arthur Beesley and Rochelle Toplensky): “European leaders are warning Theresa May over her ‘completely unreal’ expectations of a swift trade deal, as they gathered in Brussels to agree a tough opening stance on Brexit talks. After sitting down for lunch on Saturday, European leaders took just a few minutes to adopt their formal guidelines for Brexit talks, prompting spontaneous applause around the table. Relishing the show of unity, Jean-Claude Juncker joked it was ‘the first and last time’ the bloc would take a decision so quickly.”

Global Bubble Watch:

April 29 – Financial Times (Christian Pfrang and Robin Wigglesworth): “The relief with which markets greeted the victory of centrist Emmanuel Macron in the first round of France’s election this week has only sharpened the appeal of a trade whose popularity is also raising fears of turbulence should it unravel. Selling insurance against the risk of sharp price movements across markets has been an easy and profitable trade in recent years, helping portfolios generate additional returns during the era of ultra-low bond yields and significant underperformance by many hedge funds and other active investors. As a result, a once niche strategy has become very popular… ‘These strategies seem to be gaining traction with investors across the world, in all channels,’ says Doug Kramer, co-head of quantitative investing at Neuberger Berman. Betting against bouts of market turbulence comes in many shapes.”

May 3 – Wall Street Journal (Nathaniel Taplin): “Credit equals steel. It is a simple equation that explains a lot about how China works. Iron-ore futures plunged Thursday morning, down 8%--as far as market regulators allow in a single day. Copper was down 3% Wednesday. A main culprit: Officials spouting tough language on curbing local-government debt, a key feedstock for commodity demand. Another factor: April’s weak readings on Chinese factory activity. Regulators are under intense pressure to demonstrate progress on ‘deleveraging’ following expressions of concern from President Xi Jinping and other top officials. Past attempts to rein in local debt have proven temporary and ineffectual in terms of actually reducing China’s debt as a proportion to the size of the economy.”

May 4 – Bloomberg (Susanne Barton and Mark Burton): “Copper headed for the biggest two-day loss since 2015 as industrial metals plunged amid concern over demand in China and speculation that the Federal Reserve will further raise U.S. interest rates this year. Mining shares also extended losses. Demand concerns are mounting just as copper stockpiles tracked by the London Metal Exchange jumped 25% in two days, the most since March… The Bloomberg World Mining Index of equities fell for a fourth day as iron ore tumbled in Dalian and steel plummeted in Shanghai.”

May 2 – New York Times (Landon Thomas Jr.): “It has become one of the knottier puzzles on Wall Street. As political risks have increased at home and abroad, complacency among investors has rarely been so widespread. This trend, which began soon after President Trump’s victory in November, culminated on Monday, when the VIX index, known widely as Wall Street’s fear gauge, dipped briefly below 10… At current levels, the VIX reflects a striking sense among investors that the persistent rise in stocks would continue, regardless of election fears in Europe and concerns here that Mr. Trump might not deliver on his ambitious economic agenda. ‘The pricing of risk is at near historic lows, and the pricing of the stock market is at near historic highs,’ said Julian Emanuel, a stock and derivatives specialist at the investment bank UBS. ‘And all of this at a time when political risk is very elevated — at home and abroad.’”

May 2 – Bloomberg (Kim Chipman and Erik Hertzberg): “Ripples from the downward spiral of mortgage lender Home Capital Group Inc. haven’t yet reached Vancouver. The cost of a benchmark home in the Pacific Coast city surged 11% to C$941,100 ($685,233) compared with a year earlier... Condominiums were the big gainers, climbing 17% to C$554,100. ‘Demand has been increasing for months and supply is not keeping pace,’ Jill Oudil, president of the board, said… ‘We’ll likely continue to see prices increase.’”

May 2 – Financial Times (John Plender): “Canada and Australia led a relatively charmed life through the great financial crisis of 2007-8, with their banking systems proving more robust than most. Yet it is possible that they may have a delayed reaction thanks to overheated property markets in some of their biggest cities. More specifically, the plight of Home Capital Group, Canada’s largest alternative mortgage lender, gives pause for thought. The company was rocked late last month when the Ontario Securities Commission alleged that executives broke Ontario securities laws and misled shareholders in their handling of a scandal involving falsified documentation for mortgages… The question is whether Home Capital, which is being propped up by a $2bn line of (very expensive) credit from a syndicate led by the Healthcare of Ontario Pension Plan, will turn out to be the proverbial canary in the coal mine.”

May 3 – Bloomberg (Kim Chipman and Erik Hertzberg): “Toronto home price gains slowed in April and new listings soared the most in seven years, signaling the red-hot market may be cooling after the Ontario government imposed new measures to curb runaway gains in Canada’s biggest city. Housing prices jumped 25% last month from a year earlier, down from the 33% annual increase in March. The average price of C$920,791 ($671,000) in April was just 0.5% higher than in March…”

May 1 – Wall Street Journal (Richard Teitelbaum): “Corporate deal-making has hit a rough patch despite robust stock and bond markets that in the past have led to a deluge of such activity. Mergers and acquisitions this year have slid to their lowest level globally in nearly 20 years because valuations as well as political and economic uncertainty are making potential buyers wary. The number of deals world-wide involving publicly traded targets this year fell to 793 as of April 28, according to Dealogic, down 20% from 991 in the comparable period last year and the lowest number since 1998. Meanwhile, companies are paying higher multiples… Buyers paid an average of 12.8 times the target’s earnings before interest, taxes, depreciation and amortization so far this year, up from 12.1 for the comparable period in 2016 and the highest year-to-date multiple since 1997. The value of deals globally, however, is up 13.9% year to date at $479.8 billion.”

May 3 – Bloomberg (Michael Heath): “Australia’s central bank chief had a reminder Thursday for borrowers that have helped send household debt to record levels: interest rates will one day rise. Reserve Bank of Australia Governor Philip Lowe used a speech… to reiterate his concerns about growth in private debt outpacing incomes. The risk is that heavily indebted households could slash their spending in response to any shock, meaning ‘an otherwise manageable downturn could be turned into something more serious,’ Lowe said. ‘My overall assessment is that the recent increase in household debt relative to our incomes has made the economy less resilient to future shocks,’ the governor said… ‘Double-digit growth in debt owed by investors at a time of weak income growth cannot be strengthening the resilience of our economy.’”

April 30 – Financial Times (Jamie Smyth): “A Sydney mansion has been sold for A$75m (US$56m), a record for a single house in Australia, as regulators fret about an emerging housing bubble. Scott Farquhar, co-founder of software group Atlassian, bought the 7,000 square metre harbourside estate from the Fairfax family…”

Fixed Income Bubble Watch:

May 3 – Bloomberg (Michelle Kaske, Jodi Xu Klein , and Andrew Dunn): “Puerto Rico has finally and officially filed for protection from its creditors in what amounts to the biggest municipal bankruptcy in U.S. history. Now comes the real reckoning. After years of wrangling in Washington, San Juan and on Wall Street -- a fight that has pitted hedge funds against some of the poorest U.S. citizens -- a federal judge may at last help decide who gets paid, and how much… The commonwealth is asking a federal court to force creditors to take losses on about $74 billion of debt.”

Federal Reserve Watch:

May 3 – Wall Street Journal (Nick Timiraos): “The Federal Reserve said it expected economic growth to rebound after a soft first quarter, signaling the central bank is likely to continue gradually raising short-term interest rates this year if it is right. Officials voted unanimously to hold their benchmark rate steady in a range between 0.75% and 1%, after a two-day policy meeting… The Fed’s postmeeting policy statement was fairly upbeat. It said slower growth in the January-to-March period was ‘likely to be transitory,’ echoing officials’ recent public comments suggesting the bar to knock the central bank off its policy path is higher now than in previous years.”

U.S. Bubble Watch:

May 1 – Wall Street Journal (Gunjan Banerji): “A measure of expected stock volatility, known as Wall Street’s fear gauge, slid Monday to its lowest level in more than a decade. The CBOE Volatility Index slumped 6.6% to 10.11, its lowest level since February 2007. In a rare occurrence, the gauge, called VIX, briefly fell Monday as low as 9.9 for the second time in 2017, after more than eight years without dipping below 10…”

May 3 – Bloomberg (Sho Chandra): “America’s service industries expanded more than projected in April as a measure of orders reached the highest level since 2005, a survey from the Institute for Supply Management showed… Non-manufacturing index rose to 57.5, the second-highest since October 2015 (forecast was 55.8) from 55.2 in March… Gauge of orders climbed to 63.2, the highest since August 2005, from 58.9. Measure of business activity increased to 62.4 from 58.9…”

May 4 – Bloomberg (Sho Chandra): “U.S. worker productivity declined in the first quarter by the most in a year as growth in the world’s largest economy weakened… The measure of employee output per hour decreased at a 0.6% annual rate (forecast was a 0.1% decline) after a revised 1.8% gain in the prior three months. Expenses per worker rose at a 3% pace…”

May 2 – Bloomberg (Jamie Butters and David Welch): “The slump in the U.S. auto industry is showing no signs of letting up. Sales at all six of the biggest automakers in the U.S. dropped again in April, with Ford Motor Co. and Honda Motor Co. posting the steepest declines -- about 7% each. To make matters worse, each company’s figures fell short of what analysts had estimated, sending the industry to its fourth straight down month after a record sales year in 2016.”

May 3 – Bloomberg (David Welch, Keith Naughton, and Jamie Butters): “Auto workers may be getting some extra time off around Independence Day, but they won’t be celebrating. They’ll know it means sales are weak and that profits -- and profit-sharing checks -- could be shrinking. Manufacturers used to shut plants for a week or two in July for maintenance and to keep inventories in check. As sales boomed in recent years, most factories cranked out cars without a break. This summer, widespread closures may be back, and for weeks longer than before. The reason: four straight months of declining sales and little expectation the trend will reverse anytime soon.”

May 1 – Financial Times (Adam Samson, Eric Platt and Robin Wigglesworth): “US corporate boardrooms’ approval of share buyback plans has fallen to its lowest level since 2012, signalling that the stock market’s surge to further highs this year is curbing a key source of demand for equities. Companies on the S&P 500 index have authorised $146bn in share buybacks this year, down 15% from a year ago… Executives have also been reluctant to pull the trigger on already-approved plans, with buyback executions 20% lower in 2017 compared with last year.”

May 3 – Bloomberg (Sho Chandra): “America’s service industries expanded more than projected in April as a measure of orders reached the highest level since 2005, a survey from the Institute for Supply Management showed… Non-manufacturing index rose to 57.5, the second-highest since October 2015 (forecast was 55.8) from 55.2 in March… Gauge of orders climbed to 63.2, the highest since August 2005… Measure of business activity increased to 62.4 from 58.9…”

May 4 – Reuters (Rodrigo Campos and Noel Randewich): “While some investors have been waiting for Apple's market capitalization to reach $1 trillion, those looking for big round numbers might be better off looking to the S&P 500 technology index as a whole, which is approaching the $5 trillion mark. The S&P 500 technology index… will hit $5 billion in about two months if its growth of 16% so far in 2017 continues at the same pace.”

Japan Watch:

May 1 – Financial Times (Leo Lewis): “Among casino operators there is no fixed classification of a ‘whale’, the sort of high-rolling gambler who wagers large amounts of money. Casinos just know a high roller when they walk in, and adjust, with a smile, accordingly. The Bank of Japan’s role in the Tokyo stock market is a similar test of taxonomy. Since the end of 2010, the BoJ has been buying exchange traded funds (ETFs) as part of its quantitative and qualitative easing programme. The biggest action began last July, when its annual acquisition target was doubled to ¥6tn. Since then, the whale designation has seemed pretty obvious: the central bank swallows a minimum of ¥1.2bn of ETFs every single trading day (tailored to support stocks that further ‘Abenomics’ policies), and lumbers in with buying bursts of ¥72bn roughly once every three sessions.”

Leveraged Speculation Watch:

May 2 – Bloomberg (Brian Chappatta): “The fast money in the $14 trillion Treasuries market may turn out to be too slow. For the first time since July, hedge funds and other large speculators are bullish on Treasuries across the yield curve, U.S. Commodity Futures Trading Commission data show. The shift in 10-year futures was particularly striking, with the group adding an unprecedented 255,942 net-long contracts as of the latest figures…”

Geopolitical Watch:

May 3 – Reuters (Ben Blanchard): “China… urged all parties in the Korean standoff to stay calm and ‘stop irritating each other,’ a day after North Korea said the United States was pushing the region to the brink of nuclear war. North Korea's state media published a rare, strong, criticism of China on Wednesday, saying Chinese state media commentaries calling for tougher sanctions over Pyongyang's nuclear program were undermining relations with Beijing and worsening tensions.”

May 1 – Reuters (Martin Petty and Manuel Mogato): “Across Asia, more and more countries are being pulled into Beijing's orbit, with the timid stance adopted by Southeast Asian nations on the South China Sea at a weekend summit a clear sign this fundamental geostrategic shift is gathering momentum. U.S. President Donald Trump's flurry of calls at the weekend to the leaders of the Philippines, Thailand and Singapore might cheer those who fear his predecessor Barack Obama's ‘pivot’ to Asia has been abandoned in favor of an ‘America First’ agenda.”

Friday Evening Links

[Bloomberg] S&P 500 Limps to Record While ETF Investors Turn Sour on Stocks

[Reuters] China finmin skips summit with Japan, Korea to attend emergency meeting

[Bloomberg] Suddenly, Oil Below $40 a Barrel Doesn't Seem So Far-Fetched

[Reuters] From two would-be Fed leaders, the central bank needs to change

[Reuters] Fed should start trimming balance sheet in second half: Bullard

[Bloomberg] Five Charts That Explain Crude Oil's Sudden Nosedive Toward $45

[Bloomberg] India Empowers RBI to Resolve World's Worst Bad Debt Problem

[FT] France: A divided nation decides

[WSJ] Quantitative Investing: A Crisis Waiting to Happen