Friday, October 16, 2020

Weekly Commentary: Moral Hazard Pinnacle

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German 10-year bund yields dropped 10 bps this week to negative 0.62%, the low since March. French yields fell eight bps to negative 0.35%, only four bps from March panic lows. Italian and Greek yields ended the week at record lows 0.65% and 0.78%. Spanish yields closed Friday at a record low 0.12% and Portuguese yields at an all-time low 0.11%. European bond prices have an unmistakable correlation to European COVID infections.

European new daily COVID cases have spiked to 120,000, about triple the level from a month earlier. Infections in France surged to a daily record 30,000, with Paris and other cities now under restrictions. Cases have spiked in Spain, the Netherlands, Italy, Germany, Belgium, Greece, the UK and elsewhere. UK Prime Minister Boris Johnson has faced intense backlash for imposing regional “circuit breakers” with potential lockdowns. A Friday Bloomberg headline: “Europe is Losing Fight to Stay Open on Record Virus Surge.” From CNBC: “Europe’s ICU beds are nearing capacity in some areas, WHO says.”

Here in the U.S., the seven-day average for new daily cases is nearing 65,000, up 25% in just two weeks. In a troubling development, new infections are increasingly dispersed across the country with rural areas leading the rise. On Thursday, 39 states were reporting average new daily cases at least 5% above last week’s level. The Worldometer's 24-hour tally had Friday global infections at a record 412,000, with the U.S. surpassing 71,000.

From the NYT: “As the coronavirus caseload in the United States soars past eight million, epidemiologists warn that nearly half of the states are seeing surges unlike anything they experienced earlier in the pandemic… Uncontrolled outbreaks in the Midwest and Mountain West are driving the surge... Some of the states with the most extreme growth had relatively few cases until recently, and rural hospitals have been strained. Per capita, North Dakota and South Dakota are adding more new cases than any states have since the start of the pandemic. Wisconsin… has seven of the 10 metropolitan areas in the United States with the highest rates of recent cases. ‘What’s happening in the Upper Midwest is just a harbinger of things to come in the rest of the country,’ said Michael Osterholm, an infectious-diseases expert at the University of Minnesota.”

We’re all sick and tired of the pandemic. If the virus had awareness, it would surely be reveling in its success at wearing down opponents. Besides, we’re in the throes of an election ostensibly as historic as COVID-19. And, heck, with a manic marketplace - and stocks near all-time highs - how poor could prospects be?

It all makes it so easy to forget about March. Governments have learned their lesson: There will be no more general lockdowns. And we are to believe central bankers have learned lessons as well.

The Fed’s Vice Chairman for Supervision – “The Federal Reserve’s point man on financial regulation” – raised some eyebrows Wednesday. At an event sponsored by the Institute of International Finance, Randal Quarles offered an admission: “It may be that there is a simple macro fact that the Treasury market, being so much larger than it was even a few years ago, much larger than it was a decade ago, and now really much larger than it was even a few years ago, that the sheer volume there may have outpaced the ability of the private-market infrastructure to kind of support stress of any sort there. …Will there be some indefinite need for the Fed to provide — not as a way of supporting the issuance of Treasuries, but as a way of supporting a functioning market in Treasuries — to participate as a purchaser for some period of time.

Here are the numbers: The fiscal year ended in September with the federal deficit reaching $3.1 TN, or 15% of GDP. Outstanding Treasury Securities jumped $2.852 TN during the second quarter to $22.371 TN and were up $4.556 TN, or 25.6%, over the past year. After ending 2007 at about $6.0 TN, outstanding Treasury Securities increased $16.3 TN, or 270%. Treasuries ended June at 115% of GDP. This was up from 69% at the end of 2010 and 44% to conclude the nineties.

Mr. Quarles was simply stating what markets already knew. “You break it, you own it.” For too long, the Fed has accommodated unbridled Treasury issuance. And especially with the Powell Fed openly calling for additional massive fiscal stimulus, it’s difficult today to see the Treasury market ever operating adequately without resolute Fed support. Call it what it is: The ballooning Treasury market is “too big to fail” – right along with markets for equities and corporate debt. The ETF complex has become “too big to fail” – a fate money market funds and the “repo” market succumbed to years ago. First illuminated as “too big to fail” during the 1998 Russia/LTCM collapse, derivatives markets have become too big for even middling instability.

March’s financial meltdown confirmed what I already knew. The Fed’s response to the “great financial crisis” has been an abject failure. An even somewhat reasonably sound system would not have required a $3 TN bailout – three times the size of 2008’s QE operation.

The strategy of ensuring the banking system remains well capitalized – while letting market-based finance run wild – may have plausible theoretical underpinnings. Yet it wantonly disregards the core shortcomings of contemporary finance. The Fed’s post-2008 crisis assessment essentially came to a conclusion: had bank loan officers only lent responsibly, then risk intermediation, speculation and leverage would not have evolved into systemic issues. In reality, Bubbles in risk intermediation and leveraged speculation were the cart pulling the horse – the force spurring the increasingly reckless lending boom.

I appreciate vice chair Quarles’ Wednesday speech, “What Happened? What Have We Learned From It? Lessons from COVID-19 Stress on the Financial System.” While his Treasury market comment garnered media interest, he provided insightful analysis outlining the systemic nature of March’s market dislocation. Moreover, it supports my thesis that the entire system (at home and abroad) has inflated into one colossal “too big to fail” quagmire. What the Fed today views as policies supporting financial stability are in truth measures sustaining historic Bubble excess.

From Quarles: “Some of the most severe strains emerged in short-term funding markets and among institutions engaged in liquidity transformation… First, we saw a pullback from commercial paper, or CP, markets… At the same time, some prime and tax-exempt money market funds experienced large redemptions, forcing these funds to sell assets. In addition, we saw large outflows at corporate bond funds and exchange traded funds. Corporate bond funds promise daily liquidity, but the underlying assets often take a longer time to sell. This creates conditions that can lead to runs on these funds in times of stress. Indeed, each of these three developments - the pullback from CP and the elevated redemptions at prime money funds and at corporate bond funds-can be viewed as a kind of run by investors. A run occurs when investors concerned about potential losses clamber to withdraw funds or sell their positions before other investors do.”

A fourth area of strain was in the Treasury market-one of the largest and deepest financial markets in the world. Treasury securities play a central role in short-term funding markets, such as the repo market… Significant amounts of Treasuries are held by institutions that use short-term funding, like broker-dealers and money market funds. And, the structure of the Treasury market has evolved substantially in recent years, with the growth of high-speed and algorithmic trading, and a growing share of liquidity provided by new entrants alongside established broker-dealers… Treasury market conditions deteriorated rapidly in the second week of March… Foreign official and private investors, certain hedge funds, and other levered investors were among the big sellers.

First, in March, many businesses-unable to satisfy their large cash demand through CP or corporate bond issuance… drew down on their existing credit lines with banks in order to raise cash. As a result, commercial and industrial (C&I) loans in the banking system increased by nearly $480 billion in March-by far the largest monthly increase ever.

While the continued ability of banks to lend to creditworthy borrowers has been good news, a lot of credit in the United States is provided by nonbank financial institutions and markets. Indeed, almost two-thirds of business and household debt in the United States is held by nonbanks…

In light of these unusual and exigent circumstances, the Federal Reserve took a series of emergency actions to support liquidity in markets and the flow of credit to households, businesses, and communities… Interestingly, in many cases our facilities had their effect less by actually providing liquidity or credit, than by providing a backstop. The ‘announcement effect’ of the Fed's willingness to step in returned confidence to market participants and function to markets, without the facilities themselves seeing large amounts of use.”

Looking back at these events since the COVID event, what have we learned about the U.S. financial system? One lesson is that several short-term funding markets proved fragile and needed support -- the commercial paper market and prime and tax-exempt money market funds, as key examples. The runs on prime money funds and commercial paper were particularly disappointing, since in many ways they resembled runs that we saw in these markets during the GFC.”

A second lesson we learned last spring is that the Treasury market is not immune to the problems of short-term and dollar funding markets… In addition, we have to ask: What can be done to improve Treasury market functioning over the longer term so that this market can withstand a large shock to demand or supply? I will simply raise that question, but not attempt to answer it here.

“Almost all of these measures were targeted towards financial markets, nonbank financial institutions, and the real economy. Moreover, the unprecedented and in many ways unimaginable nature of the shock posed by the COVID event made it appropriate to take these steps when we did, to backstop the functioning of markets essential to the financial system. Their creation was an unmistakable signal to market participants of the capability and willingness of the Fed to restore market functioning, and the fact that this functioning was restored so quickly, with relatively little borrowing, shows this message was received, and believed. The system worked.”

“Vulnerabilities associated with short-term funding have always been at the heart of financial crises and central banks' efforts to promote financial stability. Such vulnerabilities led to Walter Bagehot's 19th century dictum that central banks need to stand ready to lend freely against good collateral during periods of financial strain.”

Noland: Let there be no doubt, Walter Bagehot would be absolutely aghast at the current state of central banking. From the New York Fed’s website (excerpted from a 2013 speech by Thomas C. Baxter):

“Bagehot’s central theme was about liquidity, and how the central bank must inject it during times of financial panic… Bagehot urges the central bank to lend freely into a panic, and to do so ‘at a very high rate of interest.’ He explains that the reason to charge a penalty rate is to use price as a self-limiting mechanism. In Bagehot’s words, a penalty rate mitigates moral hazard and ‘will prevent the greatest number of applications by persons who do not require [a loan from the central bank].’ Bagehot also urged another core principle for central bank liquidity. He believed that central bank lending should be secured by good collateral.”

The “penalty rate” issue is key to mitigating Moral Hazard. Yet markets knew funding rates would be slashed to zero, while the Fed would bypass “lending” and simply inject massive liquidity directly into faltering markets. And from the March experience, markets now fully comprehend that “whatever it takes” includes Trillions of free “money.” Instead of lending against good collateral, the Fed will now aggressively purchase Treasuries, MBS, corporate bonds and corporate ETFs – backstopping market liquidity and prices.

And from the Fed’s September 2019 policy pivot, markets appreciate any incipient risk of funding crisis will see the Fed administer aggressive monetary stimulus. Bagehot would have never imagined – let alone condoned - such a policy course. Fed policy has reached the Pinnacle for Promoting Moral Hazard.

One of Quarles’ “lessons” is so fundamental it is deserving of further discussion: “Several short-term funding markets proved fragile and needed support.” “Vulnerabilities associated with short-term funding have always been at the heart of financial crises and central banks' efforts to promote financial stability.”

My retort: Markets in perceived “money” and money-like instruments are invariably at the heart of financial panics. That’s where risk intermediation tends to be the most impactful. Indeed, markets operating under a prevailing perception of liquidity and safety (store of nominal value) are inherently susceptible to an abrupt change of perceptions and resulting “run.” “This secure ‘repo’ money market instrument backed by Treasury collateral is absolutely safe and liquid.’ “Holy crap, my ‘repo’ with Lehman Brothers is in major jeopardy and I gotta get out of it (and others similar)!”

Pondering the momentous ramifications of the Bernanke doctrine, over a decade ago I warned of an unfolding “global government finance Bubble.” I introduced the concept “moneyness of risk assets.”

On the one hand, this Bubble has gone to the very foundation of “money,” with the egregious expansion of central bank credit and sovereign debt. Moreover, central bank stimulus, market backstops, and massive fiscal spending have worked to confer “money-like” attributes upon an ever-broadening array of risk assets. In particular, Wall Street alchemy (risk intermediation) has come to include the transformation of risky stocks and corporate debt into perceived safe and liquid ETF shares. Moreover, Fed measures continue to promote the ever-enlarging derivatives universe that operates on the specious premise of liquid and continuous markets.

It's as if policymakers go out of their way not to learn lessons. Mr. Quarles outlines key factors in a crisis that nearly spun out of control. He pinpoints areas of fragility, yet his speech is bereft of prescriptions or solutions. This financial system is what it is. “The system worked,” he said. Three Trillion worked to further inflate history’s greatest Bubble.

September Chinese Credit was out this week. Aggregate Financing, China’s metric for system Credit growth, expanded $517 billion (3,480 renminbi) during the month to a record $41.6 TN. This was about 10% ahead of forecasts, and the strongest growth since March’s $770 billion. August and September combined for a snappy $1.05 TN two-month expansion. The $4.402 TN y-t-d growth was 44% and 64% ahead of comparable 2019 and 2018. At 13.5%, year-over-year growth in Aggregate Financing was the strongest since 2017 – a notable feat in the face of economic stagnation.

Total Bank Loans rose $281 billion in September, up from August’s $189 billion and about 10% ahead of forecasts. Year-to-date growth of $2.409 TN (13% annualized) is running 19.3% ahead of comparable 2019 growth. Consumer Loans jumped $143 billion in September. Year-to-date growth of $909 billion is 7.7% ahead of comparable 2019. Consumer Loans were up 14.7% y-o-y, 33% over two years, 57% over three, and 135% over five years. Corporate Loans rose $140 billion, up from August’s $86 billion and the strongest expansion since April. At $1.569 TN, year-to-date growth in Corporate Loans is running 29% ahead of comparable 2019 and 49% ahead of comparable 2018.

Government Bonds increased $150 billion during September, down from August $205 billion but up significantly from the year ago $56 billion. Year-to-date growth of $1.0 TN was 69% ahead of comparable 2019. Government Bonds expanded 20% over the past year to $6.6 TN.

China M2 “money” supply surged $405 billion during September, the strongest expansion since June. This put year-to-date growth at $2.639 TN, or 18% annualized, to a record $32.156 TN. M2 inflated $3.148 TN over the past year (10.9%). Amazing.

For the Week:

The S&P500 increased 0.2% (up 7.8% y-t-d), and the Dow added 0.1% (up 0.2%). The Utilities gained 0.8% (up 1.4%). The Banks fell 1.9% (down 31.1%), while the Broker/Dealers jumped 2.9% (up 5.1%). The Transports slipped 0.2% (up 8.6%). The S&P 400 Midcaps were unchanged (down 3.2%), while the small cap Russell 2000 dipped 0.2% (down 2.1%). The Nasdaq100 advanced 1.1% (up 35.7%). The Semiconductors were little changed (up 29.7%). The Biotechs dropped 1.9% (up 8.2%). With bullion down $31, the HUI gold index fell 2.0% (up 37.8%).

Three-month Treasury bill rates ended the week at 0.0875%. Two-year government yields slipped a basis point to 0.15% (down 142bps y-t-d). Five-year T-note yields declined two bps to 0.32% (down 137bps). Ten-year Treasury yields dipped three bps to 0.75% (down 117bps). Long bond yields declined four bps to 1.53% (down 86bps). Benchmark Fannie Mae MBS yields fell five bps to 1.36% (down 135bps).

Greek 10-year yields fell eight bps to 0.78% (down 65bps y-t-d). Ten-year Portuguese yields dropped seven bps to 0.11% (down 33bps). Italian 10-year yields fell seven bps to 0.65% (down 76bps). Spain's 10-year yields declined five bps to 0.12% (down 34bps). German bund yields sank 10 bps to negative 0.62% (down 44bps). French yields dropped eight bps to negative 0.35% (down 56bps). The French to German 10-year bond spread widened two to 27 bps. U.K. 10-year gilt yields fell 10 bps to 0.18% (down 64bps). U.K.'s FTSE equities index fell 1.6% (down 21.5%).

Japan's Nikkei Equities Index declined 0.9% (down 1.0% y-t-d). Japanese 10-year "JGB" yields declined a basis point to 0.02% (up 3bps y-t-d). France's CAC40 slipped 0.2% (down 17.4%). The German DAX equities index dropped 1.1% (down 2.6%). Spain's IBEX 35 equities index fell 1.5% (down 28.3%). Italy's FTSE MIB index declined 1.0% (down 17.5%). EM equities were mixed. Brazil's Bovespa index gained 0.8% (down 15.0%), while Mexico's Bolsa lost 1.6% (down 13.0%). South Korea's Kospi index dropped 2.1% (up 6.5%). India's Sensex equities index fell 1.3% (down 3.1%). China's Shanghai Exchange rose 2.0% (up 9.4%). Turkey's Borsa Istanbul National 100 index jumped 2.3% (up 4.2%). Russia's MICEX equities index declined 1.2% (down 8.1%).

Investment-grade bond funds saw inflows of $6.426 billion, and junk bond funds posted positive flows of $2.204 billion (from Lipper).

Freddie Mac 30-year fixed mortgage rates dropped six bps to a record low 2.81% (down 88bps y-o-y). Fifteen-year rates declined two bps to 2.35% (down 80bps). Five-year hybrid ARM rates added a basis point to 2.90% (down 45bps). Bankrate's survey of jumbo mortgage borrowing costs had 30-year fixed rates down two bps to 3.06% (down 106bps).

Federal Reserve Credit last week rose $25.6bn to $7.045 TN. Over the past year, Fed Credit expanded $3.136 TN, or 80%. Fed Credit inflated $4.235 Trillion, or 151%, over the past 414 weeks. Elsewhere, Fed holdings for foreign owners of Treasury, Agency Debt last week were little changed at $3.411 TN. "Custody holdings" were down $1.4bn, or 0.1%, y-o-y.

M2 (narrow) "money" supply jumped $47.2bn last week to $18.699 TN, with an unprecedented 32-week gain of $3.192 TN. "Narrow money" surged $3.559 TN, or 23.5%, over the past year. For the week, Currency increased $2.3bn. Total Checkable Deposits added $4.7bn, and Savings Deposits rose $49.1bn. Small Time Deposits fell $8.5bn. Retail Money Funds were little changed.

Total money market fund assets declined $19.1bn to $4.363 TN. Total money funds surged $895 y-o-y, or 25.8%.

Total Commercial Paper slipped $1.9bn to $962bn. CP was down $117bn, or 10.8% year-over-year.

Currency Watch:

October 12 – CNBC (Elliot Smith): “Goldman Sachs has recommended short positions against the U.S. dollar, arguing that the risks arising from vaccine trials and the U.S. election are skewed to the downside for the greenback. In a note…, Goldman analysts said they saw ‘low odds’ for the most dollar-positive outcome by the end of the year. They named this as an electoral victory for President Donald Trump, combined with a meaningful delay to vaccine progress.”

October 12 – Bloomberg: “The offshore yuan tumbled the most in almost seven months after China’s central bank took steps to restrain the currency’s rally. The exchange rate slumped as much as 1.03% against the dollar… on Monday… The drop may mark the start of a period of consolidation after recent gains, strategists said. The People’s Bank of China on Saturday scrapped a two-year rule that made it expensive to bet against the yuan after the currency surged to its highest in 18 months.”

October 13 – Reuters (Saikat Chatterjee): “The performance gap between emerging market currencies and their developed peers has blown out to its widest level in more than a decade as falling interest rates, an uncertain economic outlook and sizeable outflows curb investor appetite. A group of 10 major emerging currencies - including the Chinese yuan, the Brazilian real and the Turkish lira - have underperformed developed market currencies by nearly 14% this year, according to Nordea Research.”

For the week, the U.S. dollar index increased 0.7% to 93.722 (down 2.9% y-t-d). For the week on the upside, the South Korean won increased 0.5% and the Japanese yen added 0.2%. For the week on the downside, the Norwegian krone declined 2.6%, the Australian dollar 2.2%, the Brazilian real 2.0%, the New Zealand dollar 1.0%, the British pound 0.9%, the euro 0.9%, the Swedish krona 0.8%, the South African rand 0.6%, the Canadian dollar 0.5%, the Swiss franc 0.5% and the Singapore dollar 0.3%. The Chinese renminbi slipped 0.04% versus the dollar this week (up 3.97% y-t-d).

Commodities Watch:

October 13 – Bloomberg (Isis Almeida and Dan Murtaugh): “Agricultural commodity buyers from Cairo to Islamabad have been on a shopping spree since the Covid-19 pandemic upended supply chains. Jordan has built up record wheat reserves while Egypt, the world’s top buyer of the grain, took the unusual step of tapping international markets during its local harvest and has boosted purchases by more than 50% since April. Taiwan said it will boost strategic food stockpiles and China has been buying to feed its growing hog herd. The early purchases underscore how nations are trying to protect themselves on concerns the coronavirus will disrupt port operations and wreak havoc on global trade. The pandemic has already upset domestic farm-to-fork supply chains that provided just enough inventory to meet demand, with empty store shelves across the world leading consumers to change their shopping habits.”

The Bloomberg Commodities Index increased 0.2% (down 9.3% y-t-d). Spot Gold fell 1.6% to $1,899 (up 25.1%). Silver dropped 2.8% to $24.405 (up 36.2%). WTI crude added 28 cents to $40.88 (down 33%). Gasoline fell 2.9% (down 31%), while Natural Gas gained 1.2% (up 27%). Copper declined 0.5% (up 10%). Wheat surged 5.3% (up 12%). Corn rose 1.8% (up 4%).

Coronavirus Watch:

October 13 – Reuters: “Johnson & Johnson said… it would take a few days at least to hear from a safety monitoring panel about its review of the company’s late-stage COVID-19 vaccine trial after announcing that the large study had been paused due to an unexplained illness in one participant.”

October 13 – Bloomberg (Riley Griffin and Michelle Fay Cortez): “The sprint to find medical breakthroughs to contain Covid-19 stumbled this week, as a pair of pharmaceutical giants working to develop treatments and vaccines suffered setbacks in the clinic. On Tuesday, Eli Lilly & Co. said that enrollment in a government-sponsored clinical trial of its antibody therapy had been paused out of safety concerns. That came less than 24 hours after Johnson & Johnson said research on its experimental vaccine was paused after a study volunteer fell ill. The developments are likely to heighten worry that the pursuit of products to prevent and treat infections is moving too quickly. Regulators and drugmakers have faced questions about whether political pressure was overwhelming scientific rigor ahead of the presidential election…”

October 13 – Financial Times (Chris Giles): “The coronavirus crisis will wreak ‘lasting damage’ on people’s living standards across the world and taxes on the rich and on companies may have to rise to address this economic harm, the IMF has warned. The pandemic will leave significant scars on the global economy in the form of job losses and bankruptcies and whole sectors of the economy will be left unviable, according to the fund’s first medium-term forecasts… This damage will persist because the adjustment from struggling sectors such as travel to expanding ones such as digital technology will inevitably be slow and painful for many people, the IMF said…”

October 15 – Wall Street Journal (Melissa Korn): “Undergraduate enrollment tumbled this fall at many colleges and universities around the country, dragged down by a sharp drop in first-year students whose school plans were upended by the coronavirus pandemic. Overall, undergraduate populations shrank by 4%, and first-year student counts fell by 16.1%, according to… the National Student Clearinghouse Research Center. Graduate enrollment increased by 2.7%.”

October 14 – Reuters (Benoit Van Overstraeten and Jan Lopatka): “France imposed curfews while other European nations are closing schools, cancelling surgeries and enlisting student medics as overwhelmed authorities face the nightmare scenario of a COVID-19 resurgence at the onset of winter. With new cases hitting about 100,000 daily, Europe has by a wide margin overtaken the United States, where more than 51,000 COVID-19 infections are reported on average every day.”

October 15 – Financial Times: “Countries across Europe are reimposing painful restrictions on public life as a surge in coronavirus infections heightens fears the pandemic is tightening its grip, bringing another public health emergency closer just as winter approaches. In Germany, the Czech Republic and Poland, infections hit record daily highs on Thursday while France imposed evening curfews on its biggest cities and Londoners faced new limits on socialising indoors. The resurgence of the virus is a huge setback for a continent that had largely succeeded in bringing infection rates down to manageable levels over the summer, after implementing tough lockdowns.”

October 14 – Financial Times (Valentina Romei and John Burn-Murdoch): “The few people on the streets of the City of London or lower Manhattan have got used to a familiar sight in recent months: empty shops, boarded up storefronts and cafés struggling for survival in once bustling financial districts. Their eyes do not lie — city centres have become ghost towns. According to FT research…, London and New York have seen a dramatic drop in visits to restaurants and retail venues since the start of the pandemic. Few cities have escaped the impact. Visits to central Paris were down 40% in the week to October 9 compared with the pre-pandemic average in January, and even Stockholm, which has had much lighter restrictions, has suffered a decline of 20%. But it is cities like New York and London, where high-rise office buildings host a large number of professional services and banking staff now mostly working from home, which have suffered the most.”

October 13 – Financial Times (Clive Cookson): “The first confirmed case of Covid-19 reinfection in the US has added to doubts about ‘herd immunity’ from the virus and worried experts because the patient became more seriously ill following the second infection. A Nevada man tested positive for Sars-Cov-2… after developing moderate symptoms in April. He then suffered more severely two and a half months later, requiring emergency oxygen therapy. University of Nevada scientists who examined the 25-year-old over the period found many more differences in the two genetic fingerprints than could be explained by mutations during one long illness…”

Market Instability Watch:

October 15 – Bloomberg (Alberto Gallo): “In Lewis Carroll’s classic children’s book, Alice’s Adventures in Wonderland & Through the Looking-Glass, Alice says, ‘If I had a world of my own, everything would be nonsense. Nothing would be what it is because everything would be what it isn’t.’ For financial market participants, that world Alice envisioned has become a reality. After almost two decades of quantitative easing by the world’s major central banks, investors find themselves deep down the rabbit hole. The more than $16 trillion of bond and stock purchases by central banks since the financial crisis alone has artificially boosted asset prices. Although these purchases bolstered confidence in the financial system, they failed to achieve their primary goal, which was to spark faster inflation. Another important thing has happened, and that is haven-like assets are no longer much of a haven. We have witnessed some rather unprecedented market moves in recent months, with government bonds falling along with equities with increasing regularity.”

October 12 – Bloomberg (Claire Ballentine and Casey Wagner): “Things were looking pretty bleak back in March for bond exchange-traded funds. The Covid-19 selloff created a liquidity crunch that drove their prices to trade at deep discounts to the value of the underlying assets. Skeptics questioned whether these products could ever be trusted again. Then the Federal Reserve stepped in. On March 23, it announced that that it would begin buying corporate debt ETFs. This ignited a wave of front-running investments and served as a stamp of approval for the market sector. A thank-you note to Jerome Powell may be in order. Flows into U.S. fixed-income products this year have surpassed the total for all of last year… And investors are increasingly using corporate bond ETFs to bet on an economic recovery and hedge against what could be a volatile post-election season… So far this year, inflows to bond funds total $166 billion, compared with $154 billion in all of 2019…”

October 12 – Financial Times (Chris Flood): “Net flows into exchange traded funds have jumped 40% so far this year with the growing shift into low-cost index tracking vehicles forcing the pace of consolidation across the asset management industry to accelerate markedly… Investors have ploughed $488.2bn into ETFs (funds and products) in the first nine months of the year compared with $349bn in the same period in 2019, according to ETFGI… Vanguard registered net ETF inflows of $134.3bn in the first nine months of 2020, up 73% on the same period last year and already surpassing the $119.3bn it gathered over the whole of 2019.”

October 14 – Bloomberg (Katherine Greifeld): “Plenty on Wall Street fear the explosive growth of passive investing will eventually store up trouble for bond portfolios. An academic from the Swiss Finance Institute has found evidence it has already begun. After dissecting more than 10,000 corporate bonds, Efe Cotelioglu found that high-grade securities share similar liquidity characteristics when they are heavily owned by exchange-traded funds. That means in any market shock, fleeing investors could face the same difficulties exiting positions across all of them. ‘Higher ETF ownership of investment-grade corporate bonds can reduce the ability of investors to diversify liquidity risk,’ Cotelioglu… wrote in a paper.”

October 12 – Financial Times (Eric Platt and Richard Henderson): “A wave of equity derivatives trading in Apple and other large tech companies helped push US stocks higher on Monday in a move analysts said recalled the frenzied market conditions of late summer. Nearly 4m options contracts tied to the iPhone maker were purchased on Monday, the second-highest level of the year… The purchases were concentrated in calls, which offer investors the chance to benefit from a rally in Apple shares. Banks that sold call options were forced to hedge the trades by buying Apple shares, which helped send both the company’s stock and the overall market higher… ‘The amount of activity was nuts,’ he said. ‘Much of the US public and all of the Canadian public have the day off of work today and a certain amount of them said, ‘Markets are open. Let’s trade.’ … More than 490,000 Amazon options traded on Monday, more than six-times the daily average this year…”

October 13 – Bloomberg (Ksenia Galouchko): “Fund managers overseeing $593 billion were bracing for extreme market turbulence as they expect the result of the November U.S. election to be contested even as the Democratic nominee Joe Biden holds a comfortable lead over President Donald Trump. Among investors surveyed in the week through Oct. 8 by Bank of America Corp., 61% believe the U.S. vote’s outcome will be challenged, causing maximum volatility in the final months of the year. The monthly survey took place at a time when… Biden held a lead of an average of 9 percentage points nationally over Trump.”

October 13 – Bloomberg (Joanna Ossinger): “Markets are turning increasingly skeptical about the chances of a ‘Democratic sweep’ in November’s U.S. elections. And that’s bad for almost all asset classes. When Democrat Joe Biden’s poll numbers increased, numerous strategists started talking about the idea of a ‘Blue Wave,’ where his party would retain control of the House and win the Senate. That prospect could be favorable to markets as a Biden presidency is seen adding to the odds of a fresh round of fiscal stimulus. But now analysts say there’s a good chance the Senate stays in Republican hands, making the passage of a fresh flood of cash less likely.”October 13 – Financial Times (Richard Henderson and Michael Mackenzie): “BlackRock’s assets under management swelled to a record $7.8tn in the third quarter as the rebound in financial markets that began in March helped the fund manager beat revenue and profit forecasts… The company attracted net inflows of $129bn in the third quarter, which pushed its assets above the previous record of $7.4tn reached in the fourth quarter of last year. It comes after the firm attracted $100bn in new money in the second quarter.”

October 16 – Reuters (Thyagaraju Adinarayan): “Global investors yanked almost $26 billion out of cash funds over the last week and piled $17.6 billion into bonds, another $8.6 billion into stock markets, and the third highest amount on record into mortgage backed securities. ‘(The) recent blue wave bullish consensus reflects liquidity addiction, new ‘buy-the-rip’ not ‘buy-the-dip’ mentality, rather than future policy,’ Bank of America said…, referring to rising chances of a clean sweep by Democrats in the upcoming U.S. elections.”

Global Bubble Watch:

October 15 – Bloomberg (Michael Heath and Kathleen Hays): “World Bank Chief Economist Carmen Reinhart said the coronavirus pandemic is turning into a major economic crisis and warned of the possibility of a financial crisis emerging. ‘This did not start as a financial crisis but it is morphing into a major economic crisis, with very serious financial consequences,’ Reinhart said… ‘There’s a long road ahead.’”

October 14 – Reuters (David Lawder): “Massive government spending to battle the coronavirus pandemic will push public debt to a record of nearly 100% of global economic output this year, but the run-up may be a one-off event if growth rebounds next year, the International Monetary Fund said… The Fund said in its latest Fiscal Monitor that it expects government budget deficits to swell to 12.7% of GDP from 3.9% in 2020, a nearly 9 percentage point difference. ‘What we see is a one off, jump up of debt in 2020, then stabilization after 2021, and even a slight downward trend in 2025,’ IMF Fiscal Affairs Director Vitor Gaspar told Reuters…”

October 14 – Bloomberg (Ben Holland, Alaa Shahine and Liz Capo McCormick): “The International Monetary Fund said more public spending will be needed to complete the economic recovery from coronavirus, joining central bankers and finance leaders who are urging governments to set aside fears about mounting debt for now. The Fund, historically a champion of budget restraint, …published its most detailed study of the pandemic’s impact on public finances. It said global government debt will ‘make an unprecedented jump’ this year, but it’s ‘not the most immediate risk. The near-term priority, instead, is to avoid premature withdrawal of support.’”

October 14 – Associated Press (Martin Crutsinger and Aya Batrawy): “The Group of 20 nations, representing the world’s biggest economies, agreed… to extend the suspension of debt payments by an additional six months to support the most vulnerable countries in their fight against the coronavirus pandemic. The suspension of what the G-20 says could provide relief of $14 billion in debt payments had been due to expire at the end of the year. Wednesday’s decision gives developing nations until the end of June 2021 to focus spending on health care and emergency stimulus programs rather than debt repayments.”

October 11 – Bloomberg (Alaa Shahine): “A rare regime-change in economic policy is under way that’s edging central bankers out of the pivotal role they have played for decades. Fiscal policy, which fell out of fashion as an engine of economic growth during the inflationary 1970s, has been front-and-center in the fight against Covid-19. Governments have subsidized wages, mailed checks to households and guaranteed loans for business. They’ve run up record budget deficits on the way -- an approach that economists have gradually come to support, ever since the last big crash in 2008 ushered in a decade of tepid growth. And the public spending that put a floor under the pandemic slump is increasingly seen as vital for a sustained recovery too. When it looks like drying up, as it did in the U.S. last week, investors start to worry.”

October 12 – Bloomberg (Eric Martin): “The Group of 20 nations should extend debt relief to the poorest nations through the end of next year, and hedge funds and China should participate more in the efforts, World Bank President David Malpass said. The recession in the developing world with the exception of China is worse than expected, and the G-20’s Debt Service Suspension Initiative that began in May is only providing shallow relief due to the lack of full participation by the Asian nation and private creditors, Malpass said…”

October 15 – Bloomberg (Irene García Pérez and Lilian Karunungan): “Bond investors are pouring back into riskier debt in search of higher returns as they increasingly factor in years of low interest rates. Even in Europe, where coronavirus cases are on the rise and Brexit negotiations are entering a critical phase, investors are taking more risks in a hunt for yield. The scarcity was highlighted this week by Italy’s sale of three year debt without offering any coupon on the bonds. Junk-rated jet-engine maker Rolls-Royce Holdings Plc drew such demand for a bond sale this week that the company doubled the size of the offering to 2 billion pounds ($2.59bn) equivalent and tightened the pricing.”

October 12 – Reuters (Andrea Shalal): “Climate change poses a serious threat to global growth, the head of the International Monetary Fund said…, urging the world’s top emitters to agree on a floor for carbon prices… ‘Even while we are in the midst of the COVID crisis, we should mobilize to prevent the climate crisis,’ Georgieva told a meeting of finance ministers from 52 countries working to integrate climate change into their economic policies.”

Trump Administration Watch:

October 15 – Bloomberg (Billy House and Laura Davison): “Even with the U.S. still reeling from the coronavirus pandemic, Washington fell short in delivering more stimulus before the election, whipsawed by President Donald Trump and hobbled by the diverging agendas of the top Republican and Democrat in Congress… House Speaker Nancy Pelosi, a self-proclaimed ‘master legislator,’ entered the talks in July with a reputation for legislative acumen honed over years of consequential budget battles and in previous showdowns with Trump. She put in her bid for an even bigger pandemic rescue plan than the $2 trillion package passed in March. Unlike in March, when both parties rallied around the Cares Act as the virus prompted nationwide shutdowns, the Trump administration couldn’t side with Pelosi even if it wanted. Senate Majority Leader Mitch McConnell and many of his fellow Republicans resisted any stimulus of much more than $1 trillion, and especially the massive state and local aid sought by Democrats.”

October 14 – Bloomberg (Billy House): “The chances of Congress passing a pre-election stimulus are all but gone, as Treasury Secretary Steven Mnuchin on Wednesday blamed politics for undermining the months-long negotiations. ‘At this point getting something done before the election and executing on that would be difficult, just given where we are in the level of details,’ Mnuchin said… With a deal out of reach, the two sides in the talks faulted each other for the breakdown.”

October 12 – Bloomberg (Billy House and Steven T. Dennis): “Prospects for a quick end to the stalemate over a new stimulus faded Monday with members of the House being told not to expect any action this week and many Senate Republicans rejecting the White House proposal for a deal. President Donald Trump… again attempted to prod negotiations by urging the GOP by tweet to cut short confirmation hearings for his Supreme Court nominee, Judge Amy Coney Barrett, and focus on bolstering the economy. He amplified that in a later tweet in which he said Republicans should be ‘strongly focused’ on a stimulus package.”

October 12 – Reuters (David Brunnstrom, Patricia Zengerle, Mike Stone and Humeyra Pamuk): “The White House is moving forward with three sales of advanced weaponry to Taiwan, sending in recent days a notification of the deals to Congress for approval…, while China threatened retaliation… Reuters broke the news in September that as many as seven major weapons systems were making their way through the U.S. export process as the Trump administration ramps up pressure on China.”

October 14 – Reuters (David Brunnstrom and Matt Spetalnick): “The U.S. State Department… warned international financial institutions doing business with individuals deemed responsible for China’s crackdown in Hong Kong that they could soon face tough sanctions. In a report to Congress, the State Department named 10 people, including Hong Kong’s chief executive Carrie Lam, all of whom have already been sanctioned, and said within 60 days it would identify financial institutions that conduct significant transactions with them.”

October 14 – Reuters (Humeyra Pamuk, Alexandra Alper, Karen Freifeld): “The U.S. State Department has submitted a proposal for the Trump administration to add China’s Ant Group to a trade blacklist, according to two people familiar with the matter, before the financial technology firm is slated to go public.”

Federal Reserve Watch:

October 11 – Financial Times (James Politi): “Jay Powell has mounted an increasingly forceful case for more fiscal stimulus in the US economy, sending a clear yet politically tricky message to Congress and the White House that the recovery could be in danger of faltering. Mr Powell has been making some of the strongest arguments in favour of a deal, as Donald Trump’s administration and congressional Democrats try to forge a last ditch pre-electoral compromise to deliver a new economic rescue package worth about $2tn. The Fed chair’s willingness to press openly for additional spending began several months ago, but it has taken on new importance as the US economy faces an inflection point.”

October 14 – Bloomberg (Benjamin Purvis and Catarina Saraiva): “The Treasury market is now so large that the U.S. central bank may have to continue to be involved to keep it functioning properly, according to Federal Reserve Vice Chair for Supervision Randal Quarles. The U.S. rates market has faced several significant dislocations in the past couple of years, most notably in March, when the pandemic roiled global assets. In response, the Fed has expanded the toolkit it uses to help ensure market stability… It also restarted direct purchases in the bond market, and is still buying about $80 billion of Treasuries a month. Meanwhile, America’s debt pile has exploded to more than $20 trillion, from roughly $13 trillion five years ago… ‘It may be that there is a simple macro fact that the Treasury market being so much larger than it was even a few years ago, much larger than it was a decade ago and now really much larger than it was even a few years ago, that the sheer volume there may have outpaced the ability of the private market infrastructure to support stress of any sort there,’ Quarles said.”

U.S. Bubble Watch:

October 15 – CNBC (Jeff Cox): “American workers continued to hit the unemployment line in large numbers last week, with 898,000 new claims filed for jobless benefits… The total for the week ended Oct. 10 was the highest number since Aug. 22 and another sign that the labor market continues to struggle to get back to its pre-coronavirus pandemic mark as cases rise and worries increase over a renewed wave in the fall and winter. The number represented a gain of 53,000 from the previous week’s upwardly revised total of 845,000. Despite the higher than expected total, the level of continuing claims continues to fall at a brisk pace, declining by 1.165 million to just over 10 million.”

October 14 – New York Times (Emily Flitter and Kate Kelly): “Hundreds of thousands of small businesses are closing for good. Temporary layoffs at larger companies are becoming permanent. But the country’s largest banks, which together serve a majority of Americans through loans, credit cards or deposit services, are not raising an alarm. In their third-quarter earnings reports this week, big banks have said they are generally prepared for a wave of loan defaults they expect in the second half of next year. And their own fortunes are just fine: A trading and investment banking bonanza on Wall Street is helping them stay profitable.”

October 14 – Bloomberg (Sridhar Natarajan): “Goldman Sachs… joined other big U.S. banks in cashing in on continuing pandemic-induced volatility, as the firm’s bond traders posted the biggest jump on Wall Street so far. Third-quarter revenue from buying and selling stocks and bonds increased 29%, driven by a 49% surge in fixed-income trading and mirroring similar gains reported Tuesday by JPMorgan… and Citigroup… Revenue at each of Goldman’s four divisions rose from a year earlier, pushing earnings per share to a record that was almost twice as high as analysts predicted… Trading gains since the start of the pandemic have helped offset weakness in consumer businesses at the nation’s biggest banks, where loan-loss provisions piled up in the first half of the year.”

October 14 – Reuters (Imani Moise and David Henry): “Will loan losses from the coronavirus recession get worse, much worse or extremely worse over the next six-to-12 months? All of the above, bank executives said this week. In reporting third-quarter results, CEOs and finance chiefs at the five biggest U.S. lenders gave a muddled picture of what to expect. Economic conditions improved in recent months thanks to pandemic lockdowns lifting, as well as government assistance and loan forbearance. But it is not clear that stimulus programs will continue or whether the world is headed for a new wave of infections.”

October 14 – Reuters (Howard Schneider): “A decade-long economic expansion did little to narrow the gaps between the United States’ prosperous and ailing areas, with thousands of ‘distressed’ zip codes shedding jobs and businesses in a trend that laid the groundwork for the developing ‘K’ shaped recovery from the coronavirus pandemic. New analysis from the Economic Innovation Group studying economic patterns across roughly 25,000 zip codes showed that from 2000 through 2018, already prosperous areas pulled further ahead, capturing disproportionate shares of the jobs created and the new businesses… For 5,000 or so ‘distressed’ zip codes it was by contrast a period of lost opportunity as they fell further behind, with the number of jobs declining even deep into the recovery, and those that remained more concentrated in industries and occupations likely to have been disrupted by the pandemic.”

October 13 – Bloomberg (Amanda Albright): “U.S. states saw their tax revenue drop by about $31 billion, or 6%, from March through August, compared to the same period a year earlier… according to a data from 44 states compiled by the Urban Institute. The scale of the drop appears smaller than expected, relative to the depth of the economic contraction, and comes after several states have reported that their revenue didn’t decline as much as anticipated… In August, when much of the country was reopening, state revenue climbed about 1.1% from a year earlier, the Urban Institute found.”

October 12 – Reuters (Howard Schneider): “When the pandemic blew a hole in the U.S. labor market last spring, the hope was for a quick return to normal. It’s clear that hasn’t happened, and with the critical holiday shopping season approaching workers face a new drag on their prospects. Companies appear to be bringing on fewer seasonal workers. ‘Hiring is shaping up differently from previous years,’ said AnnElizabeth Konkel, an economist with the Indeed Hiring Lab, a research group at the job posting site Indeed. Seasonal postings are about 11% below last year…”

October 16 – Bloomberg (Reade Pickert and Olivia Rockeman): “U.S. retail sales rose in September at the fastest pace in three months, topping forecasts and capping a third-quarter rebound… The value of overall sales increased 1.9% from the prior month after a 0.6% gain in August… Excluding autos and gasoline, sales rose 1.5%. The broad-based gain may partly reflect consumers tapping elevated savings, with demand also supported by temporary extra jobless benefits and continued hiring.”

October 13 – Reuters: “U.S. consumer prices rose for a fourth straight month in September though the pace has slowed amid considerable slack in the economy as it gradually recovers from the COVID-19 recession. The… consumer price index increased 0.2% last month after gaining 0.4% in August… In the 12 months through September, the CPI increased 1.4% after rising 1.3% in August.”

October 13 – Reuters (Dan Burns): “U.S. small business confidence rose last month to its highest since the onset of the coronavirus pandemic earlier this year with more firms experiencing an uptick in foot traffic and sales, according to a monthly survey… The National Federation of Independent Business Optimism Index rose 3.8 points to a reading of 104 in September, the highest level since February. After crashing to a seven-year low in April, the index has rebounded sharply…”

October 13 – Reuters (Peter Grant): “Apartment rents are rising in suburban markets across the U.S. as city dwellers look for bigger spaces in smaller towns. Many of suburbia’s new tenants say that this year’s shift to a work-at-home model removed a longstanding barrier to living in these neighborhoods… These towns’ more-limited cultural and culinary attractions matter less when many city museums, shops, bars and restaurants have closed or are operating at partial capacity.”

October 13 – Bloomberg (Noah Buhayar): “San Francisco’s sky-high apartment rents are falling fast. The median monthly rate for a studio in the city tumbled 31% in September from a year earlier to $2,285, compared with a 0.5% decline nationally, according to… One-bedroom rents in San Francisco fell 24% and two-bedrooms were down 21%, to $2,873 and $3,931 a month, respectively. The figures underscore how the pandemic has roiled property markets and changed renter preferences. With companies allowing employees to work from home, people have fled cramped and costly urban areas in droves… Tech firms, in particular, have told staff they should expect to work remotely well into next year -- and may be able to do so permanently.”

October 14 – Bloomberg (Kevin Crowley): “America’s oil production will never again reach the record 13 million barrels a day set earlier this year, just before the pandemic devastated global demand, according to Occidental Petroleum Corp. ‘It’s just going to be too difficult to replace the 2 million barrels a day of production that we’ve lost, and then to further grow beyond that,’ Chief Executive Officer Vicki Hollub said… ‘Over the next three to four years there’s going to be moderate restoration of production, but not at high growth.’”

October 12 – Financial Times (Derek Brower): “A fracking binge in the American shale industry has permanently damaged the country’s oil and gas reserves, threatening hopes for a production recovery and US energy independence, according to one of the sector’s top investors. Wil VanLoh, chief executive of Quantum Energy Partners, a private equity firm that through its portfolio companies is the biggest US driller after ExxonMobil, said too much fracking had ‘sterilised a lot of the reservoir in North America’. ‘That’s the dirty secret about shale,’ Mr VanLoh told the Financial Times, noting wells had often been drilled too closely to one another. ‘What we’ve done for the last five years is we’ve drilled the heart out of the watermelon.’”

October 14 – Bloomberg (Lauren Coleman-Lochner): “A grim reality is setting in across the U.S. hospital sector: a surge in coronavirus infections is encroaching while most facilities are still recovering from the onset of the pandemic. The growing number of cases is threatening the very survival of hospitals just when the country needs them most. Hundreds were already in shaky circumstances before the virus remade the world, and the impact of caring for Covid patients has put hundreds more in jeopardy. The new coronavirus sidelined profitable elective procedures and pushed up costs to keep patients and staff safe. Meanwhile, hospitals are losing the privately insured patients they depend on as millions of Americans lose their jobs… ‘It sort of all comes together as essentially a triple whammy,’ Aaron Wesolowski, vice president for… the trade group American Hospital Association, said… As many as half of hospitals could be losing money by year end, Wesolowski said…”

Fixed Income Watch:

October 15 – Bloomberg (Christopher Maloney): “A flood of mortgage-bond supply combined with a dearth of credit for lower-quality borrowers point to how the U.S. housing market is becoming more uneven when it comes to access to historically cheap debt. The Mortgage Bankers Association’s index of housing credit availability dropped last month to the lowest since February 2014. The benchmark has slipped eight of nine months this year and stands 35% lower than at the same time in 2019. The index is a broad measure of credit supply that weights various borrower credit characteristics and the range of products available to them. That jars with a surge in the supply of mortgage bonds driven by increased home refinancings and purchases amid record low borrowing costs. At its current pace gross issuance is set to reach $2.8 trillion in 2020, which would be the most since at least 2003… This bifurcation suggests a widening of the gap in the U.S. housing market as homeowners or would-be buyers toward the bottom of the credit scale struggle to qualify for a loan.”

October 13 – Bloomberg (Moxy Ying): “Parts of bond markets around the world have started to signal that inflation risks will linger in the longer term, even as few expect prices to jump right away. Unprecedented stimulus to cushion the global economy from the pandemic and signs that central bank independence is eroding worldwide have kept inflation concerns alive. That’s showing up as one factor in credit markets, where longer-dated bonds that are more sensitive to inflation expectations have lagged in recent months, reversing earlier outperformance.”

October 14 – Bloomberg (Rick Green): “More signs of distress among mall owners emerged… with news that CBL & Associates Properties Inc. will skip a debt payment, and that Pennsylvania Real Estate Investment Trust is asking lenders to help it stay out of bankruptcy. CBL Properties, which previously disclosed it was preparing to seek Chapter 11 protection, said in a filing that it will skip a $6.9 million interest payment due Oct. 15 on its senior unsecured 2024 notes.”

October 13 – Reuters (Arunima Kumar): “Bankruptcies in the North American energy industry surged in the third quarter as companies struggled with weak fuel demand due to the COVID-19 pandemic, lower crude prices and a dearth of available credit, according to law firm Haynes and Boone. In the three months to September, 17 oil producers sought bankruptcy protection, fueling a 21% jump in such filings in the first nine months of 2020 from a year earlier… As producers halted or scaled back exploration and drilling to rein in expenses, oilfield service providers have been hit even harder.”

October 15 – Bloomberg (William Shaw, Liz Capo McCormick and Tasos Vossos): “It’s being called the ‘big bang,’ and it has derivatives traders on high alert. In a critical development in the global shift away from old benchmarks that was triggered by Libor’s shortcomings, interest-rate swaps on more than $80 trillion in notional debt will transition this weekend to a new rate for determining their value. While the switch to the secured overnight financing rate, or SOFR, is expected to boost longer-term liquidity in the new benchmark, it also is fueling concerns about unruly price action because it is expected to trigger the sale of swaps on tens of billions of dollars of debt.”

China Watch:

October 14 – Reuters (Lusha Zhang and Ben Blanchard): “China said… the United States was seriously undermining peace and stability in the Taiwan Strait after a U.S. Navy destroyer sailed through the waters amid escalating tensions between Beijing and Taipei… Beijing has accused Washington and Taipei of ‘collusion’ towards the island declaring formal independence and recently ramped up air force activity near Taiwan in a show of force.”

October 15 – Bloomberg: “China’s central bank added more funds than expected to its banking system to support the economic recovery from the pandemic and assist companies to pay taxes due next week. The People’s Bank of China offered 500 billion yuan ($74bn) via its one-year medium-term lending facility… on Thursday. Some 200 billion yuan of the funding comes due Friday.”

October 12 – CNBC (Evelyn Cheng): “China reported strong trade data in September as most business activity resumed in the world’s second-largest economy… For September, China’s imports surged 13.2% in U.S. dollar terms… That was far above the 0.3% predicted… Exports rose 9.9% from a year ago… In the third quarter, China’s exports rose 10.2% from a year ago to 5 trillion yuan ($742.9bn)… Imports rose 4.3% to 3.88 trillion yuan…”

October 13 – Bloomberg: “China is cementing its status as the world’s dominant trading nation, confounding warnings that a once in a century pandemic combined with simmering tensions with the U.S. would derail that status. Surging global demand for everything from hazmat suits to work-from-home technology has allowed China, which contained the virus months ago, to capture record market share of global exports by quickly reopening its factories while the rest of the world grappled with lockdowns. It’s a striking reversal from the first two months of the year when China’s exports contracted by 17.1%.”

October 13 – Reuters (Yilei Sun and Brenda Goh): “China auto sales marked a sixth straight month of gain, rebounding a solid 12.8% in September as the world’s biggest vehicle market comes off lows hit during the coronavirus lockdown… Sales reached 2.57 million vehicles last month but were still down 6.9% for the year to date at 17.12 million vehicles…”

October 14 – Reuters (Stella Qiu and Ryan Woo): “China’s factory gate prices fell at a faster-than-expected pace in September and consumer inflation slowed to its weakest in 19 months, underscoring the challenges still facing China as it recovers from the COVID-19 pandemic. The PPI fell 2.1% from a year earlier…”

October 13 – Financial Times (Henny Sender): “As market jitters spread late last month over the state of China’s largest property developer, one source of comfort for some investors was the sheer size of the Evergrande group. Even in an economy with the scale of China, Evergrande is a behemoth. And it is an heavily indebted one, with total borrowings of about $120bn… That, to many China analysts, makes the… group too big to fail. It is so intertwined with the country’s banks and financial system that it would be too much of a broader danger to the economy if it defaulted on its debts… Owen Gallimore of ANZ… says Evergrande is the single biggest borrower in the Asian high-yield dollar bond market, accounting for $23bn in issuance. ‘We think Evergrande is systemically important but you can still treat (offshore) bondholders badly,’ he said. ‘Bondholders don’t have collateral. They are in a perilous situation. China has learned with every restructuring to deal more aggressively with bondholders.’”

October 13 – Bloomberg (Julia Fioretti and Cathy Chan): “China Evergrande Group broke with precedent this week by excluding friends of billionaire founder Hui Ka Yan from a closely watched share sale, a strategy that was designed to bolster investor confidence in the embattled developer but may have instead had the opposite effect. Evergrande left Hui’s frequent associates out of the deal as it sought to raise as much as $1.09 billion… Evergrande’s stock slumped 17% in Hong Kong Wednesday, the biggest decline in more than five years.”

October 12 – Bloomberg: “Several of China Evergrande Group’s largest lenders are reducing their exposure to the debt-laden developer, underscoring persistent concerns about the company’s financial strength… China Minsheng Banking Corp., Evergrande’s biggest creditor, told branches to avoid new unsecured loans to the developer and reduce overall financing, including through the bond market… The move comes amid increased scrutiny from regulators... At least three other major creditors -- including Agricultural Bank of China Ltd., China Zheshang Bank Co. and Industrial & Commercial Bank of China Ltd. -- have adopted similar policies…”

October 14 – Bloomberg: “China Evergrande Group’s largest strategic investor is leaning toward demanding repayment of the $3.4 billion it’s sunk into the embattled developer, according to people familiar with matter, adding pressure on the company as it races to cut its massive debt load. Investors linked to Shandong Hi-Speed Group… can demand to be repaid if Evergrande fails to get a long-delayed backdoor listing of its main real estate assets in China by Jan. 31. Negotiations to waive those rights are ongoing, though Shandong Hi-Speed is keen to recoup the money, the people said, asking not to be named discussing private deliberations.”

October 15 – Bloomberg (Jeanny Yu): “Hong Kong stockbrokers are so confident Ant Group’s blockbuster IPO will go smoothly that they’re offering to let mom-and-pop investors buy the stock with as much as 20 times leverage. That matches the highest ratio ever offered by brokerages..., a reflection of fierce competition for finance and trading fees on what could be the biggest IPO in history. Ant’s dual listing in Hong Kong and Shanghai is expected to raise at least $35 billion…”

Central Bank Watch:

October 12 – Bloomberg (Alexander Weber, Piotr Skolimowski and Carolynn Look): “European Central Bank top officials amplified their call on governments to keep supporting euro-area economies as they recover from the coronavirus slump, warning against prematurely removing aid. …President Christine Lagarde said her biggest concern right now is that measures such as debt moratoria, state guarantees and furlough schemes are phased out too abruptly. Executive Board member Isabel Schnabel argued separately that European governments shouldn’t start worrying about rising debt levels, and Vice President Luis de Guindos said fiscal policy must be the first line of defense.”

EM Watch:

October 12 – Bloomberg (Asli Kandemir and Ercan Ersoy): “Bad debts could become more of a headache for Turkish banks when credit expansion slows…, according to European Bank for Reconstruction and Development. ‘The NPL issue is an elephant-in-the-room,’ Roger Kelly, EBRD’s Istanbul-based lead regional economist, said… A boom in credit extension increases the risk of taking on riskier customers, and means many of the loans are still relatively young… Turkey’s government leaned hard on banks, especially those owned by the state, to accelerate lending to support the economy…”

October 15 – Bloomberg (Simone Iglesias, Mario Sergio Lima and Marisa Wanzeller): “President Jair Bolsonaro’s deputy senate leader resigned from his position after federal police caught him with Covid assistance money stuffed in his underpants, according to the local press.”

Europe Watch:

October 16 – Reuters (Gabriela Baczynska and John Chalmers): “The European Union said… it was continuing to work for a new Brexit accord, dismissing British Prime Minister Boris Johnson’s no-deal rhetoric as hot air as stakes rise in the troubled trade talks ahead of a year-end deadline. Johnson said earlier on Friday it was time to prepare for a rupture in trade at the end of the year, accusing the 27-nation EU of refusing to negotiate seriously.”

October 15 – Associated Press (Geir Moulson): “Fears rose Thursday that Europe is running out of time to control a resurgence of the coronavirus, as infections hit record daily highs in Germany, the Czech Republic, Italy and Poland. France slapped a 9 p.m. curfew on many of its biggest cities and Londoners faced new travel restrictions as governments imposed increasingly tough measures. Newly confirmed cases have surged across Europe over recent weeks as the fall kicks in, prompting authorities to bring back measures that had been relaxed over the summer. The Czech Republic, Belgium, the Netherlands, Spain, France and Britain are among the countries causing particular concern.”

October 11 – New York Times (James Politi): “What faint hopes remained that Europe was recovering from the economic catastrophe delivered by the pandemic have disappeared as the lethal virus has resumed spreading rapidly across much of the continent. After sharply expanding in the early part of the summer, Britain’s economy grew far less than anticipated in August — just 2.1% compared with July…, adding to worries that further weakness lies ahead. Earlier in the week, France, Europe’s second-largest economy, downgraded its forecast for the pace of expansion for the last three months of the year from an already minimal 1% to zero. Over all, the national statistics agency predicted the economy would contract by 9% this year.”

October 12 – Reuters (Kanishka Singh): “European Union regulators are making a 'hit list' of up to 20 large internet companies, potentially including Facebook, Apple, Amazon and Alphabet's Google, that will be facing new and tougher rules aimed at curbing their market power, the Financial Times reported… The big technology platforms will have to comply with tougher regulation than smaller competitors… New rules will force the companies to share data with rivals and be more transparent on how they gather information, the report said.”

Japan Watch:

October 12 – Reuters (Leika Kihara): “Bank of Japan Governor Haruhiko Kuroda stressed… his readiness to take additional monetary easing steps, saying the central bank had not run out of tools to cushion the economic blow from the COVID-19 pandemic… ‘We will closely monitor the impact of COVID-19 and not hesitate to take additional easing measures as necessary,’ Kuroda told an online seminar… ‘The BOJ hasn’t run out of policy tools. We have a lot of policy tools to counter (the damage from COVID-19). We are flexible, innovative when considering measures to take.’”

October 12 – Reuters (Daniel Leussink): “The pessimism hanging over Japan’s manufacturers lifted slightly in October, suggesting businesses were emerging from the coronavirus pandemic’s heavy blow to activity and earnings but at a glacial pace… The Reuters Tankan sentiment index for manufacturers in October rose for the fourth straight month, coming in at minus 26 from minus 29 the previous month. The index has been in negative territory for 15 straight months.”

October 16 – Reuters (Yuka Obayashi and Kaori Kaneko): “Nearly a decade after the Fukushima nuclear disaster, Japan's government has decided to release over one million tonnes of contaminated water into the sea…, with a formal announcement expected to be made later this month. The decision is expected to rankle neighbouring countries like South Korea… The disposal of contaminated water at the Fukushima Daiichi plant has been a longstanding problem for Japan as it proceeds with an decades-long decommissioning project. Nearly 1.2 million tonnes of contaminated water are currently stored in huge tanks at the facility.”

Leveraged Speculation Watch:

October 13 – Reuters (Tom Westbrook and Alun John): “Short selling has declined this year as hedge funds ditch bets against a relentless, stimulus-driven stock market rally, prompting a drop in income for asset managers and brokers involved in such trades. Figures from research firm DataLend showed stock lenders’ revenue tumbled almost 15% in the year to Sept. 30 from 2019 while revenue for the September quarter alone was $1.8 billion, the lowest in the four years… That drop, led by declines in Asia and the United States, shows how an apparently unstoppable equities rally has caused many hedge funds to reduce shorting…”

October 14 – Reuters (Megan Davies, Kanishka Singh and Sabahatjahan Contractor): “Quantitative fund manager AJO Partners, which manages $10 billion, said… it will shut at the end of the year after ‘lingering viability concerns’ from its clients… ‘Our relative performance has suffered because our investment edge, our ‘secret sauce,’ is at odds with many forces driving the market,’ founder Ted Aronson said…”

Geopolitical Watch:

October 12 – Reuters (Tuvan Gumrukcu, Yesim Dikmen and George Georgiopoulos): “A Turkish ship set sail on Monday to carry out seismic surveys in the eastern Mediterranean, prompting Greece to issue a furious new demand for European Union sanctions on Ankara in a row over offshore exploration rights… Greece’s foreign ministry described the new voyage as a ‘major escalation’ and a ‘direct threat to peace in the region’. Turkey, meanwhile, accused Athens of fuelling tensions.”

October 14 – Reuters (Nailia Bagirova and Nvard Hovhannisyan): “Hopes of a humanitarian ceasefire ending fighting over Nagorno-Karabakh sank further on Thursday as the death toll mounted and Armenia and Azerbaijan accused each other of launching new attacks. Armenia accused Turkey of blocking flights carrying emergency aid from using its airspace, and Azerbaijan’s president warned of ‘new victims and new bloodshed’ from fighting over the mountain enclave that broke out on Sept. 27.”