Friday, July 19, 2019

Weekly Commentary: Living Life Near the ZLB

There must be members of the FOMC feeling they are about to be railroaded into a 50 bps cut a week from Wednesday. Chairman Powell essentially pre-committed to a reduction last week in testimony before Congress. For a Federal Reserve preaching “data dependent” for a while now, the less dovish contingent at the Fed must be asking, “But what about the data?”

It was interesting to see headlines Thursday afternoon from a speech by the President of the New York Fed, John Williams: “Williams: Lesson With Zero Rates is to Take Swift Action,” “Williams: Currently Estimates Neutral Rate in U.S. Around 0.5%.” Soon afterward, headlines from Fed vice chair Richard Clarida reinforced the point: “Fed’s Clarida: Central Bank Needs to Act Preemptively,” and “Clarida: You Don’t Necessarily Want to Wait Until Data Turns.” Things turned rather boisterous ahead of the Fed’s “quiet period.”

Markets were all ears. The implied yield on August Fed Funds futures dropped a quick nine basis points to 1.98%, a full 43 bps below the current rate. The Market’s Thursday afternoon pricing of a high probability for a 50 bps cut elicited an unusual backtrack: “Fed Says William’s Speech ‘Not About’ Potential Policy Actions.” (The President tweeted he liked Williams’ “first statement much better than his second.”) The implied rate on August Fed Funds futures closed the week at 2.10%, with market odds (60%) back to favoring a 25 bps cut. Ten-year Treasury yields dropped seven bps this week to 2.06%, with bund yields down 11 bps to negative 0.32%.

William’s speech, “Living Life Near the ZLB,” deserves of some attention: “My wife is a professor of nursing, and she says one of the best things you can do for your children is to get them vaccinated. It’s better to deal with the short-term pain of a shot than to take the risk that they’ll contract a disease later on. I think about monetary policy near the zero lower bound—or ZLB for short—in much the same way. It’s better to take preventative measures than to wait for disaster to unfold… Over the past quarter century, a great deal of research has gone into understanding the causes and consequences of the zero lower bound.”

[Note to PhD economics students: the clearest path to the upper echelon of the Federal Reserve System is to formulate some crackpot theory justifying aggressive monetary stimulus] How much “ZLB” Fed research has been conducted for environments characterized by record stock prices, strong Credit growth, booming corporate Credit markets, and a world with $13 TN of negative-yielding debt? Williams references a 2002 paper (co-authored with Dave Reifschneider) that evaluated “effects of the ZLB on the macro economy and examined alternative monetary policy strategies to mitigate the effects of the ZLB.”

“This work highlighted a number of conclusions based on model simulations. In particular, monetary policy can mitigate the effects of the ZLB in several ways: The first: don’t keep your powder dry—that is, move more quickly to add monetary stimulus than you otherwise might… When you only have so much stimulus at your disposal, it pays to act quickly to lower rates at the first sign of economic distress. …My second conclusion, which is to keep interest rates lower for longer. The expectation of lower interest rates in the future lowers yields on bonds and thereby fosters more favorable financial conditions overall… Finally, policies that promise temporarily higher inflation following ZLB episodes can help generate a faster recovery and better sustain price stability over the longer run. In model simulations, these ‘make-up’ strategies can mitigate nearly all of the adverse effects of the ZLB.”

There would be outrage if the Fed was using similar “model simulations” to justify a policy course at odds with the markets. In a world of unprecedented complexity, model simulations are basically worthless. If the Fed cannot even effectively model consumer price inflation from actual policy measures, how are models simulating impacts on future economic and inflation outcomes (from untested experimental policy) supposed to be credible? Besides, how have the ZLB experiments been progressing in Europe and Japan?

Williams: “An added impetus to this research has been the growing evidence that the neutral rate of interest rate has fallen significantly. I... have devoted a significant chunk of my academic career to studying r-star, or the long-run neutral rate of interest, and its implications for monetary policy. Our current estimates of r-star in the United States are around half a percent.”

What happened to the traditional central bank focus on money and Credit? This “natural rate” framework is problematic – and particularly so in Bubble environments. What was the estimate of r-star last November with 10-year Treasury yields at 3.24% and December ’19 futures implying a 2.93% Fed Funds rate? R-star is defined as the “interest rate that supports the economy at full employment/maximum output while keeping inflation constant.” In a world where loose financial conditions and booming securities markets are required to sustain the global Bubble, one can indeed make the argument that r-star is quite low. Yet r-star is today only relevant in the context of a policy objective of sustaining Bubbles.

I thought it was outrageous in 2013 when chairman Bernanke stated the Fed was ready to “push back against a tightening of financial conditions”. It was as if I was the only analyst that had an issue with Bernanke essentially signaling that the Fed would not tolerate risk aversion or market pullbacks. Now the Fed and global central banks are taking another giant leap – the latest iteration of New Age experimental central banking: The “insurance rate cut” – “an ounce of prevention is worth a pound of cure.”

This is not about prevention, and William’s vaccine analogy is misguided. The world is suffering from chronic (debt) illness. An individual with diabetes, heart disease or cancer will not find a cure in a vaccine. Over the years, activist monetary policies have been likened to giving an alcoholic another shot of whiskey or a drug addict another hit of heroin. While these have obvious merits, to counter Williams analogy I’ll instead use antibiotics. Global central bankers have been fighting the world’s chronic debt and economic maladjustment disease with steady doses of antibiotics. Not surprisingly, these pathogens have built up strong resistance to medication.

More stimulus at this point in the cycle is not for prevention – but instead a narcotic for sustaining unsound financial and economic booms (i.e. “extend the expansion”). The Fed and central bankers are again crossing a dangerous red line – compelled to aggressively administer antibiotics hoping to prevent a plague that has evolved to the point of thriving on antibiotics.

It wasn’t that long ago that Fed policy stimulus operated through a mechanism of adding reserves directly into the banking system, with additional reserves working to reduce rates while encouraging borrowing and lending. Policy would act to provide a subtle change in lending conditions that over time would reverberate throughout the economy. The Federal Reserve under Alan Greenspan increasingly shifted to using the markets as the mechanism to loosen financial conditions and stimulate the economy. The 2008 crisis unleashed the policy of direct market intervention, with Bernanke later doubling-down with his “push back” directive.

The U.S.’s coupling of market-based finance with market-directed monetary stimulus created a powerful – seemingly miraculous - combination. Others wanted in on the action. It was pro-Bubble for the U.S., but nonetheless took the world by storm. It became Pro-Global Bubble, and the world today is engulfed in historic market and financial Bubbles.

What is the “r-star” for economic equilibrium today in China? Chinese Bubble finance evolved to become the marginal source of finance globally and the Chinese economy the marginal source of global demand. With Aggregate Finance expanding almost $2.0 TN during the first half, Chinese Credit is again leading a global Credit upsurge.

July 16 – Bloomberg: “China’s efforts to shore up sagging economic growth are leading to a resurgence in indebtedness, underlining the challenge President Xi Jinping’s government faces in curbing financial risk. The nation’s total stock of corporate, household and government debt now exceeds 303% of gross domestic product and makes up about 15% of all global debt, according to a report published by the Institute of International Finance. That’s up from just under 297% in the first quarter of 2018.”

July 15 – Bloomberg (Alexandre Tanzi): “Global debt levels jumped in the first quarter of 2019, outpacing the world economy and closing in on last year’s record, the Institute of International Finance said. Debt rose by $3 trillion in the period to $246.5 trillion, almost 320% of global economic output, the Washington-based IIF said… That’s the second-highest dollar number on record after the first three months of 2018, though debt was higher in 2016 and 2017 as a share of world GDP. New borrowing by the U.S. federal government and by global non-financial business led the increase.”

July 15 – Financial Times (Jonathan Wheatley): “Debt in the developing world has risen to an all-time high, adding to strains on a global economy flagging under the weight of rising trade protectionism and shifting supply chains. Emerging economies had the highest-ever level of debt at the end of the first quarter, both in dollar terms and as a share of their gross domestic product, according to… the Institute of International Finance. The figures include the debts of companies and households. The IIF said that lower borrowing costs thanks to central banks’ monetary easing had encouraged countries to take on new debt. In recent months the US Federal Reserve has changed its policy outlook and a string of emerging market central banks have cut interest rates… ‘It’s almost Pavlovian,’ said Sonja Gibbs, the IIF’s managing director for global policy initiatives. ‘Rates go down and borrowing goes up. Once they are built up, debts are hard to pay down without diverting funds from other goals, whether that’s productive investment by companies or government spending.’”

Only “almost Pavlovian”? I’ve been closely monitoring Bubbles going back to Japan’s late-eighties experience. It’s always the same: Everyone is happy to ignore bubbles when they’re inflating. Bubble analysis, by its nature, will appear foolish for a while. But bubbles inevitably burst. There is no doubt that China’s historic bubble will burst, and I expect this will prove the catalyst for faltering bubbles across the globe – including here in the U.S.

The obvious transmission mechanism will be through the securities markets. Global markets have become highly synchronized – across asset classes and across countries and regions. Market-focused monetary stimulus has become highly synchronized, essentially creating a singular comprehensive global bubble.

July 18 – Bloomberg: “A cash crunch at one of China’s best known conglomerates is getting worse as the company said it will not be able to pay its upcoming dollar notes. China Minsheng Investment Group Corp.’s offshore unit said in a filing that it won’t be able to repay the principal, as well as the interest on the 3.8% $500 million bond due August, after considering its liquidity and performance. On Thursday, the property-to-financial conglomerate announced it only managed to repay part of the principal on a 6.5% 1.46 billion yuan note. The development underscores the liquidity crisis that has been pressuring the… company that aspired to become China’s answer to JPMorgan... It will be the first time that the firm’s dollar bond creditors will miss out on repayment.”

“Repo Rate on China’s Govt Bonds Briefly Hits 1,000% in Shanghai,” read an eye-catching early-Friday Bloomberg headline (picked up by ZeroHedge). Repo rates were back to normal by the end of the session, yet it sure makes one wonder… Aggressive PBOC liquidity injections have for the past several weeks calmed the Chinese money market following post Baoshang Bank government takeover (with “haircuts”) instability. The implicit Beijing guarantee of virtually the entire Chinese Credit system is now being questioned. This greatly increases the risk of Chinese money market instability – with ominous ramifications for China and the world.

With this in mind, there’s a particular circumstance that could catch global markets and policymakers by surprise: A dislocation in China’s “repo” securities lending market that reverberates throughout repo and derivatives markets in Asia, Europe and the U.S. This latent risk, in itself, could help explain this year’s global yield collapse and market expectations for aggressive concerted monetary stimulus. When Chairman Powell repeats “global risks” in his talks these days, I think first to global “repo” markets, global securities finance and global derivatives.

Markets are luxuriating in impending Fed rate cuts and global rate reductions that have commenced in earnest. Liquidity abundance as far as eyes can see… What could go wrong? It’s already started going wrong. The flow of Chinese finance to the world is slowing.

July 18 – CNBC (Diana Olick): “Challenging conditions in the U.S. housing market, along with tighter currency controls by the Chinese government, caused a stunning drop in foreign demand for American homes. The dollar volume of homes purchased by foreign buyers from April 2018 through March 2019 dropped 36% from the previous year, according to the National Association of Realtors. The decline was due to a drop in the number and average price of purchases. Foreigners bought 183,100 properties with a total value of about $77.9 billion, down from 266,800 valued at $121 billion in the previous period. They paid a median price of $280,600, which is higher than the median for all existing homebuyers ($259,600), but it was down from $290,400 the previous year. ‘A confluence of many factors — slower economic growth abroad, tighter capital controls in China, a stronger U.S. dollar and a low inventory of homes for sale — contributed to the pullback of foreign buyers,’ said Lawrence Yun, NAR’s chief economist. ‘However, the magnitude of the decline is quite striking, implying less confidence in owning a property in the U.S.’”

For the Week:

The S&P500 declined 1.2% (up 18.7% y-t-d), and the Dow dipped 0.7% (up 16.4%). The Utilities declined 0.5% (up 14.7%). The Banks slipped 0.3% (up 15.6%), while the Broker/Dealers increased 0.4% (up 15.0%). The Transports declined 0.3% (up 15.6%). The S&P 400 Midcaps fell 1.2% (up 16.5%), and the small cap Russell 2000 dropped 1.4% (up 14.8%). The Nasdaq100 lost 1.4% (up 23.8%). The Semiconductors rose 1.3% (up 31.9%). The Biotechs added 0.7% (up 10.5%). With bullion gaining $10, the HUI gold index jumped 5.1% (up 31.4%).

Three-month Treasury bill rates ended the week at 2.02%. Two-year government yields declined three bps to 1.82% (down 67bps y-t-d). Five-year T-note yields fell six bps to 1.82% (down 70bps). Ten-year Treasury yields dropped seven bps to 2.06% (down 63bps). Long bond yields fell seven bps to 2.58% (down 44bps). Benchmark Fannie Mae MBS yields declined eight bps to 2.78% (down 71bps).

Greek 10-year yields dropped 19 bps to 2.14% (down 226bps y-t-d). Ten-year Portuguese yields fell 20 bps to 0.46% (down 126bps). Italian 10-year yields declined 13 bps to 1.61% (down 114bps). Spain's 10-year yields dropped 18 bps to 0.39% (down 103bps). German bund yields declined 11 bps to negative 0.32% (down 57bps). French yields fell 13 bps to negative 0.07% (down 78bps). The French to German 10-year bond spread narrowed two bps to 25 bps. U.K. 10-year gilt yields dropped 10 bps to 0.73% (down 54bps). U.K.'s FTSE equities index was little changed (up 11.6% y-t-d).

Japan's Nikkei Equities Index dropped 1.0% (up 7.3% y-t-d). Japanese 10-year "JGB" yields declined two bps to negative 0.13% (down 14bps y-t-d). France's CAC40 slipped 0.4% (up 17.4%). The German DAX equities index declined 0.5% (up 16.1%). Spain's IBEX 35 equities index fell 1.3% (up 7.4%). Italy's FTSE MIB index dropped 2.4% (up 18.1%). EM equities were mixed. Brazil's Bovespa index dipped 0.4% (up 13.7%), and Mexico's Bolsa dropped 2.4% (down 0.1%). South Korea's Kospi index rallied 0.4% (up 2.6%). India's Sensex equities index fell 1.0% (up 6.3%). China's Shanghai Exchange slipped 0.2% (up 17.3%). Turkey's Borsa Istanbul National 100 index rallied 4.9% (up 11.6%). Russia's MICEX equities index dropped 2.8% (up 14.0%).

Investment-grade bond funds saw inflows of $3.647 billion, and junk bond funds posted inflows of $573 million (from Lipper).

Freddie Mac 30-year fixed mortgage rates jumped six bps to 3.81% (down 71bps y-o-y). Fifteen-year rates added a basis point to 3.23% (down 77bps). Five-year hybrid ARM rates gained two bps to 3.48% (down 39bps). Bankrate's survey of jumbo mortgage borrowing costs had 30-yr fixed rates unchanged at 4.13% (down 41bps).

Federal Reserve Credit last week declined $1.7bn to $3.773 TN. Over the past year, Fed Credit contracted $483bn, or 11.3%. Fed Credit inflated $963 billion, or 34%, over the past 349 weeks. Elsewhere, Fed holdings for foreign owners of Treasury, Agency Debt gained $7.3bn last week to $3.466 TN. "Custody holdings" gained $57.8bn y-o-y, or 1.7%.

M2 (narrow) "money" supply was little changed last week at a record $14.833 TN. "Narrow money" gained $703bn, or 5.0%, over the past year. For the week, Currency was about unchanged. Total Checkable Deposits jumped $27.5bn, while Savings Deposits fell $34.3bn. Small Time Deposits were little changed. Retail Money Funds gained $6.9bn.

Total money market fund assets rose $9.3bn to $3.262 TN. Money Funds gained $437bn y-o-y, or 15.5%.

Total Commercial Paper declined $3.5bn to $1.140 TN. CP was up $78bn y-o-y, or 7.3%.

Currency Watch:

July 18 – Reuters (Jason Lange and Ann Saphir): “President Donald Trump wants a cheaper dollar, saying earlier this month the United States should match what he says are efforts by other countries to weaken their own currencies - giving them an unfair trade advantage. The comments have prompted speculation the president could order sales of the greenback, which is near a multi-decade high… ‘Conditions seem increasingly favorable for the U.S. administration to intervene against perceived (dollar) overvaluation,’ Citi economists said…”

The U.S. dollar index increased 0.4% to 97.151 (up 1.0% y-t-d). For the week on the upside, the New Zealand dollar increased 1.1%, the South Korean won 0.4%, the Australian dollar 0.3%, the Swiss franc 0.2%, the Japanese yen 0.2% and the South African rand 0.1%. On the downside, the British pound declined 0.5%, the Norwegian krone 0.5%, the euro 0.4%, the Brazilian real 0.3%, the Singapore dollar 0.3%, the Canadian dollar 0.2%, the Mexican peso 0.2% and the Swedish krona 0.2%. The Chinese renminbi declined 0.02% versus the dollar this week (down 0.05% y-t-d).

Commodities Watch:

July 17 – Bloomberg (Nathan Crooks): “Ray Dalio thinks the current era of low interest rates and quantitative easing might be coming to an end, and his answer to a new market paradigm that could see escalating conflict between capitalists and socialists is simple -- gold. ‘I believe that it would be both risk-reducing and return-enhancing to consider adding gold to one’s portfolio,’ the billionaire founder of… Bridgewater Associates said…”

The Bloomberg Commodities Index dropped 2.0% this week (up 3.1% y-t-d). Spot Gold gained 0.7% to $1,425 (up 11.1%). Silver surged 6.3% to $16.195 (up 4.2%). WTI crude sank $4.58 to $55.63 (up 23%). Gasoline sank 6.9% (up 39%), and Natural Gas dropped 8.2% (down 23%). Copper gained 2.2% (up 5%). Wheat fell 3.9% (unchanged). Corn sank 5.1% (up 16%).

Market Instability Watch:

July 17 – Bloomberg (Vivien Lou Chen): “The world’s almost $13 trillion pile of negative-yielding bonds is looking like ‘quicksand’ that risks engulfing much of the fixed-income universe, including the U.S., says JPMorgan Chase & Co.’s Jan Loeys. The prospect of Treasury yields dropping to zero may seem remote, with the 10-year benchmark now back above 2%, the U.S. jobless rate near a 50-year low and stocks close to record highs. But Loeys… lays out a scenario in which that could happen. It would be a multi-year process, in his view, that could be triggered by ‘a plain-vanilla recession’ caused perhaps by an extended trade war and plummeting capital expenditures. As he sees it, that would push the Federal Reserve to cut rates to zero and resort to quantitative easing again as inflation ebbs. The net result: much lower yields.”

July 12 – Reuters (John Ainger): “There’s a multitrillion-dollar black hole growing at the heart of the world’s financial markets. Negative-yielding debt -- bonds worth less, not more, if held to maturity -- is spreading to more corners of the bond universe, destroying potential returns for investors and turning the system as we know it on its head. Now that it looks like sub-zero bonds are here to stay, there’s even more hand-wringing about the effects for mom-and-pop savers, pensioners, investors, buyout firms and governments.”

July 18 – Bloomberg (Benjamin Purvis): “Traders on Thursday ramped up the amount of easing they expect from the Federal Reserve as policy maker John Williams said central banks should act quickly when they see signs of trouble. The futures market edged closer to the idea of a half-point interest-rate cut this month. The implied yield on the August fed funds contract – which indicates where the market sees the central bank’s key rate after its July 31 decision -- fell 6 bps to 2.015%. With the current effective fed funds rate at 2.41%, the market is now pricing in almost 40 bps of easing for the upcoming meeting. That suggests traders see a 50-basis-point cut as more likely than the 25-basis-point reduction that the Fed has usually favored.”

July 18 – Financial Times (Liu Jun): “Everyone is talking about liquidity. From the stock market crash in the last quarter of 2018, to the recent turmoil triggered by the freezing of redemptions on a fund run by Neil Woodford, a star UK stockpicker, investors are worrying about the risks of not getting their money back. Similar fears are testing nerves in China’s interbank market, the main financing platform for financial institutions. The event that sparked panic was the announcement on May 24 that the People’s Bank of China was taking over Baoshang Bank… amid credit risk concerns. The idiosyncratic problems faced by a lesser-known regional bank unexpectedly drove the overnight lending rate up by dozens of basis points, and the issuance of negotiable certificates of deposit — short-term liquid debt instruments — by second and third-tier banks came to a near halt.”

July 18 – Reuters (Jennifer Ablan): “Investors took advantage of soaring stock markets, putting $8.8 billion to work in U.S.-based equity exchange-traded funds in the week ended Wednesday, according to Refinitiv’s Lipper data…”

July 14 – Wall Street Journal (Paul J. Davies): “In the latest sign of financial markets going into uncharted territory, more than a dozen junk bonds, which usually carry high yields, now trade in Europe with a negative yield. It is a stark illustration of how ultraloose monetary policies have turned debt investing into a choice about how to lose the least amount of money. European investors have gotten used to paying for the privilege of owning safe government bonds with negative yields… Investors have also gotten used to highly rated, investment-grade companies trading with negative yields. But junk bonds are typically risky borrowers with weaker balance sheets and often smaller businesses that may struggle to pay back what they borrow anyway.”

July 18 – Wall Street Journal (Dawn Lim): “A decadelong shift of money and power from old-fashioned money managers into index funds resumed its march in 2019. Last year, net inflows into funds that track markets fell about 30% from the year before, according to Morningstar data… But now, a stream of cash into funds that track markets is picking up once again… Net inflows into index-tracking U.S. mutual funds and exchange-traded funds rose by around 50% in the second quarter of 2019 from a year earlier, according to Morningstar…”

Trump Administration Watch:

July 19 – Reuters (David Lawder, Susan Heavey, Andrea Shalal and Koh Gui Qing): “U.S. and Chinese officials spoke by telephone on Thursday as the world’s two largest economies seek to end a year-long trade war, with U.S. Treasury Secretary Steven Mnuchin suggesting in-person talks could follow… China’s foreign ministry said on Friday the two sides had discussed ways to implement the consensus reached by the two countries’ presidents, but gave no other details.”

July 16 – Bloomberg (Justin Sink): “President Donald Trump reiterated that he could impose additional tariffs on Chinese imports if he wants, after promising to hold off on more duties in a trade-war truce he reached with China’s Xi Jinping last month. ‘We have a long way to go as far as tariffs where China is concerned, if we want. We have another $325 billion we can put a tariff on, if we want,’ Trump said. ‘So, we’re talking to China about a deal, but I wish they didn’t break the deal that we had.’ China said… that further levies would complicate the negotiations.”

July 17 – Wall Street Journal (William Mauldin and Chao Deng): “Progress toward a U.S.-China trade deal has stalled while the Trump administration determines how to address Beijing’s demands that it ease restrictions on Huawei Technologies Co., people familiar with the talks said. No face-to-face meetings have taken place and none has been scheduled since President Trump and President Xi Jinping of China met last month in Japan and agreed to resume talks. At that time, Mr. Trump said the U.S. would allow some U.S. firms to sell products to Huawei, the… telecommunications giant that Beijing sees as a strategic priority and Washington considers a national-security threat. Yet so far administration officials haven’t reached consensus on which semiconductor chips and other products can be provided to Huawei without triggering security concerns or giving the company a strategic edge.”

July 14 – Reuters (Alexandra Alper and Karen Freifeld): “The U.S. may approve licenses for companies to re-start new sales to Huawei in as little as two weeks, according to a senior U.S. official, in a sign President Donald Trump’s recent effort to ease restrictions on the Chinese company could move forward quickly… Trump’s reversal, and rapid implementation by the Commerce Department, suggests chip industry lobbying, coupled with Chinese political pressure, may well reignite U.S. technology sales to Huawei.”

July 15 – Reuter (Susan Heavey and Jeff Mason): “U.S. President Donald Trump… seized on slowing economic growth in China as evidence that U.S. tariffs were having ‘a major effect’ and warned that Washington could pile on more pressure as bilateral trade talks sputtered along… ‘This is why China wants to make a deal with the U.S., and wishes it had not broken the original deal in the first place,’ Trump tweeted.”

July 15 – Politico (Doug Palmer): “The U.S.-China trade war has taken a toll on President Donald Trump's friendship with Chinese President Xi Jinping. ‘I used to say he was a good friend of mine,’ Trump said… ‘We're probably not quite as close now. But I have to be for our country. He’s for China and I’m for USA, and that's the way it's got to be.’”

July 15 – Associated Press (Andrew Taylor): “It’s House Speaker Nancy Pelosi and top Senate Republican Mitch McConnell vs. hardliners in the White House as lawmakers pursue a deal on federal spending and the debt. And the hardliners, wary of further increases to federal spending, appear to be losing. Talks between Pelosi and Treasury Secretary Steven Mnuchin appear to be progressing. Mnuchin on Monday told reporters, ‘I think we’re very close to a deal,” though he cautioned that ‘these deals are complicated.’ Mnuchin says increasing the $22 trillion debt limit needs to be done this month to avert any risk of a U.S. default on obligations like bond payments.”

July 19 – Reuters (Susan Heavey): “U.S. President Donald Trump on Friday kept up his pressure on the Federal Reserve as the U.S. central bank’s next meeting approaches later this month, when financial markets expect an interest rate cut. Trump, in a tweet, reiterated his call for lower interest rates and slammed the Fed for what he called its ‘faulty thought process.’”

July 15 - The Hill: “President Trump is putting his hopes for reshaping the Federal Reserve on a controversial conservative economist who is a fierce advocate for his economic agenda — and who has adjusted her views on monetary policy to fit the commander-in-chief’s. After several derailed attempts to stock the independent central bank with allies, Trump announced last week that he intends to nominate former campaign adviser Judy Shelton and Christopher Waller, executive vice president at the Federal Reserve Bank of St. Louis, to two open spots… Waller, a career academic, is seen as a safe and independent choice that won’t carry Trump’s water. But Shelton’s selection may be Trump’s most viable chance to sway the direction of the Fed after Republicans rejected his past efforts fill the bank with loyalists. If Shelton is confirmed and Trump wins re-election, she’d be an immediate front-runner to replace Fed Chairman Jerome Powell when his term expires in 2022.”

July 17 – Reuters (Pete Schroeder and Richard Leong): “The Trump administration’s hotly anticipated blueprint for overhauling mortgage guarantors Fannie Mae and Freddie Mac may not be published until September as the U.S. Treasury juggles several other pressing issues… Mark Calabria, director of the Federal Housing Finance Agency (FHFA), which oversees the government-sponsored enterprises, said… it was his ‘hope’ that they would have exited or be ready to exit conservatorship before his term ends in 2024.”

July 16 – Reuters (Hyonhee Shin and Jeff Mason): “The United States looks set to break a promise not to hold military exercises with South Korea, putting talks aimed at getting North Korea to abandon its nuclear weapons at risk, the North Korean Foreign Ministry said…”

July 17 – Reuters (Alexandra Alper): “U.S. President Donald Trump, who has made religious freedom a centerpiece of his foreign policy, met on Wednesday with victims of religious persecution from countries including China, Turkey, North Korea, Iran and Myanmar… Four of the 27 participants in the Oval Office meeting were from China, the White House said…”

Federal Reserve Watch:

July 18 – Wall Street Journal (Michael S. Derby): “Federal Reserve Bank of New York President John Williams said that in a world where interest rates are lower than they have been historically, central banks must confront any sign of weakness quickly and aggressively. ‘Take swift action when faced with adverse economic conditions’ and ‘keep interest rates lower for longer’ when you do lower rates, Mr. Williams said… ‘Don’t keep your powder dry—that is, move more quickly to add monetary stimulus than you otherwise might,’ Mr. Williams said. When short-term interest rates are well above zero, it is then that ‘one can afford to move slowly and take a ‘wait and see’ approach to gain additional clarity about potentially adverse economic developments.’”

July 18 – Bloomberg (Christopher Condon and Rich Miller): “Two senior Federal Reserve officials stressed the need to act quickly if the U.S. economy looked likely to stumble, reinforcing bets the central bank could cut interest rates by as much as half a percentage point later this month. Fed Vice Chairman Richard Clarida and New York Fed chief John Williams buoyed U.S. stocks with their dovish remarks Thursday afternoon, in some of the final comments from central bankers before they enter their blackout period ahead of a July 30-31 policy meeting. ‘You don’t need to wait until things get so bad to have a dramatic series of rate cuts,’ Clarida said… ‘We need to make a decision based on where we think the economy may be heading and, importantly, where the risks to the economy are lined up.’ His remarks line up with testimony last week by Fed Chairman Jerome Powell, and comments a bit earlier in the day from Williams…”

July 16 – Financial Times (James Politi): “Jay Powell, the Federal Reserve chairman, sent his latest signal that the US central bank is considering an easing of monetary policy to offset mounting trade tensions and softness in the world economy, stressing that ‘global factors’ had become more relevant to policymaking in recent years. Speaking at a conference in Paris ahead of a meeting of G7 finance ministers and central bank governors, Mr Powell said the Fed would ‘act as appropriate to sustain the expansion’ in the face of increasing ‘uncertainties’ about the US outlook… More importantly, they have placed huge emphasis on the threat to the US economy posed by the flagging global outlook as a rationale for moving ahead with an ‘insurance’ interest rate cut — with Mr Powell noting that policymakers had grown ‘more keenly aware’ of the international environment over the past decade. ‘The global nature of the financial crisis and the channels through which it spread sharply highlight the interconnectedness of our economic, financial and policy environments. US economic developments affect the rest of the world, and the reverse is also true,’ he said.”

July 17 – Wall Street Journal (Michael S. Derby): “Federal Reserve Bank of Kansas City President Esther George said… she’s prepared to be flexible, but she doesn’t yet see the case for a cut in interest rates later this month. ‘When I look at the current settings for monetary policy, my own outlook suggests we will continue to see growth in the economy around or slightly above the trend rate of growth, we see an unemployment rate at a 50-year low and continued job gains as recently as the most recent employment numbers,’ with positive wage growth for workers, Ms. George said… ‘Across all of these parameters, inflation has remained low and stable,’ the official added. ‘So for me that suggests we are in a good range in terms of thinking about monetary policy,’ Ms. George said.”

July 16 – Reuters (Ann Saphir): “The Federal Reserve is widely expected to cut interest rates at its policy meeting in two weeks, but San Francisco Federal Reserve Bank President Mary Daly is still reserving judgment on the best course of action. ‘At this point I’m not leaning one direction or another, but I am very much oriented toward looking at the data, watching the pieces come out, looking at the preponderance of evidence on mood and behavior and momentum and headwinds,’ Daly told Reuters…”

July 16 – Reuters (Howard Schneider): “Chicago Federal Reserve President Charles Evans said… that an interest rate cut of a half a percentage point at the U.S. central bank’s July policy meeting could speed up achieving the Fed’s inflation goal. Evans, who feels rates should be reduced half a percentage point by year’s end at the least, said… ‘There is an argument that if I think it takes 50 bps before the end of the year to get inflation up, then something right away would make that happen sooner.’"

U.S. Bubble Watch:

July 17 – Wall Street Journal (Laura Kusisto): “Foreign purchases of U.S. homes have dropped by half over the last two years, a fresh blow to the top end of the market in New York City, Miami and cities in California. Foreigners bought less than $78 billion worth of U.S. residential real estate in the year that ended in March—a 36% decline from $121 billion the previous year, according to… the National Association of Realtors. Their pullback is leading to price cuts in several coastal cities and causing new condos to sit empty.”

July 16 – Reuters: “U.S. retail sales increased more than expected in June, pointing to strong consumer spending, which could help to blunt some of the hit on the economy from weak business investment. …Retail sales rose 0.4% last month as households stepped up purchases of motor vehicles and a variety of other goods… June’s strong gain in core retail sales, coming on the heels of solid increases in April and May, suggested a sharp acceleration in consumer spending in the second quarter.”

July 16 – Reuters (Evan Sully): “A private gauge of U.S. home builder sentiment increased in July as falling mortgage rates offset rising building costs and worries about global trade tensions… ‘Builders report solid demand for single-family homes. However, they continue to grapple with labor shortages, a dearth of buildable lots and rising construction costs that are making it increasingly challenging to build homes at affordable price points relative to buyer incomes,’ NAHB Chairman Greg Ugalde said…”

July 18 – Financial Times (Richard Waters): “This has been a good week to take the temperature of the Techlash. For Silicon Valley, the results are not encouraging. The presidential election season in the US is still in its early days and the partisan gulf is widening, but hating on Big Tech is something everyone can agree on. On Capitol Hill…, lawmakers got their chance to air some of the main issues and show off their outrage for the cameras. Facebook was grilled on its cryptocurrency plans, Google was raked over the coals for its flawed algorithms and ambitions in China, and executives from both these companies, along with Amazon and Apple, faced the first congressional hearing into their market power. To cap it all, the political theatre was bookended by two notable regulatory actions: a $5bn fine against Facebook in the US for privacy violations, and the news that the EU’s informal inquiry into Amazon had turned up enough to warrant a full competition investigation.”

July 16 – Wall Street Journal (David Benoit, Liz Hoffman and Rachel Louise Ensign): “U.S. consumers are taking advantage of low interest rates to borrow and spend, boosting banks that cater to Main Street and leaving behind those that don’t. Booming consumer businesses drove quarterly profits higher at JPMorgan…, Wells Fargo…, and Citigroup Inc., while trading and deal fees shrank. Goldman Sachs…, which lacks a big consumer operation, was the only large U.S. bank to report lower profit in the second quarter than it did a year ago. The results show American consumers are more upbeat about the economy than businesses and institutional investors. Low unemployment, rising wages and the Federal Reserve’s decision to hold interest rates steady prompted consumers to increase their credit-card spending and take out new mortgages.”

July 16 – Reuters (Elizabeth Dilts, Imani Moise, Matt Scuffham): “U.S. banks reported strong earnings… even as warning signs emerged that the playing field is beginning to tilt against the financial industry. While the biggest risk ahead is that lower interest rates will pressure banks’ bottom lines in the coming months, the squeeze is already beginning. JPMorgan… and Wells Fargo… both reported drops in net interest margins as they paid more for deposits. JPMorgan… lowered its outlook for net interest income to ‘about $57.5 billion’ in 2019 from the $58-plus billion it estimated in February. …Citigroup similarly reported a decline in net interest margin.”

July 15 – Associated Press (Joyce M. Rosenberg): “The market for small businesses cooled for the third straight quarter during the spring as tariffs from the trade war with China made some sellers and buyers uneasy about making a deal. That report comes from, an online marketplace for small companies that counted 2,444 transactions reported by business brokers from April through June, down 9.6% from 2,705 in the second quarter of last year. Sales fell 6.5% in this year’s first quarter from a year earlier, and 6% during 2018′s fourth quarter… The administration’s tariffs on thousands of imports has driven up costs for companies of all sizes and hurt the profitability of many, but small businesses that don’t have the financial resources that larger ones do suffer a proportionately larger impact from the duties.”

July 15 – Financial Times (Miles Kruppa): “A handful of mega-rounds by fintech companies dominated fundraising in the second quarter of this year, highlighting how venture capital firms with significant amounts to spend and the Japanese investment goliath SoftBank continue to feed private companies and delay their arrival on public markets. The number of funding rounds totalling $100m or more hit a record last quarter, according to a report from CB Insights and PwC. Some 64 US companies ranging from the online lender SoFi to the food delivery company DoorDash completed these so-called mega-rounds, contributing to a 10% increase in funding from the first three months of this year. Mega-rounds accounted for more than half of the $28.7bn total raised during the second quarter…”

July 15 – Associated Press (Tom Krisher): “Contract talks between the United Auto Workers and Detroit’s three automakers kicked off with the union president departing from the traditionally friendly tone by telling Ford executives that workers want a bigger share of the companies’ record profits… ‘We will protect our work, our jobs and our way of life,’ Jones said. ‘We expect an agreement that recognizes our contributions.’ Bargaining over new four-year contracts between the Detroit automakers and the union representing 142,000 workers nationwide started Monday…”

July 15 – Wall Street Journal (Matt Wirz): “Rising stock valuations are forcing private-equity firms to contribute more cash to their leveraged buyouts. That is likely to drag down performance in the long term even as pensions and other investors increasingly turn to private equity to boost returns. Private-equity firms contributed 52% to the purchase prices of companies they bought in the second quarter of the year, according Covenant Review…, up from 45% in the first quarter. That compares to an average of 47% and marks the highest quarterly figure since Covenant Review began tracking the data in January 2017. ‘It’s because of the high stock prices today,’ said Covenant Review’s CEO, Steve Miller. Private-equity buyers need to put up more cash to win the deals they want because ‘lenders are only willing to go so far,’ he said.”

China Watch:

July 14 – Bloomberg: “China’s economy slowed to the weakest pace since quarterly data began in 1992 amid the ongoing trade standoff with the U.S., while monthly indicators provided signs that a stabilization is emerging. Gross domestic product rose 6.2% in the April-June period from a year earlier, below the 6.4% expansion in the first quarter. In June, factory output and retail sales growth beat estimates, while investment in the first half of the year also gave further evidence that stimulus measures to curb the slowdown are feeding through.”

July 14 – Reuter: “China’s industrial output grew 6.3% in June from a year earlier…, picking up from May’s 17-year low and handily beating market expectations. Analysts polled by Reuters had tipped a 5.2% rise, compared with 5.0% growth seen in May. Fixed-asset investments for the first half of the year rose 5.8% from a year earlier… Retail sales for June rose 9.8% in annual terms. Analysts had expected growth to cool to 8.3% from May’s 8.6%.”

July 14 – Reuter (Yawen Chen and Kevin Yao): “Growth in China’s new home prices cooled in June as sales shrank for a second month, but building starts and investment quickened, providing a cushion for the slowing economy while Beijing claims some wins in reducing market froth. Average new home prices in China’s 70 major cities grew 0.6% in June from a month earlier, easing from a 0.7% gain in May… On an annual basis, home prices increased 10.3% in June… The weakness mainly came from tier-1 cities. Prices in China’s four top-tier cities - Beijing, Shanghai, Guangzhou and Shenzhen - rose an average of 0.2% from a month earlier…”

July 19 – Wall Street Journal (Frances Yoon and Stella Yifan Xie): “A large Chinese conglomerate fell deeper into a debt crisis, after it said it won’t repay $500 million in U.S. dollar bonds coming due next month. Cash-strapped China Minsheng Investment Group said… it will not be able to repay the principal amount or interest on the three-year bonds that mature on Aug. 2, marking one of the largest Chinese defaults on a U.S. dollar bond this year… The report, from Shanghai Brilliance Credit Rating & Investors Service Co., said the group’s liabilities rose 134% in three years to 232.1 billion yuan ($33.7bn) at the end of June last year. It had total assets of 309.6 billion yuan at the time.”

July 14 – Wall Street Journal (Austen Hufford and Bob Tita): “U.S. manufacturers are shifting production to countries outside of China as trade tensions between the world’s two biggest economies stretch into a second year. Companies that make Crocs shoes, Yeti beer coolers, Roomba vacuums and GoPro cameras are producing goods in other countries to avoid U.S. tariffs of as much as 25% on some $250 billion of imports from China. Apple Inc. also is considering shifting final assembly of some of its devices out of China to avoid U.S. tariffs.”

July 16 – Bloomberg (Sarah McGregor and Katherine Greifeld): “China’s holdings of U.S. Treasuries dipped in May to the lowest in two years amid an escalation of the trade war between the world’s two largest economies. The Asian nation’s pile of notes, bills and bonds fell by $2.8 billion to $1.11 trillion… It was the third straight month of declines and left the nation’s holdings the smallest since May 2017.”

July 14 – Bloomberg (Shuli Ren): “China’s 14 trillion yuan ($2 trillion) brokerage industry is divided into two camps: What locals refer to as dragon heads – the biggest and fittest firms – and the laggards, what we’ll call the dragon tails. China’s securities regulator recently formalized this distinction, taking steps to limit the scope of smaller firms’ services to traditional brokerage, advisory and underwriting. They will now be barred from riskier, more capital-intensive businesses such as over-the-counter derivatives and pledged-stock loans, the practice of offering shares as collateral… The country’s minor players have gotten caught up in all kinds of unsavory practices that have led to defaults, market manipulation and worse – system meltdowns.”

July 16 – Bloomberg: “Chinese regulators said indebted state-owned enterprises shouldn’t be blocked from filing for bankruptcies, renewing China’s push for market-based workouts on failing companies. Governments or financial institutions shouldn’t offer ‘non-compliant subsidies or loans’ to indebted ‘zombie companies’ just to keep them alive, authorities… said… Creditors shouldn’t ask the government to repay a state-owned company’s debt in excess of the government’s contribution… The fresh warning comes in the wake of rising defaults in China as the economy slows amid a protracted trade war with the U.S. The NDRC ordered local governments in December to complete debt disposals of zombie companies and those with excessive production capacity by 2020, saying these should be market driven and law-based.”

July 16 – Bloomberg: “The hunt for safer investments amid rising bond defaults in China is helping to stoke startling growth in the nation’s pile of asset-backed securities, according to a top underwriter. The asset-backed market is expected to expand 45% to 4.5 trillion yuan ($654 billion) by the end of this year, said Zuo Fei, general manager of the innovation financing department from China Merchants Securities Co. The sector also had little impact from the surprise government takeover of a troubled lender in May, he said.”

July 15 – Reuter (Ben Blanchard): “China’s government and Chinese companies will cut business ties with U.S. firms selling arms to Taiwan, China’s Foreign Ministry said…, declining to give details of the sanctions in a move likely to worsen already poor ties with Washington.”

July 17 – Bloomberg (Karen Leigh and Dominic Lau): “Chinese officials in charge of Hong Kong affairs are working on an urgent strategy to solve the city’s political chaos and have ruled out the use of military force, the South China Morning Post reported… They will soon present top leaders in Beijing with both an immediate plan to handle the mass protests and a longer-term strategy that could result in China overhauling its management of the former British colony, the newspaper said…”

Central Banking Watch:

July 18 – Associated Press (Kim Tong-Hyung): “South Korea’s central bank… cut its policy rate for the first time in three years to shore up growth threatened by a trade dispute with Japan. The Bank of Korea lowered its key interest rate by a quarter percentage point to 1.50% following a meeting of its monetary policy committee, which also cut its growth forecast for the country’s economy this year from 2.5% to 2.2%. The bank cited slowing exports and domestic investment and volatility in financial markets related to the trade war between the U.S. and China and Japanese curbs on certain technology exports to South Korea.”

July 18 – Financial Times (Joseph Cotterill): “South Africa’s Reserve Bank cut rates by 25 bps to 6.5%, as it slashed its forecast for growth this year in Africa’s most industrialised nation. Lesetja Kganyago, the bank’s governor, said… that monetary policymakers had approved the cut in ‘a persistently uncertain environment’ for South Africa’s economy, which contracted sharply early this year. The bank cut the growth forecast to 0.6% this year, from 1% previously.”

July 19 – Financial Times (Adam Samson and Philip Georgiadis): “Investors are shifting towards the view that the European Central Bank could cut interest rates as soon as next week. A fresh blast of dovish noises from Federal Reserve officials on the other side of the Atlantic on Thursday rippled across into European money markets on Friday to generate a greater than even chance that the ECB will take the plunge at its impending rate-setting meeting. The probability of the ECB reducing its deposit rate from minus 0.4% — already a record low — to minus 0.5% crossed above the 50% threshold for the first time. It was around 25% a month ago, and less than 10% at the start of June…”

July 16 – Bloomberg (Alice Gledhill): “Europe’s bond investors are starting to ask whether the European Central Bank will pair a potential interest rate cut with unprecedented purchases of senior bank debt. Policy makers have previously shied away from buying unsecured bank bonds… Still, they may consider it at a policy meeting next week, particularly if they vote to further lower negative interest rates that have been squeezing lenders’ profits for years. ‘It would not be ideal of course, but the ECB has already been forced to venture into pretty controversial territory with quantitative easing,’ said Gilles Moec, group chief economist at Axa Investment Management… ‘Given what is left of the ECB’s arsenal, ideal options are not on the menu.’”

July 15 – Reuters (Swati Pandey): “Australia’s central bank would cut interest rates again ‘if needed’ to support employment, wages growth and inflation, having already eased twice since June to a record low of 1%. Minutes of the Reserve Bank of Australia’s (RBA) July policy meeting showed its board decided that cutting rates by another quarter-point, together with a similar move the previous month, would help speed up the economy.”

July 14 – Reuter (Leika Kihara, Howard Schneider, and Balazs Koranyi): “Japanese-style interest rate caps are drawing interest from global central bankers worried about a downturn, including U.S. Federal Reserve officials grappling with how to bolster their options as prospects for the global economy darken. A departure from the classic focus by central banks on short-term rates, the Bank of Japan’s ‘yield curve control’ initiative aims to anchor longer-term rates that often more directly influence consumer borrowing costs and spending. The BOJ has been receiving queries from several central banks, including the Fed, on how the unconventional program works, sources familiar with the matter said.”

Europe Watch:

July 15 – Reuters (Michael Nienaber): “The mood among German investors deteriorated more sharply than expected in July…, with the ZEW institute pointing to the unresolved trade dispute between China and the United States as well as political tensions with Iran. ZEW said its monthly survey showed economic sentiment among investors fell to -24.5 from -21.1 in June… A separate gauge measuring investors’ assessment of the economy’s current conditions plunged to -1.1, the lowest level since June 2010.”

Asia Watch:

July 16 – Bloomberg (Enda Curran): “Exports from India and Indonesia slumped more than economists forecast in June, cementing fears that nations beyond China and the U.S. are suffering from tariff battles. The fresh numbers followed China’s weak trade report... The bad news from Asia this week may not be over: Manufacturing hubs Singapore and Japan are also likely to report declines in exports. The data confirm what some economists have warned about for 18 months: The tariff-slapping pain will spread, leaving even countries with large populations like India and Indonesia at risk. With Asia accounting for more than 60% of world economic growth, there’s little doubt the global outlook is getting gloomier.”

July 18 – Reuters (Joori Roh): “As soon as supermarket manager Cho Min-hyuk got to work the day after Tokyo imposed curbs on exports to South Korea, he pulled all Japanese products off the shelves. It was Cho’s way of taking a stand against Japan in a quickly worsening political and economic dispute between the two east Asian neighbors. Such anger has prompted a widespread boycott of Japanese products and services, from beer to clothes and travel, disrupting businesses in what was already the worst economic climate for South Korea in a decade.”

Japan Watch:

July 16 – New York Times (Ben Dooley): “Last month, before an audience of world leaders, Prime Minister Shinzo Abe of Japan forcefully defended the global trade order that President Trump has so dramatically fractured. ‘A free and open economy,’ he told leaders of the Group of 20 nations…, ‘is the foundation of global peace and prosperity.’ Two days later, Mr. Abe became the latest world leader to strike a blow against free trade, when he moved to limit South Korea’s access to Japanese chemicals that are essential to its vast electronics industry, citing vague and unspecified concerns about national security. In doing so, Japan joined the United States, Russia and other countries that have used national security concerns as a justification for cutting off trade.”

July 18 – Reuters (Susan Heavey): “Japan’s core inflation slowed to its weakest in about two years in June, underlining policymakers’ long battle to boost consumer prices and adding to speculation the Bank of Japan could deliver more stimulus later this month… Japan’s core consumer price index, which includes oil products but excludes fresh food prices, rose 0.6% in June from a year earlier, matching economists’ median estimate.”

July 17 – Reuters (Tetsushi Kajimoto): “Japan’s exports fell yet again in June, while manufacturers’ confidence crumbled to a three-year low this month as a Sino-U.S. tariff row, slowing China growth and rising trade protectionism heaped pressure on the world’s third-biggest economy… Exports in June fell 6.7% from a year earlier, the seventh straight month of declines…, dragged down by slowing sales of tankers, China-bound car parts and steel pipes.”

EM Watch:

July 14 – Reuters (Neha Dasgupta): “One of India’s biggest housing finance companies, Dewan Housing Finance Corp Ltd (DHFL), warned on Saturday that its financial situation was so grim that it may not survive. The company said it was ‘undergoing substantial financial stress’ and its ability to raise funds was ‘substantially impaired and the business has been brought to a standstill with there being minimal/virtually no disbursements.’”

July 14 – Bloomberg (John Xavier): “Dewan Housing Finance Ltd. plunged after the Indian shadow lender posted a quarterly loss and flagged doubt about its ability to continue as a going concern amid a funding crunch in the country’s credit market. The stock slumped 29% to 48.5 rupees in Mumbai to the lowest close since October 2013… The embattled lender has seen its market value erode 81% this year… The… lender was among the worst hit in the wake of default by Infrastructure Leasing & Financial Services Ltd., which drove up financing costs and made it harder for non-bank financing companies to access funds.”

July 15 – Bloomberg (Rahul Satija): “Investors are fleeing from India’s debt funds at the fastest pace in a year as wariness mounts amid widening cracks in the nation’s credit market. Monthly net outflows from the fixed-income funds jumped to 1.7 trillion rupees ($25bn) in June, the most in at least a year, estimates provided by Morningstar Investment Adviser India show.”

July 15 – Bloomberg (Upmanyu Trivedi): “A group of lenders led by State Bank of India has filed a case in the nation’s Supreme Court seeking to annul a ruling that gives almost equal rights over the country’s largest distressed steel mill’s obligations to lenders and its 1,936 vendors. Earlier this month an Indian bankruptcy court, that allowed ArcelorMittal’s $6 billion purchase of Essar Steel India Ltd. said the money has to be shared proportionately among all creditors… The decision to place secured creditors like banks at par with unsecured ones such as vendors to the insolvent company, would lead to a ‘severe plunge’ in the rate of recoveries and expose the banks to ‘grave financial distress,’ the creditors said…”

July 14 – Reuters (Humeyra Pamuk): “President Tayyip Erdogan said Turkey will make serious cuts to interest rates, broadcaster Haberturk reported…, a week after he replaced the governor of the central bank. Erdogan said Turkey aimed to reduce inflation from more than 15% to single digits by the end of the year and also had a target for interest rates over the same time period, Haberturk said.”

July 15 – Bloomberg (Ercan Ersoy and Fercan Yalinkilic): “Turkey’s opposition twice took on President Recep Tayyip Erdogan’s political machine in Istanbul and won. Dismantling what it calls a legacy of waste and runaway debt in the country’s biggest city might prove a bigger challenge. An internal audit found that the municipality’s unconsolidated debt more than tripled since 2014, with new Mayor Ekrem Imamoglu expecting its outstanding liabilities to grow another 30% this year to as much as 35 billion liras ($6.1bn). Given the wild swings in the lira, another vulnerability is the city’s unhedged foreign debt, which accounts for 84% of the total, according to Fitch…”

July 19 – Bloomberg (Cagan Koc): “Fitch Ratings has downgraded the Long-Term Foreign Currency Issuer Default Ratings, or LTFC IDRs, of 12 foreign-owned Turkish banks and their subsidiaries, and two state-owned development banks. The rating actions follow the downgrade of Turkey’s sovereign rating on 12 July 2019…”

July 17 – Bloomberg (Denise Wee): “The wild ride in an Indonesia textile maker’s dollar bonds is putting a spotlight on the risks that Asia junk bond buyers are taking. Four months after a subsidiary of Indonesia’s Duniatex Group sold a $300 million bond, attracting over $1 billion of orders, that bond has plummeted, losing nearly 67 cents on the dollar this week. The stunning fall, prompted by a missed loan payment by another group subsidiary, has shocked bond investors. The Indonesian firm’s slump also highlights risks that investors face as they buy into the region’s junk bond market, which has returned 11% so far this year…”

July 19 – Bloomberg (David Herbling and Dandan Li): “Gleaming concrete sleepers run across a new railway bridge in Kenya, the latest stretch of a Chinese-built line from the coast all the way to Uganda. Only, it doesn’t quite reach the border. Instead, the railroad ends abruptly by a sleepy village about 75 miles west of the Kenyan capital, Nairobi, the tracks laid but unused. Construction of what was intended to be a flagship infrastructure project for Eastern Africa was halted earlier this year after China withheld some $4.9 billion in funding needed to allow the line’s completion. Beijing’s sudden financial reticence appeared to catch the governments of Kenya and Uganda off guard…”

July 17 – Bloomberg (Mihir Sharma): “China isn’t just the world’s largest exporter of goods: It’s now the world’s largest exporter of capital, too. Of course, these two facts are linked. China earns so much from being the world’s factory, and the spending of its households is so constrained, that it needs to find somewhere to park the difference. That’s the basic imbalance underlying the Belt and Road Initiative, China’s big push into the developing world. Many analysts -- including senior U.S. officials -- have long worried about the terms on which China parts with slivers of its giant pile of capital. Unlike traditional development finance, Chinese loans -- especially for building infrastructure -- carry fairly high rates of interest, and the assets they build often don’t earn enough to pay them back. It’s fair to worry that some countries could end up mired in debt, borrowing more from the Chinese than they can possibly repay.”

Global Bubble Watch:

July 14 – Bloomberg (Enda Curran): “Central bankers readying to fight another economic downturn are tossing hand grenades rather than firing bazookas. Federal Reserve Chairman Jerome Powell and European Central Bank President Mario Draghi stand ready alongside many of their counterparts to cut interest rates to bolster the weakest growth in a decade and lackluster inflation. Yet they have little to work with and, perhaps more worryingly, what they do have lacks potency. Expansions and price growth are flagging despite the easy money already sloshing around and further stimulus may do little to offset the trade war. Structural obstacles such as rising debt burdens, digital disruption and aging populations also work against looser monetary policy. ‘There are limits on what further monetary easing can achieve,’ Reserve Bank of Australia Governor Philip Lowe said… ‘You still get benefit from it, but there are limits.’

July 14 – Bloomberg (Enda Curran): “A full-blown currency war where major central banks and governments, including the U.S., deliberately weaken their currencies can no longer be ruled out, Pacific Investment Management Co.’s global economic adviser Joachim Fels wrote… The view is in line with a rising chorus of Wall Street analysts who warn that President Donald Trump’s repeated complaints about the foreign exchange practices of key trading partners heightens the risk of U.S. intervention to weaken the dollar. Fels describes current conditions as a ‘cold currency war, round three’ that is at risk of escalating.”

July 15 – Bloomberg (Alice Gledhill): “Syndicated euro debt sales by Italian and Greek lenders have surged 72% YTD to EU18.4b, as the banks seize on investor appetite for higher-yielding assets. Borrowers like Italy’s FinecoBank and National Bank of Greece have issued riskier, lower-ranked types of debt including contingent convertible (CoCo) notes.”

Fixed-Income Bubble Watch:

July 16 – Bloomberg (Katherine Doherty and Lisa Lee): “Operating out of a Chicago suburb, in a low-slung, red-brick building wedged between a Hyatt and a Radisson, Clover Technologies is in the mundane business of recycling everything from inkjet cartridges to mobile phones. But in the past week it abruptly -- and alarmingly -- caught the attention of Wall Street. Almost overnight, a $693 million loan Clover took to the market five years ago lost about a third of its value. The startling nosedive stung even sophisticated investors, people who deal in the arcane business of trading corporate loans. Clover’s loan isn’t especially large by Wall Street standards, yet its stark and swift decline set off fresh alarm bells -- bells that regulators have been sounding for months.”

July 16 – Financial Times (Joe Rennison): “The debt of beauty company Anastasia Beverly Hills has been downgraded by Fitch Ratings, in a sign of blemishes appearing in the $1.2tn leveraged loan market. The rating agency said disappointing revenues and declining sales raised concerns about the company’s growth potential, as it lowered its rating of ABH’s debt from double-B plus — the top rung of the high-yield universe — to single-B plus.”

July 17 – Bloomberg (Adam Tempkin): “A real estate financing tool revived from the pre-crisis era is growing riskier. Real estate investors are bundling increasingly speculative short-term commercial property mortgages into bonds known as collateralized loan obligations. The properties packaged into these deals don’t qualify for more traditional forms of financing, such as being included in commercial mortgage-backed securities, because they are being refurbished or are otherwise in a state of transition. An example may include an empty office tower undergoing renovations and waiting for new tenants.”

July 19 – Bloomberg (Allison McNeely and Katherine Doherty): “The hardest part of being a distressed debt investor now may be finding something to do. Funds that bet on troubled companies -- those struggling to pay their debt or already in bankruptcy -- have spent years preparing for a creditpocalypse, and have got about $80 billion of cash left to invest, according to Preqin and Bloomberg Intelligence. That’s almost enough to buy the entire distressed U.S. market at face value now. But they have few places to put it to work: While cracks are starting to appear in the U.S. economy, interest rates are low, leaving most corporations in decent shape.”

Geopolitical Watch:

July 17 – Reuters (Babak Dehghanpisheh and Phil Stewart): “The increased use of drones by Iran and its allies for surveillance and attacks across the Middle East is raising alarms in Washington. The United States believes that Iran-linked militia in Iraq have recently increased their surveillance of American troops and bases in the country by using off-the-shelf, commercially available drones, U.S. officials say.”

July 14 – Associated Press: “Taiwan… defended a proposal to purchase $2.2 billion in arms from the U.S., following a Chinese announcement that it would sanction any American companies involved in the deal. U.S. weapons help strengthen Taiwan’s self-defense in the face of a growing military threat from China, the defense ministry said. ‘The national army will continue to strengthen its key defense forces, ensure national security, protect its homeland and ensure that the fruits of freedom and democracy won’t be attacked,’ the ministry said…”

July 14 – Reuters (Laurie Chen): “Air and naval forces from the People’s Liberation Army will conduct routine drills close to the Taiwan Strait in the coming days, Beijing said…, less than a week after Washington approved the sale of US$2.2 billion worth of military equipment to Taipei.”

July 18 – Financial Times (Laura Pitel and Henry Foy): “As he hailed the arrival of the first shipments of a Russian S-400 air defence system in Ankara, Turkey’s president Recep Tayyip Erdogan described the purchase from Moscow as the ‘most significant agreement in our history’. The audacity of the deal — a vital Nato member buying defence equipment from an adversary of the west — cemented a dramatic turnround from just over three years earlier, when Turkey’s relationship with Russia was in meltdown after the Turkish air force shot down a Russian fighter jet… The change is explained partly by the emergence of a personal bond between the two countries’ presidents, but equally significant have been growing strains between Ankara and Washington.”

July 16 – Financial Times (John Reed and Kathrin Hille): “At least seven Chinese and Vietnamese ships have been engaged in a stand-off in a resource-rich part of the South China Sea since early July, in an impasse that maritime analysts say could ignite into a dangerous confrontation. The Haiyang Dizhi 8, a Chinese geological survey vessel, arrived in an area less than 200 nautical miles off Vietnam’s coast on July 3…”

Friday Afternoon Links

[Reuters] Wall Street falls as expectations for hefty Fed cut trimmed

[Reuters] Iran says it captured British oil tanker; oil prices jump

[CNBC] Trump wades into debate over controversial Fed speech Thursday, calls for end to tight policy

[Reuters] Fed's Bullard says rate cut would 'ratify' expectations

[Reuters] Will ECB walk or just talk as rate circus comes to Europe?

[Reuters] BlackRock CEO Larry Fink says ECB must buy equities to stimulate euro zone

[Reuters] UK urgently seeking information after reports of seized tanker in Gulf