Friday, October 11, 2019

Weekly Commentary: What the Heck is Happening in the Cayman Islands?

Please join Doug Noland and David McAlvany Thursday, October 17th, at 4:00PM Eastern/ 2:00pm Mountain time for the Tactical Short Q3 recap conference call, "Managing Short-Side ‘Beta’ in an Extraordinary Environment.” Click here to register.

Another quiet week… When the Fed on Friday announced its “Not QE” balance sheet reflation strategy, the Dow was already 400 points higher on anticipation of a positive trade negotiation outcome. The Federal Reserve will Tuesday begin buying $60 billion of Treasury bills monthly through 2020’s second quarter. This follows a five-week period where Federal Reserve Credit surged $187 billion. In addition, the Fed said it will continue with its overnight and term “repo” market interventions, along with reinvesting proceeds from maturing longer-dated maturities.

I have speculated the Fed’s balance sheet might inflate to $10 TN over the course of the next crisis and down-cycle. It’s possible that we could see expansion approaching $500 billion over the next six to nine months.

Announcing its “Not QE” plan as markets were in the throes of an intense short squeeze creates poor optics. Most analysts had expected the rollout to come at the Fed’s end-of-month meeting - or even during November. This is one more example of the Fed acting as if it is facing a serious risk to financial stability.

October 11 – Bloomberg (Rich Miller and Christopher Condon): “…The central bank… stressed that ‘these actions are purely technical measures to support the effective implementation’ of interest-rate policy and ‘do not represent a change’ in its monetary stance. ‘In particular, purchases of Treasury bills likely will have little if any impact on the level of longer-term interest rates and broader financial conditions.’”

There may come a day when bond markets push back against central bank interventions – “purely technical” or otherwise. Ten-year Treasury yields jumped six bps Friday to 1.73% - though this move higher was in response to the markets’ “risk on” mood ahead of the completion of trade talks. Two-year Treasury yields rose five bps Friday to 1.60%, up 19 bps for the week (reversing most of last week’s drop). The implied yield on January Fed funds futures rose 9.5 bps this week to 1.555% (current Fed funds rate 1.82%). Even with a successful “Phase 1” trade deal with China – not to mention the Fed’s plan to expand holdings - the probability of a rate cut at the Fed’s October 30th meeting was little changed this week at 71%.

University of Michigan Consumer Confidence was reported at a much stronger-than-expected – and three-month high - 96. The Current Conditions component jumped 4.9 points to 113.4, the high going back to December 2018 (116.1). The St. Louis Fed’s Real GDP Nowcast Model has Q3 GDP at 3.12%. And if the world is indeed at the cusp of a U.S./China trade truce, there is even less justification for an additional rate cut. Yet I am not convinced trade risks – or economic vulnerabilities more generally – are the crux of underlying market fragilities and central bank unease.

It was an unfittingly low-key headline: “Better Data on Modern Finance Reveals Uncomfortable Truths.” The subheading to Gillian Tett’s Thursday FT article was more direct: “It is Unnerving That the Shadow Banking Sector is Swelling, Given its Role in the Financial Crisis.”

The FT’s list of “most read” articles included “Why Investors See Inflation as a Very British Problem” and “TP ICAP Pays £15m to Settle FCA Charges Over ‘Wash Trades.’” Ms. Tett’s insightful piece failed to make the cut. I was however reminded of an FT article from early 1998 highlighting the explosion of trading in Russia currency and bond derivatives, along with Gillian Tett’s exceptional reporting on the proliferation of subprime CDOs and mortgage derivatives late in the mortgage finance Bubble period.

October 10 – Financial Times (Gillian Tett): “What the heck is happening in the Cayman Islands? That is a question often asked in relation to corporate tax. This week, for example, the OECD called for an end to the loopholes that let global companies cut their tax bills in places like the British overseas territory. As the debate bubbles on, there is another facet of globalisation that merits more discussion: the financial flows associated with offshore centres, particularly between banks and non-bank entities.”

“Cross-border lending by banks to non-bank financial institutions, such as hedge funds, has also jumped, from $4.8tn in 2016 to $6.6tn in 2019. More striking, those non-bank institutions have quietly ‘become important sources of cross-border funding for banks, particularly in international currencies,’ the BIS notes. Yet again, those offshore financial centres feature: almost 20% of banks’ cross-border dollar funding is now supplied by entities based in the Cayman Islands, a ratio only topped by those in the US, while entities based in Luxembourg and the Caymans are crucial in the euro markets. Or as the BIS concludes, ‘Banks’ positions with [non-banks] are concentrated in few countries, particularly financial centres.’”

“Non-bank intermediaries’ share of total financial system assets increased from 31% to 36%” between 2007 and 2017, observes a report from the IESE Business School… Meanwhile, the BIS data shows that banks’ cross-border dealings with non-bank entities has been swelling too. One reason is that banks are increasingly funding governments (by buying their debt). But their exposure to non-financial companies is also rising noticeably, both to onshore and offshore subsidiaries. ‘Banks lend significant amounts to non-financial corporations located in financial centres . . . [providing] credit to the financing arms of multinational corporations located there,’ the BIS notes, adding that banks’ claims on NFCs [non-financial corporations] in the Cayman Islands are larger than on those in Italy. (Yes, really.)”

Convoluted, murky stuff: The amalgamation of “offshore financial centres,” “cross-border dollar funding,” “non-bank intermediaries” and “offshore subsidiaries,” make CDOs, special purpose vehicles, and other mortgage financial Bubble era “shadow” financial processes appear rather clear and luminous by comparison.

Ms. Tett’s article pinpoints the “belly of the beast.” The GSEs, securitizations, sophisticated mortgage derivatives, and “repo” finance created the nucleus of the risk intermediation and leverage fueling precarious mortgage finance Bubble excess. I am convinced the mushrooming of government bonds, the proliferation of global “repo” markets and off-shore securities lending operations, along with unmatched global derivatives excess and leveraged speculation, are at the epicenter of the runaway “global government finance Bubble.”

Tett’s article notes the global push to accumulate reliable official data. The BIS (Bank for International Settlements) has expanded data for non-bank counterparties and offshore financial centers. While interesting – and certainly illustrating the enormous scope of offshore finance – I’m not confident that the BIS and global central bank community have a handle on what evolved into colossal global flows intermediated through securities finance and “offshore” financial centers. The recurring extensive revisions to the Fed’s Rest of World (ROW) Z.1 data informs me that there are major shortcomings and outright holes in the data. Indeed, What the Heck is Happening in the Cayman Islands?

A few snippets from the BIS’s September 2019 Quarterly Review - International Banking and Financial Market Developments (referenced in Tett’s article).

“Derivatives trading in over-the-counter (OTC) markets rose even more rapidly than that on exchanges, according to the latest BIS Central Bank Triennial Survey… The daily average turnover of interest rate and FX derivatives on markets worldwide – on exchanges and OTC – rose from $11.3 trillion in April 2016 to $18.9 trillion in April 2019.”

“The turnover of interest rate derivatives increased markedly between April 2016 and April 2019, especially in OTC markets, where trading more than doubled from $2.7 trillion per day to $6.5 trillion.”

“The OTC trading of FX derivatives also rose substantially… In OTC markets, the daily average turnover of FX derivatives increased from $3.4 trillion to $4.6 trillion between April 2016 and April 2019.”

Tett’s article also mentioned data from the Financial Stability Board (FSB), whose Global Monitoring Report on Non-Bank Financial Intermediation 2018 (issued in February) includes detail on global non-bank entities through the end of 2017.

The FSB’s tabulation of MUNFI (monitoring universe of non-bank financial intermediaries) has a 2017 ending value of $185 TN, up substantially from the $100.6 TN to close out 2008. FSB analysis focuses on a “Narrow Measure of NBFI” (non-bank financial intermediaries), and then breaks down this category by Economic Function (subgroups EF1 through EF5). EF1 ended 2017 at $36.7 TN, more than double the $14.2 TN from 2008.

“EF1 includes collective investment vehicles (CIVs) with features that make them susceptible to runs.” This group includes fixed-income funds, hedge funds, money market funds, trust companies, ETF and real estate funds (along with smaller components). “EF1 growth is mainly attributable to the four jurisdictions where most EF1 entities reside – US (with 26.3% of total EF1 assets), China (16.5%), the Cayman Islands (14.3%), and Luxembourg (8.9%).”

Breaking down “Narrow Measure of NBFI:” Investment Funds ($45.4 TN, 13.6% ’17 growth); Captive Financial Institutions and Money Lenders ($25.9 TN, 0.5% ’17 contraction); Broker-Dealers ($9.6 TN, 1.1% ’17 contraction); Money Market Funds ($5.8 TN, 10.2% ’17 growth); Hedge Funds ($4.4 TN, 15.8% ’17 growth); Structured Finance Vehicles ($4.9 TN, 2.2% ’17 growth); Trust Companies ($4.6 TN, 27.1% ’17 growth).

“The resulting narrow measure was $51.6 trillion at end-2017” (from ‘08’s $36.2TN). “The total financial assets of entities in the narrow measure grew in 2017 (8.5%), both in absolute terms and relative to GDP... This growth rate is consistent with the average annual growth rate (8.8%) of the narrow measure over 2011-16. This average growth rate was mainly driven by the Cayman Islands, China, Ireland and Luxembourg, which together accounted for 67% of the dollar value increase since 2011.”

Such heady growth in finance comes with consequences. That growth in non-bank (“shadow”) finance over this boom cycle has been driven by entities in the Cayman Islands, China, Ireland and Luxembourg bodes well for the accumulation of leverage and latent risk intermediation issues – not so much for sustainability and stability.

Other highlights: “The total repo assets of banks and OFIs grew by 9.6% in 2017 to reach $9.4 trillion, while their total repo liabilities grew by 9.8% to reach $9.2 trillion, largely driven by banks’ increasing use of repos.”

“Hedge funds’ assets grew in 2017, based on data reported from 15 jurisdictions. The Cayman Islands continues to be the largest hub for such funds among reporting jurisdictions (87% of submitted total hedge fund assets) where they grew by 17.5%, driving the overall growth of the reported sector.” This passage comes with a curious footnote: “There is no separate licensing category for hedge funds incorporated in the Cayman Islands, thus the Cayman Islands Monetary Authority (CIMA) estimated their size based on certain characteristics (eg leverage).”

“China accounted for most trust company assets (88% of global trust company assets) and overall growth. The growth rate of China’s trust company assets has increased over the past three years (16.6% in 2015, 24.0% in 2016 and 29.8% in 2017).”

In a recent CBB, I posited it was no coincidence that instability in Chinese money markets was followed not many weeks later by instability in U.S. “repo” finance. I believe a decade of zero and near-zero rates and unrelenting global QE has fostered unprecedented leveraged speculation on a global basis. I suspect the size of “carry trades” and myriad forms of speculative leverage dwarf that from the mortgage finance Bubble era – having seeped into all corners, nooks and crannies of global fixed-income markets. Moreover, “repo,” securities shorting, derivatives and securities finance more generally are the unappreciated sources of global liquidity abundance – in tightly interconnected funding markets with the nucleus in “offshore financial centers.”

I hold the view that massive leverage has accumulated in U.S. fixed income, in Chinese Credit, European debt, dollar-denominated bonds globally and EM debt more generally. I’ll assume heady grown in “repo” and offshore financial intermediation only accelerated since 2017.

It was no coincidence that U.S. “repo” market tumult followed on the heels of an abrupt reversal in global bond yields. I appreciate how the enormous global buildup in leveraged speculation works miraculously so long as bond yields are declining (bond prices rising). Furthermore, uncertainty associated with escalating U.S./China trade frictions spurred a historic global speculative “blow-off” and market dislocation. If only bond yields could fall forever – even as debt and deficits expand uncontrollably. It’s not clear to me how the global system doesn’t turn increasingly unstable, which I believe explains why the ECB and now the Fed have resorted again to QE.

Question: “When you first became chair, you were spotted numerous times carrying Paul Volcker’s book under your arm – and I’m curious what lessons did you learned from Paul Volcker and what lessons are you taking through your chairmanship?”

Jerome Powell, October 8th, 2019, during Q&A at a National Association of Business Economics event in Denver: “I’ve known Paul Volcker since I was an Assistant Secretary in the Treasury in 1992 or 1991. Of course, at that time, he had just relatively recently left the Fed - and I was frightened of even meeting him. I was just so intimidated by this global figure. And he couldn’t have been nicer and more interested in helping me and supporting me and we kind of kept up. He was really a great person to know. I read numerous accounts of his life. This book, if you haven’t read it, really sums it up really well. I don’t think there has been a greater public servant in our broad area in our lifetimes. He really just did exactly what he thought was the right thing – all the time. And he lets the chips fall where they may. He was famously booed at a Washington Bullets basketball game when he had rates very high… He’s a great man. I’m still in touch with him. I actually thought that I should buy 500 copies of this book and just hand them out at the Fed. I didn’t do that. It’s a book I strongly recommend, and we can all hope to live up to some part of who he is.”

For the Week:

The S&P500 increased 0.6% (up 18.5% y-t-d), and the Dow gained 0.9% (up 15.0%). The Utilities fell 1.4% (up 21.6%). The Banks rallied 1.4% (up 14.9%), and the Broker/Dealers recovered 2.6% (up 6.9%). The Transports jumped 2.6% (up 12.2%). The S&P 400 Midcaps gained 0.7% (up 15.2%), and the small cap Russell 2000 rose 0.7% (up 12.1%). The Nasdaq100 advanced 1.2% (up 23.9%). The Semiconductors gained 1.1% (up 37.7%). The Biotechs were little changed (down 0.1%). With bullion down $16, the HUI gold index dropped 3.4% (up 27.1%).

Three-month Treasury bill rates ended the week at 1.63%. Two-year government yields jumped 19 bps to 1.60% (down 90bps y-t-d). Five-year T-note yields surged 21 bps to 1.56% (down 95bps). Ten-year Treasury yields rose 20 bps to 1.73% (down 95bps). Long bond yields jumped 18 bps to 2.20% (down 82bps). Benchmark Fannie Mae MBS yields surged 23 bps to 2.70% (down 80bps).

Greek 10-year yields rose 10 bps to 1.43% (down 297bps y-t-d). Ten-year Portuguese yields gained six bps to 0.20% (down 152bps). Italian 10-year yields jumped 11 bps to 0.94% (down 180ps). Spain's 10-year yields rose 10 bps to 0.24% (down 118bps). German bund yields surged 14 bps to negative 0.44% (down 68bps). French yields jumped 16 bps to negative 0.13% (down 84bps). The French to German 10-year bond spread widened two to 31 bps. U.K. 10-year gilt yields surged 26 bps to 0.71% (down 57bps). U.K.'s FTSE equities index rallied 1.3% (up 7.7% y-t-d).

Japan's Nikkei Equities Index jumped 1.8% (up 8.9% y-t-d). Japanese 10-year "JGB" yields increased three bps to negative 0.18% (down 18bps y-t-d). France's CAC40 rose 3.2% (up 19.8%). The German DAX equities index surged 4.2% (up 18.5%). Spain's IBEX 35 equities index advanced 3.5% (up 8.6%). Italy's FTSE MIB index rallied 3.2% (up 21.0%). EM equities were mixed. Brazil's Bovespa index gained 1.2% (up 14.1%), while Mexico's Bolsa declined 0.5% (up 3.8%). South Korea's Kospi index rose 1.2% (up 0.2%). India's Sensex equities index increased 1.2% (up 5.7%). China's Shanghai Exchange jumped 2.4% (up 19.2%). Turkey's Borsa Istanbul National 100 index sank 4.3% (up 8.5%). Russia's MICEX equities index added 0.6% (up 14.3%).

Investment-grade bond funds saw inflows of $1.840 billion, while junk bond funds posted outflows of $1.500 billion (from Lipper).

Freddie Mac 30-year fixed mortgage rates fell eight bps to 3.57% (down 133bps y-o-y). Fifteen-year rates dropped nine bps to 3.05% (down 124bps). Five-year hybrid ARM rates dipped three bps to 3.35% (down 65bps). Bankrate's survey of jumbo mortgage borrowing costs had 30-year fixed rates up two bps to 4.00% (down 81bps).

Federal Reserve Credit last week jumped $16.9bn to $3.909 TN. Over the past year, Fed Credit contracted $228bn, or 5.5%. Fed Credit inflated $1.098 Trillion, or 39%, over the past 361 weeks. Elsewhere, Fed holdings for foreign owners of Treasury, Agency Debt dropped $22.6bn last week to $3.419 TN. "Custody holdings" fell $25.6bn y-o-y, or 0.7%.

M2 (narrow) "money" supply surged another $49.8bn last week to a record $15.141 TN. "Narrow money" gained $891bn, or 6.2%, over the past year. For the week, Currency increased $1.5bn. Total Checkable Deposits jumped $21.5bn, and Savings Deposits rose $18.2bn. Small Time Deposits were little changed. Retail Money Funds expanded $8.8bn.

Total money market fund assets gained $6.8bn to $3.470 TN. Money Funds gained $586bn y-o-y, or 20.3%.

Total Commercial Paper slipped $0.9bn to $1.092 TN. CP was down $10bn y-o-y, or 0.9%.

Currency Watch:

October 9 – Financial Times (Eva Szalay and Coby Smith): “The US dollar has long towered over global markets and finance. But cracks are starting to appear in the edifice. The greenback’s pre-eminent role in official funds and international trade is formidable and unlikely to fade quickly. But the latest data from the IMF on central banks’ reserves show a subtle shift away from the dollar that analysts say could signal a rethink on the political risk embedded into US assets. ‘Central banks [are] chipping away at the dollar’s ‘exorbitant privilege’,’ said Alan Ruskin, chief international strategist at Deutsche Bank… ‘Politics are starting to infringe in ways that have the potential to challenge the dollar’s dominance.’”

The U.S. dollar index slipped 0.5% to 98.301 (up 2.2% y-t-d). For the week on the upside, the British Pound increased 2.7%, the South African rand 1.9%, the Mexican peso 1.0%, the Canadian dollar 0.8%, the South Korean won 0.7%, the euro 0.6%, the Singapore dollar 0.4%, the Swedish krona 0.4%, the Australian dollar 0.3%, the New Zealand dollar 0.3% and the Norwegian krone 0.2%. On the downside, the Brazilian real declined 1.3%, the Japanese yen 0.3% and the Swiss franc 0.2%. The Chinese renminbi gained 0.85% versus the dollar this week (down 2.96% y-t-d).

Commodities Watch:

October 6 – Bloomberg (Ranjeetha Pakiam): “China has added more than 100 tons of gold to its reserves since it resumed buying in December, reinforcing its standing as one of the major official accumulators as central banks stock up on the precious metal. The People’s Bank of China picked up more gold last month, raising holdings to 62.64 million ounces in September from 62.45 million in August… In tonnage terms, the latest inflow totals 5.9 tons, and follows the addition of about 99.8 tons over the prior nine months.”

October 8 – Wall Street Journal (Sarah Toy): “It is going to take a heck of a winter to ease the pain for natural-gas investors and producers. Dragged down by a supply glut, U.S. natural-gas futures recently suffered their longest losing streak since at least 1990… The front-month gas futures contract fell 12 consecutive trading sessions through Oct. 2, a period in which it declined around 16%. Prices are down 30% from their levels a year ago.”

The Bloomberg Commodities Index gained 1.2% this week (up 2.4% y-t-d). Spot Gold fell 1.0% to $1,489 (up 16.1%). Silver dipped 0.5% to $17.544 (up 12.9%). WTI crude rallied $1.89 to $54.70 (up 20%). Gasoline surged 4.2% (up 24%), while Natural Gas sank 5.9% (down 25%). Copper jumped 2.6% (unchanged). Wheat gained 3.6% (up 1%). Corn rose 3.4% (up 6%).

Market Instability Watch:

October 10 – Reuters (Chibuike Oguh): “U.S. private equity firms raised $191 billion in the first nine months of 2019, nearly as much as in all of 2018, as investors flocked to well-known managers raising large capital pools, according to… Pitchbook. Some of the private equity industry’s biggest players completed their fundraising in the third quarter of this year, including Blackstone Group Inc with a $26 billion buyout fund, and Vista Equity Partners Management LLC with a $16 billion fund. This increased the amount raised by private equity funds by 38% year-on-year…”
October 7 – Financial Times (Leo Lewis, Robin Harding and Tommy Stubbington): “For years, Japan’s giant government bond market has slumbered on the edges of global finance. Dominated by the country’s central bank, prices rarely budge, leaving traders with little to do. But at the start of this month, a sale of 10-year debt failed to stir the usual interest from investors in the ¥1.1 quadrillion ($10.3tn) market. Unnerved by new plans at the central bank to shift to buying more shorter-term debt, some private buyers stayed away, making it the worst auction in terms of demand since 2016. Japanese government bonds, JGBs, stumbled, sending ripples through other markets including US Treasuries and even, briefly, UK gilts.”

Trump Administration Watch:

October 11 – Bloomberg (Jenny Leonard, Saleha Mohsin, Josh Wingrove and Shawn Donnan): “The U.S. and China agreed on the outlines of a partial trade accord Friday that President Donald Trump said he and his counterpart Xi Jinping could sign as soon as next month. As part of the deal, China would significantly step up purchases of U.S. agricultural commodities, agree to certain intellectual-property measures and concessions related to financial services and currency, Trump said Friday at the White House. In exchange, the U.S. will delay a tariff increase due next week as the deal is finalized, though new levies scheduled for December haven’t yet been called off.”

October 8 – Wall Street Journal (Dan Strumpf and Yoko Kubota): “The U.S. decision to add eight Chinese companies to its trade blacklist strikes directly at China’s ambitions in artificial intelligence, threatening its companies’ access to crucial components and relationships with U.S. firms. Some of the companies affected are among China’s most advanced in core areas of AI, including technology involved in recognizing sounds and faces, autonomous driving and surveillance. Although many of the companies targeted have likely been stockpiling components and can shift to backup supply chains, cutting-edge research efforts could slow, given their heavy reliance on advanced U.S. chips.”
October 8 – Bloomberg (Jenny Leonard): “The Trump administration is moving ahead with discussions around possible restrictions on portfolio flows into China, with a particular focus on investments made by U.S. government retirement funds, people familiar with the internal deliberations said. The efforts are advancing even after American officials pushed back strongly against a Bloomberg News report late last month that a range of such limits was under review. Trump officials last week held meetings on the issue just hours after White House adviser Peter Navarro dismissed the report as ‘fake news,’ and zeroed in on how to prevent U.S. government retirement funds from financing China’s economic rise, the people said.”

October 8 – Reuters (Eric Beech and David Shepardson): “The United States has imposed visa restrictions on Chinese government and Communist Party officials it believes responsible for the detention or abuse of Muslim minorities in Xinjiang province, the U.S. State Department said… Secretary of State Mike Pompeo cited the decision of the Commerce Department on Monday to add 28 Chinese public security bureaus and companies - including video surveillance company Hikvision - to a U.S. trade blacklist over Beijing’s treatment of Uighur Muslims and other predominantly Muslim ethnic minorities. The visa restrictions ‘complement’ the Commerce Department actions, he said.”

October 8 – CNBC (Kevin Breuninger): “The White House said… that it will not cooperate with House Democrats’ impeachment inquiry into President Donald Trump, claiming that the proceedings amount to ‘baseless, unconstitutional efforts to overturn the democratic process.’ ‘You have designed and implemented your inquiry in a manner that violates fundamental fairness and constitutionally mandated due process,’ White House counsel Pat Cipollone said in an eight-page letter… A senior White House official told CNBC’s Eamon Javers that the letter signifies a ‘full halt’ to cooperation with the impeachment inquiry.”

October 7 – Bloomberg (Josh Wingrove and Selcan Hacaoglu): “Donald Trump’s administration said the U.S. will stand aside when Turkey’s military launches an operation against America’s wartime Kurdish allies in Syria, a significant shift in American policy that raises questions over the fate of thousands of Islamic State detainees. The Kurdish-led Syrian Democratic Forces have been a close U.S. ally in the fight to defeat Islamic State. But Turkey considers Syria’s Kurdish militants a threat to its national security and President Recep Tayyip Erdogan has said his forces were ready to begin a military operation against them in northeastern Syria imminently. The decision represents a dramatic reversal for U.S. policy…”

October 9 – Reuters (Colin Packham and Jonathan Barrett): “Tariffs are forcing China to pay attention to U.S. concerns, Secretary of Commerce Wilbur Ross said… ‘We do not love tariffs, in fact we would prefer not to use them, but after years of discussions and no action, tariffs are finally forcing China to pay attention to our concerns,’ Ross told a business function... ‘We could have had a deal two-and-a-half years ago without going through the whole tit-for-tat on tariffs that we have.’”

October 7 – Reuters (Jeff Mason): “President Donald Trump said… he wanted to see the U.S. Federal Reserve enact a ‘substantial’ cut in interest rates because of the lack of inflation in the United States. ‘We’d like to a see an interest rate cut, a very substantial one,’ Trump said. ‘We have no inflation. If anything it’s going below the number, so therefore we’re entitled to an interest rate cut. I hope the Fed does that.’”

Federal Reserve Watch:

October 9 – Financial Times (Joe Rennison): “Ten minutes after Federal Reserve chair Jay Powell insisted that the central bank restarting its Treasury purchases was ‘in no way’ the same as the post-financial crisis policy of quantitative easing, one Wall St analyst sent a note to his clients saying that the new strategy ‘sure sounds like QE’. He was not the only one. The confusion strikes at the heart of the latest communication challenge facing the Fed as it prepares to expand its balance sheet once more. The legacy of QE is rooted in economic woe. When the policy was implemented after the 2008 economic crisis, it was specifically designed to lower longer term interest rates and to ease financial conditions. This time is different, said Mr Powell… ‘It should not be taken as a shift in monetary policy. It is not being done to boost the general availability of credit. The US economy, by and large, remains on a firm footing.’”

October 9 – CNBC (Jeff Cox): “Some Federal Reserve policymakers expressed concern at their most recent meeting that markets are expecting more rate cuts than the central bank intends to deliver, according to minutes… The Federal Open Market Committee approved a quarter-point rate cut at the Sept. 17-18 meeting, putting the overnight funds rate in a target range of 1.75% to 2%. But documents released after the meeting also showed sharp divisions among members about the future path of policy. Minutes amplified those concerns, along with some worry that a market clamoring for easier monetary policy might be getting ahead of itself.”

October 6 – Reuters (Ann Saphir): “Kansas City Federal Reserve Bank President Esther George… rejected the notion that the U.S. central bank should cut interest rates to try to boost low inflation, which she said is largely a result of global forces that U.S. monetary policy can do little to counter. ‘In current circumstances, concern about low inflation seems unnecessary,’ George told the National Association for Business Economics in Denver. ‘The U.S. economy is currently in a good place, with low inflation, low unemployment and an outlook for continued moderate growth.’”

October 7 – Bloomberg (Catherine Bosley and Christopher Condon): “The U.S. economy’s loss of momentum isn’t severe enough to warrant a further reduction to interest rates, two hawkish Federal Reserve board members said. …Both Kansas City Fed President Esther George and the Boston Fed’s Eric Rosengren singled out consumer spending, which accounts for 70% of the economy, as a key variable and said that so long as it remained vibrant there was no need to add additional accommodation even as the manufacturing sector suffers and the trade war weighs on sentiment… ‘If the economy grows at 1.7%, consumption continues to be strong, inflation is gradually going up and the unemployment rate is at 3.5%, I would not see a need for additional accommodation’ at the Fed’s October or December policy meetings, Rosengren said…”

October 8 – Associated Press (Christopher Rugaber): “With the nation’s unemployment rate at its lowest point since human beings first walked on the moon, you might expect the Federal Reserve to be raising interest rates to keep the economy from overheating and igniting inflation. That’s what the rules of economics would suggest. Yet the Fed is moving in precisely the opposite direction: It is widely expected late this month to cut rates for the third time this year. Welcome to the strange world that Jerome Powell inhabits as chairman of the world’s most influential central bank. Though unemployment is low, so are inflation and long-term borrowing rates. Normally, all that would be cause for celebration. But with President Donald Trump’s trade wars slowing growth and overseas economies struggling, Powell faces pressure to keep cutting rates to sustain the U.S. economic expansion.”

U.S. Bubble Watch:

October 7 – The Hill (Niv Elis): “The federal budget deficit for 2019 is estimated at $984 billion, a hefty 4.7% of gross domestic product (GDP) and the highest since 2012, the Congressional Budget Office (CBO) said… The difference between federal spending and revenue has only ever exceeded $1 trillion four times, in the period immediately following the global financial crisis. The deficit, which has grown every year since 2015, is $205 billion higher than it was in 2018, a jump of 26%. The CBO has warned that the nation's debt is on an unsustainable path.”

October 7 – Bloomberg (Steve Matthews): “U.S. budget deficits and the national debt are on track to keep growing because both President Donald Trump and his Democratic rivals want to use low interest rates to finance more spending -- in effect embracing some form of Modern Monetary Theory, business economists said at a debate on the topic Monday.”

October 7 – Bloomberg (Reade Pickert): “U.S. consumer credit increased more than forecast in August as school loans and other non-revolving debt rose by the most in three years. Total credit climbed $17.9 billion from the prior month, after a revised $23 billion gain in July that was the largest since late 2017…”

October 8 – Bloomberg (William Edwards): “U.S. small-business sentiment fell to near the lowest level of Donald Trump’s presidency… The National Federation of Independent Business’s optimism index declined 1.3 points to 101.8 in September, the third drop in four months… While the gauge remains elevated by historical standards, it’s the lowest since March and close to January’s 101.2, which was the weakest since Trump’s term began in early 2017.”

October 8 – CNBC: “U.S. producer prices unexpectedly fell in September, leading to the smallest annual increase in nearly three years… The producer price index for final demand dropped 0.3% last month, weighed down by decreases in the costs of goods and services… That was the largest decline since January and followed a 0.1% gain in August. In the 12 months through September the PPI increased 1.4%, the smallest gain since November 2016, after rising 1.8% in August.”

October 8 – Reuters (Jane Lanhee Lee and Manas Mishra): “U.S. venture capitalists are expected to pour over $100 billion into startups for a second straight year, following the record sum invested in 2018… During the first three quarters of the year, venture capital firms had already invested $96.7 billion in 7,862 funding deals, according to… PitchBook Data Inc and National Venture Capital Association. In 2018 it invested a record $137.6 billion.”

October 6 – Wall Street Journal (Maureen Farrell): “The IPO market has gone from hot to not. Shares of newly public companies, earlier this year one of the hottest investments on Wall Street, are now in a slump after investors soured on unprofitable startups from Uber Technologies Inc. to WeWork. Shares of technology startups and other companies that went public in the U.S. this year are trading roughly 5% above, on average, their prices at their initial public offerings… That is a reversal from earlier in the year, when IPO shares were big outperformers. IPO-stock performance is the worst it has been since at least 1995, according to … Goldman Sachs… That and recent market gyrations have helped bring IPO activity to a virtual standstill heading into what is traditionally one of the busiest times of year for new issues…”

October 7 – CNBC (Jessica Bursztynsky): “Former Nasdaq CEO Bob Greifeld warned… that this year’s IPO boom feels similar to the late 1990s dot-com bubble. ‘It’s important to recognize that the IPO market was getting quite bubbly [nowadays],’ said Greifeld, a CNBC contributor and author of the new book, ‘Market Mover: Lessons from a Decade of Chance at Nasdaq.’”

October 9 – New York Times (Erin Griffith): “Fred Wilson, a venture capitalist at Union Square Ventures, recently published a blog post titled ‘The Great Public Market Reckoning.’ In it, he argued that the narrative that had driven start-up hype and valuations for the last decade was now falling apart. His post quickly ricocheted across Silicon Valley. Other venture capitalists… soon weighed in with their own warnings about fiscal responsibility. At some start-ups, entrepreneurs began behaving more cautiously. Travis VanderZanden, chief executive of the scooter start-up Bird, declared at a tech conference in San Francisco last week that his company was now focused on profit and not growth. ‘The challenge is to try to stay disciplined,’ he said. The moves all point to a new gospel that is starting to spread in start-up land.”

October 8 – CNBC (Diana Olick): “Cooler weather historically means a cooling off period in the housing market, but that is not the case this fall. After dropping to the lowest level in eight years, bidding wars are creeping back. In September, 11% of offers written by Redfin… faced a bidding war. That is down dramatically from 41% a year ago, but up from the 10% reading in August. That might not seem like a big deal, but in the past four years, the bidding war rate has dropped — not increased — from August to September.”

October 8 – Reuters (Tim McLaughlin and Ross Kerber): “Index funds now control half the U.S. stock mutual fund market, giving the biggest funds enormous power to influence decisions and demand better returns at the companies in which they invest trillions of dollars. But the leading U.S. index fund firms, BlackRock Inc, Vanguard Group and State Street Corp, rarely use that clout. Instead, they overwhelmingly support the decisions and pay packages of executives at the companies in their portfolios, including the worst performers, according to a Reuters analysis of their shareholder-voting records.”

October 6 – Reuters: “General Electric said… it was freezing pension plans for about 20,000 U.S. employees with salaried benefits, as the industrial conglomerate makes another drastic move to cut debt and reduce its pension deficit by up to $8 billion.”

October 9 – Bloomberg (Katherine Chiglinsky and Rick Clough): “General Electric Co.’s gaping pension deficit certainly stands out for its size. But the company is hardly the only one at risk of potentially shortchanging some of its employees come retirement. All across corporate America, underfunded pensions have become the norm. Even now, a decade after the financial crisis, the largest plans face a shortfall of $269 billion, right about where it was 10 years ago. Years of low interest rates have largely offset gains in the stock market. Companies haven’t helped matters by lavishing money on shareholder rewards and clinging to assumptions about returns that proved to be too rosy.”

China Watch:

October 8 – Bloomberg: “China signaled it would hit back after the Trump administration placed eight of the country’s technology giants on a blacklist over alleged human rights violations against Muslim minorities. Asked… whether China would retaliate over the blacklist, foreign ministry spokesman Geng Shuang told reporters ‘stay tuned.’ He also denied that the government abused human rights in the far west region of Xinjiang.”

October 9 – Reuters (Keith Zhai): “China is planning tighter visa restrictions for U.S. nationals with ties to anti-China groups…, following similar U.S. restrictions on Chinese nationals, as relations between the countries sour. China’s Ministry of Public Security has for months been working on rules to limit the ability of anyone employed, or sponsored, by U.S. intelligence services and human rights groups to travel to China. The proposed changes follow the introduction by the United States of tighter rules for visas for Chinese scholars in May.”

October 8 – New York Times (Amy Qin and Julie Creswell): “For international companies looking to do business in China, the rules were once simple. Don’t talk about the 3 T’s: Tibet, Taiwan and the Tiananmen Square crackdown. No longer. Fast-changing geopolitical tensions, growing nationalism and the rise of social media in China have made it increasingly difficult for multinationals to navigate commerce in the Communist country. As the National Basketball Association has discovered with a tweet about the Hong Kong protests, tripwires abound. Take the ‘wrong’ stance on one of any number of issues — Hong Kong, Taiwan, Korea, Japan, for instance — and you risk upsetting a country of 1.4 billion consumers and losing access to a hugely profitable market. Now, multinational companies are increasingly struggling with one question: how to be apolitical in an increasingly politicized and punitive China.”

October 8 – Reuters (David Stanway and Xihao Jiang): “Chinese organisers… cancelled a fan event on the eve of a National Basketball Association (NBA) exhibition game in Shanghai, the latest fallout in a growing row over a tweet by a team official supporting the recent protests in Hong Kong. Chinese sponsors and partners have been cutting ties with the NBA after the tweet by Houston Rockets general manager Daryl Morey last week supporting anti-government protests in the Chinese-ruled city. The Shanghai Sports Federation said the cancellation of the fan event ahead of Thursday’s game between the Brooklyn Nets and Los Angeles Lakers was due to the ‘inappropriate attitude’ of Morey and NBA Commissioner Adam Silver.”

October 8 – CNBC (Jake Novak): “Many financial journalists and political pundits have been trying for years to get the U.S. public more concerned about China’s increasingly repressive regime and the questionable trade-offs many American companies have been making to continue doing business in the country. Thanks to the NBA, Twitter and a Chinese government that feeds a national ‘outrage culture,’ those journalists and pundits won’t have to try so hard anymore.”

October 7 – Reuters (Ryan Woo): “China’s services sector grew at its slowest pace in seven months in September despite a strong increase in new orders, as operating expenses continued to rise at the end of the third quarter… The Caixin/Markit services purchasing managers’ index (PMI) fell to 51.3 last month, the weakest since February, versus August’s 52.1.”

October 6 – Wall Street Journal (Shen Hong): “The investment arms of China’s cities and provinces are selling debt at a record pace to fund roads, railways, utilities and ports, as they seek to shore up growth by spending more on infrastructure. Smaller cities and counties in China have long used local government financing vehicles to raise money via debt that is kept off the books of the municipalities themselves. The borrowers are often heavily indebted and lack formal state backing, although they are typically seen as carrying an implicit guarantee that Beijing would bail out investors if debts can’t be repaid… Local government financing vehicles have issued 2.37 trillion yuan ($332bn) of domestic bonds this year. That total is up 38% from the same period in 2018, and is poised to break the full-year record of 2.56 trillion yuan set three years ago.”

October 8 – Bloomberg: “Analysts on the lookout for China’s next financial shock are training their sights on the least regulated corner of the nation’s sprawling shadow banking system. Their concern centers on so-called independent wealth managers, which have expanded rapidly in recent years by selling high-yield products to affluent investors. Largely untouched by a government clampdown on nearly every other form of non-bank financing, the industry has grown from obscurity into a major source of funding for cash-strapped Chinese companies. The worry now is that products arranged by independent wealth managers will face mounting losses as China’s economic slowdown deepens and corporate defaults surge. Confidence in the industry has plunged since July, when Noah Holdings Ltd. said that 3.4 billion yuan ($477 million) of credit products overseen by one of its units were exposed to an alleged fraud by a Chinese conglomerate.”

October 5 – Reuters (James Pomfret and Jessie Pang): “Chinese soldiers issued a warning to Hong Kong protesters on Sunday who shone lasers at their barracks in the city, in the first direct interaction with mainland military forces in four months of anti-government demonstrations.”

October 10 – Bloomberg (Miaojung Lin): “Beijing’s growing political problems in Taiwan were laid bare…, as the island’s two main presidential contenders ruled out any move toward unification. First, President Tsai Ing-wen, who has long been an outspoken critic of Beijing, used her annual National Day address to issue a fresh rejection of China’s push to merge both sides under ‘one country, two systems.’ Moments later, Kaohsiung Mayor Han Kuo-yu -- the candidate for the more Beijing-friendly Kuomintang -- appeared on Facebook Live to say he believed that unification was something for the ‘next generation’ to resolve.”

Central Banking Watch:

October 8 – Financial Times (Caroline Grady): “More than half of central banks are now in easing mode, the biggest proportion since the aftermath of the financial crisis. During the third quarter, 58.5% of central banks cut interest rates. They were responding to a deepening malaise in global manufacturing, with the sector recording the longest downturn in seven years. Economists at UBS estimate that third-quarter global growth was running at an annualised rate of 2.3%, near the lows of the final quarter of 2018, when trade war disruption was at its peak.”

October 7 – Financial Times (Martin Arnold and Brendan Greeley): “The unprecedented growth in central banks’ balance sheets since the financial crisis has had a negative impact on the way in which financial markets function, according to a new report from the Bank for International Settlements. Over the past decade the world’s major central banks have lent vast sums of cheap money as well as buying trillions of dollars in bonds and other assets in a bid to stimulate the global economy. Some are still expanding their balance sheets: the European Central Bank last month decided to restart its €2.6tn bond-buying programme, while the Bank of Japan has used bond-buying as a stimulus measure for decades. Last month’s spike in short-term US borrowing costs was just the latest in a series of market shocks that have fuelled investors’ suspicions that this radical monetary policy is having an impact on how financial markets function.”

October 7 – Reuters (Marc Jones): “A report from a central bank-led global committee has defended the use of crisis-fighting tools such as negative interest rates and large-scale asset purchases, saying the benefits have outweighed the side effects. The study from the Committee on the Global Financial System Committee (CGFS) was a broad analysis, but is likely to attract considerable attention in Europe following growing criticism about the use of such measures… ‘On balance, unconventional monetary policy tools (UMPTs) helped the central banks that used them address the circumstances presented by the crisis and the ensuing economic downturn,’ said Philip Lowe, chair of the CGFS and governor of the Reserve Bank of Australia.”

October 9 – Financial Times (Martin Arnold): “The European Central Bank decided to restart its bond-buying programme last month over the objections of its own officials, a further sign of how the move has reopened divisions within the institution. The bank’s monetary policy committee, on which technocrats from the ECB and the 19 eurozone national central banks sit, advised against resuming its bond purchases in a letter sent to Mario Draghi and other members of its governing council days before their decision, according to three members of the council.”

Brexit Watch:

October 9 – Reuters (Elizabeth Piper and Peter Powell): “A Brexit deal could be clinched by the end of October to allow the United Kingdom to leave the European Union in an orderly fashion, Irish Prime Minister Leo Varadkar said after what he called a very positive meeting with Boris Johnson. With just three weeks to go before the United Kingdom is due to leave the world’s biggest trading bloc, it remains unclear on what terms it will leave or indeed whether it will leave at all… ‘I think it is possible for us to come to an agreement, to have a treaty agreed, to allow the UK to leave the EU in an orderly fashion and to have that done by the end of October,’ Varadkar told Irish reporters.”

October 8 – Bloomberg (Alex Morales, Dara Doyle and Robert Hutton): “The U.K. stepped up preparations for a no-deal Brexit in three weeks’ time as negotiations with the European Union headed toward a breakdown. In a call on Tuesday morning, Boris Johnson told German Chancellor Angela Merkel a divorce agreement is essentially impossible if the EU demands Northern Ireland must stay in the bloc’s customs union. Johnson spoke later to Irish Prime Minister Leo Varadkar and the two agreed to meet for talks before the end of the week.”

October 8 – Reuters (Guy Faulconbridge, Elizabeth Piper, John Chalmers): “The European Union accused Britain of playing a ‘stupid blame game’ over Brexit… after a Downing Street source said a deal was essentially impossible because German Chancellor Angela Merkel had made unacceptable demands. With just 23 days before the United Kingdom is due to leave the bloc, the future of Brexit remains deeply uncertain as both London and Brussels position themselves to avoid blame for a delay or a disorderly no-deal Brexit.”

Europe Watch:

October 8 – Bloomberg (Piotr Skolimowski): “Former European Central Bank Chief Economist Peter Praet appealed for calm in an increasingly bitter row over monetary policy that threatens to mar President Mario Draghi’s final weeks in office. Responding to criticism last week of ECB policy by his predecessors and a group of former policy makers, Praet said the memorandum they signed lambasting the institution’s efforts to stoke inflation was emotional and employed straw-man arguments. While recognizing their concern as genuine, he argued it would be better-addressed in a proper discussion… The memorandum criticized the ECB’s approach to complying with its price-stability mandate, raised alarm over the longer-term impact of negative interest rates and alleged the institution is financing governments with its bond-buying program -- a move that’s forbidden by European Union law.”

October 6 – Reuters (Paul Carrel): “German industrial orders fell more than expected in August on weaker domestic demand…, adding to signs that a manufacturing slump is pushing Europe’s largest economy into recession. Contracts for ‘Made in Germany’ goods fell 0.6% from the previous month, with demand for capital goods down 1.6%...”

EM Watch:

October 6 – Bloomberg (Divya Patil): “As India’s shadow banking crisis deepens, it’s getting harder for investors to cut their losses in the sector’s debt. Mutual funds are in a particularly tough spot, given their large holdings of non-bank financing company bonds. That, in turn, threatens everyone from individual investors to conglomerates with money in the funds, underscoring broader risks to policy makers already grappling with an economic slowdown.”

Global Bubble Watch:

October 8 – Reuters (David Lawder): “The global economy is experiencing a ‘synchronized slowdown,’ the new head of the International Monetary Fund said…, warning that it would worsen if governments failed to resolve trade conflicts and support growth. In a blunt inaugural speech since taking the helm of the global crisis lender on Oct. 1, IMF Managing Director Kristalina Georgieva said trade tensions had ‘substantially weakened’ manufacturing and investment activity worldwide. ‘There is a serious risk that services and consumption could soon be affected,’ she said.”

October 7 – Bloomberg (Rachel Evans): “The world’s biggest banks still play a surprisingly large role in the rapidly growing market for exchange-traded funds. Bank of America Corp., Goldman Sachs Group Inc. and ABN Amro Bank NV together handle about half of the $5.5 trillion gross flows into and out of ETFs, according to… BlackRock Inc., which analyzed the first batch of regulatory filings on the institutions that create or redeem ETF shares. That’s in stark contrast to the secondary market, where many banks have ceded market-making roles to faster, more tech-savvy electronic brokers.”

Fixed-Income Bubble Watch:

October 10 – Bloomberg (Danielle Moran): “State and local governments have already borrowed at a faster pace than last year and aren’t slowing down yet, raising the possibility that issuance could reach $400 billion this year, a feat achieved only three times in the past decade.”

Leveraged Speculation Watch:

October 10 – Financial Times (Song Jung-a, Edward White and Hudson Lockett): “The biggest hedge fund manager in South Korea has blocked investors from pulling more than $500m from its funds after a regulatory probe into alleged illegal trading activities, in a move that highlights broader problems with liquidity in the country’s convertible bond market. Seoul-based Lime Asset Management, which manages assets worth about Won4.9tn ($4.1bn), last week froze as much as Won620bn over two of its funds after it received more requests for redemptions than it was able to meet.”

October 6 – Wall Street Journal (Eric Uhlfelder): “The hedge-fund industry continues to do this year what it has been doing for more than a decade—trailing the stock market big time. Hedge funds on average generated less than half the returns of the stock market in the first half of 2019, posting a net return of 7.2%, according to… BarclayHedge. The S&P 500 returned 18.5%. Performance varied widely depending on strategy… Despite net redemptions of nearly $23 billion during the first half of the year, hedge-fund assets continued to rise as returns easily offset that decline. …Hedge Fund Research reports total industry assets rose from $3.1 trillion at the beginning of the year to a record $3.25 trillion at the end of June.”

October 4 – Wall Street Journal (Rachael Levy): “Prominent hedge funds lost money in September, a swift comedown after a relatively strong run for the industry at large. Several technology-focused funds were among those hit hard. Tiger Global Management LLC… lost 7.4% last month, said people familiar… Philippe Laffont’s Coatue Management LLC lost about 6%, Whale Rock Capital Management LLC dropped 14%, and Glen Kacher’s Light Street Capital Management LLC lost around 10%...”

Geopolitical Watch:

October 9 – CNBC (Kevin Breuninger): “Turkey has launched a military operation in northern Syria, Turkish President Recep Tayyip Erdogan said…, days after the Trump administration announced its controversial decision to pull U.S. troops out of the area. ‘Turkish Armed Forces together with the Syrian National Army against PKK / YPG and Daesh terrorist organizations in northern Syria… has started,’ Erdogan wrote on Twitter… ‘Our aim is to destroy the terror corridor which is trying to be established on our southern border and to bring peace and peace to the region’…”

October 5 – BBC: “The US has denied that its day of nuclear talks with North Korea ended in failure, insisting that ‘good discussions’ were had. Earlier, North Korea said the meeting had broken down, because the US brought ‘nothing to the negotiation table’. Officials from the two countries met in Sweden on Saturday, in the hope of breaking their stalemate.”