Friday, February 16, 2024

Weekly Commentary: Inflationary Biases

It was an illuminating week, especially Tuesday. January’s CPI data confirm that inflation is anything but dead and buried. Headline inflation rose 0.3% for the month versus the 0.2% expected. Year-over-year headline inflation was at 3.1% compared to expectations of 2.9%. Core (ex-food and energy) CPI rose stronger than expected, with one-year inflation at 3.9%. “The devil is in the details.”

It's worth noting that despite January’s notable 0.8% rise, Import Prices (from Thursday data) were still down 1.3% y-o-y. Disinflationary forces in China and elsewhere have supported waning goods price inflation here at home. In Tuesday’s CPI data, January Core Goods Prices declined 0.3%. Importantly, however, inflationary forces remain formidable throughout Services pricing.

In data that should have the Fed on edge, monthly Core Services Inflation jumped to 0.7% from 0.4%. “Supercore” (Services excluding shelter) inflation accelerated in January to a 21-month high 0.8%. Shelter prices rose to 0.6% from 0.4%, with 6.0% y-o-y inflation. Medical Care Services gained 0.7%, with Health Insurance prices jumping 1.4% during the month. Resurgent health services inflation would not be surprising. Transportation Services jumped 1.0% for the month, led by Maintenance and Repairs up 0.8% (6.5% y-o-y) and Insurance rising 1.4% (20.6% y-o-y).

From Bloomberg Intelligence (Anna Wong and Stuart Paul): “If Fed officials were hoping to see a broadening of the disinflation process in the January CPI report, their wish didn’t come true. The share of core spending categories experiencing outright monthly deflation declined to 29% from 44% prior. The share experiencing modest annualized inflation of 0.0%-2.0% fell to just 6% from 11% prior. The share of categories with annualized monthly inflation between 2.0%-4.0% held roughly steady at 7%. And the share of spending categories with annualized monthly inflation of 4.0% or more jumped to 58% from 38% prior.”

Understandably, the bond market didn’t take kindly to stronger and broadening inflation. Ten-year Treasury yields jumped from 4.15% to 4.28% on the data release, ending Tuesday’s session at an 11-week high 4.32%. Two-year yields surged 18 bps Tuesday to 4.66% (high since December 12th). After beginning the week pricing a likely (76% probability) cut at the Fed’s May 1st meeting, by week’s end it was unlikely (36%). Markets now expect a 4.43% Fed funds rate (90bps of cuts) for the December 18th meeting, 23 bps higher for the week and up 78 bps from the January 12th low. Volatile MBS yields surged 25 bps Tuesday to a 12-week high 5.91% (ending week at 5.88%).

Equities were under heavy selling pressure. At intraday Tuesday lows, the S&P500 was down 2.0%, and the Nasdaq100 was 2.25% lower. Selling was more intense for the broader market. The small cap Russell 2000 was down as much as 4.6%, before ending Tuesday’s session 4.0% lower (biggest one-day loss since June ‘22).

Prospects for delayed Fed rate cuts and higher bond yields triggered dollar strength. The vulnerable Japanese yen quickly sank 1%, pushing the dollar/yen to 150.8 (high since November). The Dollar Index traded to the high since November 14th, pressuring both developed and developing currencies. The precious metals were slammed, with Gold down 1.3% and Silver sinking 2.6%.

But a curious thing happened on the way to inflation-induced market instability: Most financial conditions indicators were impervious. CDS prices remained rock solid at near two-year lows. Investment-grade CDS increased only 1.5 to 55 bps, with high-yield CDS rising 10 to 354 bps – both only back to levels from the previous Thursday. Bank CDS barely budged off two-year lows, ending the week further below levels from when the Fed began raising rates.

Treasury and MBS yields surged higher, while small cap stocks suffered their biggest selloff in more than 18 months. Yet corporate risk premiums (spreads to Treasuries) actually narrowed on the day. It was remarkable market action worthy of exploration.

February 14 – Bloomberg (Tasos Vossos and Ronan Martin): “The wave of money making its way into the credit market is acting as a shield for investors against every negative scenario - even the prospect of ever-fewer central bank cuts this year. Risk premiums on high-grade and junk bonds fell Tuesday despite hotter-than-expected US consumer-price rises that pushed prospects for the Federal Reserve’s first rate cut firmly into the summer. A gauge of default insurance only rose to levels recorded on Monday. The continued strength of corporate-bond spreads underscores the numbing effect of persistent flows pouring into credit funds, making managers flush with cash that needs to be invested… Money flowing into funds focusing on high-grade bonds in the US ‘strengthened considerably’ to about $6 billion in the week to Feb. 7, BofA Securities strategists wrote… In Europe, high-grade funds recorded their 14th weekly inflow in a row and biggest since June 2020…”

February 16 – Bloomberg (Tasos Vossos): “Money continued to pour into corporate bond funds in the week that traders pared back expectations for interest-rate cuts, highlighting the asset class’s growing resilience. Investors added $10.3 billion to global investment-grade bond funds in the week through Feb. 14, a 16th straight week of inflows, according… EPFR... Data on European credit funds also indicated inflows, with allocations to high-yield portfolios nearly tripling… The persistent cash flow has helped to buffer corporate bonds from the kind of volatility that’s driving other asset classes as traders try to predict the path of monetary easing.”

Too much “money” chasing risk assets. Financial conditions remain much too loose, despite the Fed's advertised conclusion to its “tightening” cycle. While market participants were disappointed by the CPI report, they were in no mood to be dissuaded. Fed rate cuts are coming, they just might be delayed a bit.

Tuesday developments underscored how powerful Inflationary Biases – in the real economy and financial markets – are having major impacts. The basic premise is that if people have access to money, they typically spend it. There are innate Inflationary Biases that history teaches must be managed within a framework of sound money and Credit. Allow the inflation genie out of the bottle, and watch containment become a great challenge.

Print money, and it will invariably be spent on goods, services, real assets, and in the financial markets. Loose conditions and easy Credit Availability will spur consumer and business spending. Yet the power of the printing press and loose Credit tend to vary significantly depending on the stage of the cycle.

There are, at today’s late-cycle phase, myriad robust Inflationary Biases. Consumers have become rather adept at spending, with cash and on Credit. There has been little impetus in accumulating emergency savings. Jobs and wage gains have been especially plentiful over recent years. Moreover, financial innovation ensures a litany of Credit sources to sustain the boom, including non-bank operators hawking alluring lending products such as “buy now pay later” apps and new age subprime business lending.

Today, more Americans than ever are in the markets, tens of millions trading stocks and options online, and tens of millions more through their 401Ks and retirement accounts. Tens of millions of households have watched their wealth inflate right along with the market values of their homes. Household Net Worth has inflated spectacularly over this prolonged cycle, especially benefiting from massive pandemic stimulus.

With American households more exposed to the stock market than ever, inflating stock prices these days create a greater boost to purchasing power than they did traditionally. And market gains tend to be spent more freely than hard-earned wages.

Meanwhile, Inflationary Biases also percolate throughout corporate America. Surging stock prices ensure bullish narratives and inflating Wall Street earnings estimates. And loose conditions and easy Credit Availability provide the wherewithal for corporate executives to pursue aggressive growth strategies (to justify inflated stock valuations). Meanwhile, corporate managements and business owners throughout the economy have grown comfortable passing along higher costs to their customers.

February 15 – Reuters (Lewis Krauskopf): “The number of S&P 500 companies discussing artificial intelligence has climbed to a new high in fourth-quarter conference calls, Goldman Sachs strategists said, in the latest sign AI is a focal point for markets and corporate America. The proportion of S&P 500 companies mentioning ‘AI’ rose to 36%, up from 31% in the third quarter, Goldman strategists said… Companies also noted that spending on capital expenditures and research and development ‘will likely rise in the near term as they ramp up AI investments,’ Goldman said.”

The historic AI mania is a spending black hole. Under intense market pressure, executives with access to cash and Credit will promote grand plans and spend lavishly on AI. And the AI Arms Race will drive spectacular earnings growth for the big tech oligopoly. This only bolsters the stock market mania, further loosening conditions while inflating household perceived wealth. Inflating markets spur greater speculative leverage, resulting in self-reinforcing liquidity excess. The inflating market Bubble further stokes household and corporate spending, ensuring a resilient economic boom. In short, we’re witnessing powerful Inflationary Biases doing what they do best.

The “immaculate disinflation” crowd disregards forceful late-cycle Inflationary Biases at our system’s peril. Next month will mark three years of y-o-y CPI above the Fed’s 2% inflation target. Signaling the end of its rate hiking cycle was a major policy mistake. As should have been anticipated, this triggered a significant loosening of conditions – loosening that only reinforces Inflationary Biases.

Average Hourly Earnings (y-o-y) exceeded 4% every month since July 2001, averaging 4.9% over this period. For comparison, Average Hourly Earnings averaged 2.7% over the preceding two decades, while not exceeding 3% during the period May 2009 through July 2018. There has been a fundamental shift in pay expectations over recent years. Workers expect higher compensation, along with annual raises.

While goods price inflation has been held in check by cheaper imports, services and shelter prices are bolstered by inflating compensation. With labor markets tight, loose financial conditions will continue to underpin this critical Inflationary Bias.

It was a serious monetary policy flaw to signal a pivot to lower interest rates before orchestrating the necessary tightening of financial conditions. A year ago, the Fed seemed to understand that tighter financial conditions were necessary to restrain demand and cool overheated labor markets. Since then, wishful thinking has supplanted sound analysis.

Financial conditions are today much looser than when the Fed commenced its “tightening” cycle. Inflationary Biases have become more deeply rooted, both throughout the real economy and in the financial markets. History teaches us that once inflation takes hold, it becomes very difficult to loosen its grip. Paul Volcker had to bring the economy and markets to their knees to break inflationary psychology.

At this point, it’s the nature of things that pain will be required to change behavior – to impose the necessary restraint upon Inflationary Biases. Our central bank is certainly not of the mindset to administer discipline. So, this historic equities Bubble – currently in full speculative melt-up mode - is left to its own devices. Observing the craziness, the bond market is positioning for an inevitable market accident.

Low market yields underpin loose financial conditions, while levered speculation fuels liquidity excess - both feeding the equities market mania along with corporate Credit Availability. Powerful Inflationary Biases have taken hold throughout non-bank finance - including “private Credit” and investment and insurance products (i.e., annuities) – that proliferate today devoid of market discipline. Strong private-sector lending coupled with massive federal deficit spending set the stage for a year of inflationary system Credit expansion.

Ten-year Treasury yields rose 10 basis points this week to 4.28%. It could have been a whole lot worse.

Bonds were given hope Tuesday, as stock market Bubble vulnerability began to surface. The VIX quickly spiked to 18 (14-week high) – before just as quickly retreating back to 14. Some sectors (i.e., small caps) turned acutely unstable. And with the marketplace crowded into big tech, while manic crowds sell options, it’s the ideal backdrop for “Volmageddon2.0”.  And I understand why a bond market focused on equity Bubble fragility and vulnerable global Bubbles would dismiss inflation risk. But it became clearer this week that powerful Inflationary Biases will be hard at work so long as financial conditions remain loose.

For the Week:

The S&P500 slipped 0.4% (up 4.9% y-t-d), while the Dow was little changed (up 2.5%). The Utilities rallied 1.3% (down 3.5%). The Banks recovered 1.9% (down 0.6%), and the Broker/Dealers gained 2.0% (up 1.0%). The Transports sank 3.6% (down 1.7%). The S&P 400 Midcaps increased 0.7% (up 1.7%), and the small cap Russell 2000 rose 1.1% (up 0.3%). The Nasdaq100 fell 1.5% (up 5.1%). The Semiconductors declined 0.9% (up 8.4%). The Biotechs gained 0.8% (up 0.8%). With bullion down $11, the HUI gold index lost 1.4% (down 14.5%).

Three-month Treasury bill rates ended the week at 5.215%. Two-year government yields jumped 16 bps this week to 4.64% (up 39bps y-t-d). Five-year T-note yields rose 14 bps to 4.27% (up 43bps). Ten-year Treasury yields gained 10 bps to 4.28% (up 40bps). Long bond yields added six bps to 4.44% (up 41bps). Benchmark Fannie Mae MBS yields surged 22 bps to 5.87% (up 60bps).

Italian yields fell eight bps to 3.89% (up 19bps y-t-d). Greek 10-year yields slipped three bps 3.49% (up 43bps). Spain's 10-year yields declined seven bps to 3.30% (up 31bps). German bund yields added two bps to 2.40% (up 38bps). French yields slipped two bps to 2.88% (up 32bps). The French to German 10-year bond spread narrowed four to 48 bps. U.K. 10-year gilt yields increased two bps to 4.11% (up 57bps). U.K.'s FTSE equities index rallied 1.8% (down 0.3% y-t-d).

Japan's Nikkei Equities Index surged 4.3% (up 15.0% y-t-d). Japanese 10-year "JGB" yields added a basis point to 0.74% (up 12bps y-t-d). France's CAC40 gained 1.6% (up 3.0%). The German DAX equities index increased 1.1% (up 2.2%). Spain's IBEX 35 equities index was little changed (down 2.1%). Italy's FTSE MIB index rallied 1.8% (up 4.5%). EM equities were mostly higher. Brazil's Bovespa index increased 0.6% (down 4.0%), while Mexico's Bolsa index slipped 0.5% (down 0.5%). South Korea's Kospi index rose 1.1% (down 0.2%). India's Sensex equities index gained 1.2% (up 0.3%). China's Shanghai Exchange Index was closed for holiday (down 3.7%). Turkey's Borsa Istanbul National 100 index added 2.3% (up 23.8%). Russia's MICEX equities index was unchanged (up 4.6%).

Federal Reserve Credit increased $2.9bn last week to $7.597 TN. Fed Credit was down $1.293 TN from the June 22nd, 2022, peak. Over the past 231 weeks, Fed Credit expanded $3.870 TN, or 104%. Fed Credit inflated $4.784 TN, or 170%, over the past 588 weeks. Elsewhere, Fed holdings for foreign owners of Treasury, Agency Debt recovered $7.0bn last week to $3.367 TN. "Custody holdings" were up $20.7bn, or 0.6%, y-o-y.

Total money market fund assets dipped $4.3bn to $6.014 TN. Money funds were up $1.209 TN, or 25.2%, y-o-y.

Total Commercial Paper gained $5.4bn to $1.258 TN. CP was up $2.2bn, or 0.2%, over the past year.

Freddie Mac 30-year fixed mortgage rates jumped 13 bps to a nine-week high 6.77% (up 43bps y-o-y). Fifteen-year rates surged 22 bps to 6.12% (up 45bps). Bankrate's survey of jumbo mortgage borrowing costs had 30-year fixed rates up 20 bps to an 10-week high 7.36% (up 56bps).

Currency Watch:

February 13 – Reuters (Tetsushi Kajimoto): “Japan's top currency officials warned on Wednesday against what they described as rapid and speculative yen moves overnight when the Japanese currency broke past 150 yen, undermining the trade-reliant economy. The dollar rose to three-month peaks on late Tuesday after data showed U.S. inflation rose more than expected in January, reinforcing expectations the Federal Reserve will hold interest rates steady in March. ‘We are watching the market even more closely,’ Finance Minister Shunichi Suzuki told reporters. ‘Rapid moves are undesirable for the economy.’”

February 10 – Bloomberg (Tania Chen and Robert Fullem): “Nine months before the US presidential election, Donald Trump is tiptoeing into the minds of China currency traders. With the former president seemingly a lock for the Republican nomination, investors are preparing for a possible return to the days of the US-China trade war which steamrolled the yuan during his term in office. Trump has suggested revoking China’s ‘most favored nation’ status for US trade and hinted at tariffs of more than 60% on its goods.”

For the week, the U.S. Dollar Index increased 0.2% to 104.28 (up 2.9% y-t-d). For the week on the upside, the South African rand increased 0.7%, the Norwegian krone 0.3%, the Mexican peso 0.2%, the Swedish krona 0.2%, and the Australian dollar 0.1%. On the downside, the Swiss franc declined 0.7%, the Japanese yen 0.6%, the South Korean won 0.6%, the New Zealand dollar 0.4%, the Brazilian real 0.2%, the British pound 0.2%, the Canadian dollar 0.2%, the Singapore dollar 0.1%, and the euro 0.1%. The Chinese (onshore) renminbi was unchanged versus the dollar (down 1.30%).

Commodities Watch:

The Bloomberg Commodities Index declined 0.7% (down 2.4% y-t-d). Spot Gold slipped 0.5% to $2,014 (down 2.4%). Silver rallied 3.6% to $23.42 (down 1.6%). WTI crude jumped $2.35, or 3.1%, to $79.19 (up 11%). Gasoline was little changed (up 11%), while Natural Gas sank 12.9% to $1.61 (down 36%). Copper surged 4.3% (down 1%). Wheat sank 6.1% (down 11%), and Corn dropped 2.9% (down 12%). Bitcoin jumped $4,703, or 10%, to $51,930 (up 22%).

Middle East War Watch:

February 15 – Reuters (Henriette Chacar and Ali Sawafta): “Top ministers in Prime Minister Benjamin Netanyahu's government rejected Palestinian statehood… following a Washington Post report that Israel's main ally the United States was advancing plans to establish a Palestinian state. ‘We will in no way agree to this plan, which says Palestinians deserve a prize for the terrible massacre they carried out against us: a Palestinian state with Jerusalem as its capital,’ Finance Minister Bezalel Smotrich said. ‘A Palestinian state is an existential threat to the State of Israel as was proven on Oct. 7,’ he said, adding that he will demand the security cabinet… to take a clear position against Palestinian statehood.”

February 12 – Associated Press (Julia Frankel): “It was a warm handshake between the unlikeliest of statesmen, conducted under the beaming gaze of U.S. President Jimmy Carter. Sunlight streamed through the trees at Camp David…, as Egyptian President Anwar Sadat and Israeli Prime Minister Menachem Begin solidified a landmark agreement that has allowed over 40 years of peace between Israel and Egypt. It has served as an important source of stability in a volatile region. That peace has held through two Palestinian uprisings and a series of wars between Israel and Hamas. But now, with Prime Minister Benjamin Netanyahu vowing to send Israeli troops into Rafah, a city in Gaza on the border with Egypt, the Egyptian government is threatening to void the agreement.”

February 16 – Bloomberg (Dana Khraiche and Gwen Ackerman): “The leader of Hezbollah, the Iran-backed militia, said it would escalate its fight against Israel following a worsening spate of attacks between the two sides this week. Hassan Nasrallah said the group, based in Lebanon, would retaliate against Israel targeting its positions and killing civilians in recent days. Hezbollah will hit ‘not just army sites,’ he said in a speech on Friday. ‘The enemy will pay the price of spilling the blood of our people with blood,’ he said in a speech broadcast on Hezbollah’s Al-Manar TV.”

February 14 – Bloomberg (Gwen Ackerman and Dana Khraiche): “Tensions between Israel and Hezbollah intensified on Wednesday when Israeli towns and an army base came under what appeared to be the fiercest attacks from Lebanon since the confrontation began four months ago. The assault, presumed to be carried out by Hezbollah fighters based in Lebanon, prompted Israeli fighter jets to launch extensive strikes on the Iran-backed group’s positions.”

February 15 – Bloomberg (Youssef Diab and Dana Khraiche): “Hezbollah in Lebanon fired a barrage of rockets at Israel in retaliation for the killing a commander in one of the group’s elite units, a further escalation of this week’s cross-border fire that’s raising alarm of a wider war. A senior member of the Iran-backed group’s elite Radwan Force was killed Wednesday along with two others in the southern Lebanese town of Nabatiyeh, the Israeli army said... Hezbollah responded by firing dozens of rockets into northern Israel.”

February 14 – Reuters (Svea Herbst-Bayliss): “Hedge fund manager Daniel Loeb's firm Third Point will invest in private credit this year as it bets on positive conditions for both credit and equity markets in 2024. ‘We will be adding private credit as a complement to our existing strategies and expect to begin investing in this new sector in the next few months,’ Loeb wrote… Third Point, which invests roughly $10.6 billion in assets, posted a 3.6% gain in 2023.”

February 11 – Financial Times (Robert Wright): “US and UK air strikes have reduced the risk to vessels from attacks by Yemen’s Houthis in the Red Sea but there is little prospect of many shipping companies making a swift return to the Suez Canal, security experts and a senior executive have said. They made the assessment during a slowdown in successful missile launches by the Houthis, who claim to be targeting commercial ships in solidarity with Gaza’s Palestinians. The militant group has launched only four notable attacks on vessels since January 26. In all but the most recent attack, on February 12, the missiles failed even to hit the vessel.”

Taiwan Watch:

February 13 – Financial Times (Demetri Sevastopulo and Kathrin Hille): “Mike Gallagher, head of the US House China committee, will visit Taipei next week with a group of lawmakers in a show of support for Lai Ching-te ahead of his May inauguration as president of Taiwan. The hawkish Wisconsin Republican will arrive in Taiwan on February 21… The visit comes one month after the election victory by Lai, the current Taiwanese vice-president who Beijing denounces as a ‘dangerous separatist’.”

Ukraine War Watch:

February 16 – Bloomberg (Michael Nienaber, Alberto Nardelli and Alex Wickham): “German Chancellor Olaf Scholz and Ukrainian President Volodymyr Zelenskiy signed a long-term security cooperation deal as Ukraine’s worsening artillery shortage threatens to force a further rationing of shells. The agreement sealed Friday at the chancellery in Berlin — the first time Germany has taken on the role of a guarantor state — is designed to deter Russia from future aggression against its western neighbor after the current war ends.”

February 13 – CNN (Victoria Butenko, Christian Edwards and Alex Stambaugh): “Ukraine claims it has now disabled a third of Russia’s Black Sea Fleet after its military intelligence said it sank another Russian warship in a sea drone attack off the coast of Crimea… Russia’s landing ship Caesar Kunikov was attacked with ‘MAGURA’ V5 drones that punctured ‘critical holes’ on its left side before sinking, the Ukrainian military intelligence agency said… ‘Ukraine has disabled a third of the Russian Black Sea Fleet during the large-scale invasion,’ the country’s armed forces told CNN...”

Market Instability Watch:

February 13 – Bloomberg (Sagarika Jaisinghani): “Investors are going ‘all in’ on US technology stocks as they turn the most optimistic about global growth in two years, according to a survey by Bank of America... Allocation to tech is now at the highest since August 2020… Exposure to US equities more broadly has also risen, while easing macro risks prompted investors to trim cash levels by 55 bps from January… A majority of respondents to BofA’s survey also expect inflation to decline, while only 7% predict higher pricing pressure. About 65% of investors forecast a soft economic landing, while the probability of a hard landing faded to 11%.”

February 12 – Bloomberg (Sam Potter and Lu Wang): “Six years after a famous blowup in the volatility market shattered a lengthy calm in US stocks, the latest Bloomberg Markets Live Pulse survey reveals growing Wall Street concern over a new boom in trades that bet against equity turbulence. In this latest era of prolonged stock-market serenity, billions of dollars are pouring into strategies that seek to juice returns by selling options. These so-called short-volatility trades are a dangerous way to generate income, according to 71% of 377 MLIV Pulse respondents. Some 59% fear the current boom is a possible threat to the market. Even among those who said they use short-vol strategies, more than half consider it a hazardous way to boost returns. The worries may have their roots in the events of February 2018, when a downturn in the S&P 500 set off a surge in the Cboe Volatility Index… The episode, which was dubbed ‘Volmageddon,’ wiped out billions of dollars in trades betting against volatility that had built up during a years-long period of relative calm.”

February 13 – Bloomberg (Lu Wang and Isabelle Lee): “Tuesday’s hot inflation data sparked a fresh rout for a diversified quant strategy made famous by Ray Dalio, evoking memories of the pain on Wall Street during the hawkish monetary era. After the core consumer price index climbed the most in eight months, the RPAR Risk Parity ETF dropped 1.7% as stocks and bonds fell in tandem. The strategy — designed to generate steady gains across market conditions — has now lost 4.5% so far in 2024. Trailing the benchmark S&P 500 by 8 percentage points, the return gap is the widest this far into a year since the fund’s 2019 inception.”

February 12 – Reuters (Saqib Iqbal Ahmed): “The craze for artificial intelligence stocks sent options traders piling into bets on Arm Holdings on Monday, with many positioning for more gains in the shares after they almost doubled in price in less than a week. Arm Holdings' shares are up 80% since Wednesday, after the company forecast better-than-expected quarterly results… The jump in the stock price has ignited trading in the chip designer's options, with volume soaring to about 490,000 contracts a day over the last three sessions. That is more than 10 times the options' average daily trading volume in the month prior to the earnings report, according to Trade Alert data.”

February 9 – Wall Street Journal (Editorial Board): “The Congressional Budget Office rudely interrupted the presidential campaign this week by releasing its 10-year budget outlook. Neither Joe Biden nor Donald Trump wants to talk about the woolly mammoth in the room, but somebody has to point out that growing entitlements and debt payments are squeezing national defense. CBO forecasts that under current law the national debt will grow to $48.3 trillion in 2034 from $26.2 trillion this last fiscal year—a whopping 84% increase. Debt as a share of GDP will rise to 116% in 2034 from 97.3%.”

Bank Watch:

February 16 – Bloomberg (Katanga Johnson): “US regulators are ‘closely focused’ on risks in commercial real estate loans, and have stepped up downgrades of supervisory ratings on lenders amid new strains on their finances, according to the Federal Reserve’s chief bank watchdog. Supervisors are looking at what banks are doing to mitigate potential losses, how they are reporting risks to their boards and senior management, and whether they have enough reserves and capital to handle CRE loan losses, said Michael Barr, the Fed’s vice chair for supervision…”

February 9 – Wall Street Journal (Stephen Gandel): “The amount US financial institutions have loaned to shadow banks such as fintechs and private credit groups has passed $1tn, as regulators warn that growing ties between traditional and alternative lenders could present systemic risks. The US Federal Reserve reported… that US banks crossed the 13-figure threshold in loans outstanding to non-deposit-taking financial companies at the end of January. These hedge funds, private equity firms, direct lenders and others use the money to leverage investments and increasingly lend it out to a range of risky borrowers that regulators have discouraged banks from lending to directly. That amount is up 12% in the past year, making it one of banking’s fastest-growing businesses when overall loans growth has been sluggish, up just 2%.”

February 13 – Bloomberg (Noah Buhayar): “A Kansas bank that failed last July after its chief executive officer allegedly siphoned off funds to buy cryptocurrency drew $21 million from the Federal Home Loan Bank System shortly before collapsing… Heartland Tri-State Bank’s sudden use of FHLB financing in its final weeks was an abrupt turnabout, the inspector general of the Federal Reserve and Consumer Financial Protection Bureau found in a Feb. 7 report.”

February 14 – Reuters (Tom Sims and John O'Donnell): “European banks have about 1.4 trillion euros ($1.50 trillion) in loans to the troubled commercial property industry, amid a steep fall in office prices on both sides of the Atlantic and investor concerns about lenders' ability to handle the risk. Banks in Germany have become a particular focus because the country is in its worst real-estate slump in decades - one marked by insolvencies, halted construction and a freeze in property deals. Investors dumped the shares of one of Germany's top property financiers last week, concerned about its exposure to the U.S. market.”

Global Bond Watch:

February 12 – Bloomberg (Liz Capo McCormick): “Bond traders have come more in line with the Federal Reserve’s trajectory for the upcoming easing cycle. Strategists at Citigroup Inc. say what’s missing now is traders hedging the risk of a very brief easing cycle followed by rate increases shortly thereafter. Citigroup, whose economists expect the Fed’s first rate cut in June, sees some potential for the next few years to mirror what happened in the late 1990s. In 1998, the US central bank cut rates three times in rapid-fire succession to short-circuit a financial crisis brought on by the Russian debt default and the near-collapse of hedge fund Long Term Capital Management. The Fed then began a cycle of rate increases in June 1999 to contain inflationary pressures.”

February 12 – Bloomberg (Ye Xie and Isabelle Lee): “The great market inflation hedge of the pandemic era is officially over. Between cash outflows and capital losses, the combined assets of the 10 largest US exchange-traded funds that focus on inflation-linked bonds have tumbled from a peak of more than $99 billion in early 2022 to around $57 billion. That’s about what they held in late 2020… The pullback underscores how confident investors are that the Federal Reserve has brought inflation back under control.”

Bubble and Mania Watch:

February 13 – Financial Times (June Yoon): “When a chief executive asks for trillions, not billions, when raising funds you know a sector may be getting a bit too hot. In the long run, generative artificial intelligence will transform many industries and the way people work. But a report that OpenAI chief executive Sam Altman is talking to investors about an artificial intelligence chip project has raised a lot of questions. A person familiar with the talks was cited as saying the project could require raising as much as $7tn. Scoring even a fraction of that figure… would seem a stretch, to put it mildly. Nonetheless, it reflects just how hot the interest in AI, and the chips that power it, has become. The historical parallel that record-high AI-related stock valuations and fundraising targets bring to mind is the boom and bust in telecom stocks during the dotcom bubble era. “

February 14 – Wall Street Journal (Jack Pitcher): “Technology companies are powering the stock market ever higher, a few widely held stocks are responsible for most of the gains, and Microsoft is the U.S.’s most valuable company. The year is 1999, a date that also marks the debut of the Invesco QQQ Trust exchange-traded fund, known as QQQ. Its launch transformed the investing world in some ways. Yet tech investors still face some of the same fundamental questions—and market dynamics—25 years later. The fund, once synonymous with the dot-com boom and bust, has grown into a $250 billion behemoth. It is the primary tool used by investors big and small to gain broad exposure to big tech stocks.”

February 13 – Bloomberg (Lydia Beyoud): “Publicly traded companies need to avoid ‘AI washing’ when talking to investors about their use of the technology, according to the head of the US Securities and Exchange Commission. SEC Chair Gary Gensler said… companies must clarify for investors what they mean when referring to artificial intelligence. Corporations need to be specific about how they’re using it, risks to operations, and decide if executives’ comments regarding the technology must be disclosed to investors. ‘As AI disclosures by SEC registrants increase, the basics of good securities lawyering still apply,’ Gary Gensler said…”

February 12 – Bloomberg (Olivia Raimonde and Alicia Clanton): “An insurance product that consumers use to help fund their retirements is selling at record levels, powering demand for corporate debt and commercial mortgage bonds. Last year, sales of annuities, which allow consumers to effectively buy income for the rest of their lives, reached an all-time record high of $385 billion, according to life insurance trade group Limra. That’s up 23% from the year before. The products grew more attractive as rising interest rates translate into higher potential annual payouts from the products. Behind the scenes, the life insurers that usually sell annuities are buying bonds to generate income for the products, and in particular, corporate debt and asset-backed securities including mortgage bonds.”

February 15 – Bloomberg (Suvashree Ghosh and Sidhartha Shukla): “Bitcoin hovered around $52,000 after a broad cryptocurrency rally that saw Ether, the second-biggest token, advance back to where it was before the TerraUSD stablecoin collapsed almost two years ago. Bitcoin’s almost 25% year-to-date gain has helped to lift the market capitalization of digital assets above $2 trillion for the first time since April 2022…”

February 12 – Bloomberg (John Gittelsohn): “Nearly 20% of outstanding debt on US commercial and multifamily real estate — $929 billion — will mature this year, requiring refinancing or property sales. The volume of loans coming due swelled 40% from an earlier estimate by the Mortgage Bankers Association of $659 billion, a surge attributed to loan extensions and other delays rather than new transactions. With the Federal Reserve signaling that it’s done hiking interest rates, it’s likely more deals will get done this year, according to Jamie Woodwell, head of commercial real estate research at the bankers group. ‘Volatility and uncertainty around interest rates, a lack of clarity on property values and questions about some property fundamentals have suppressed sales and financing transactions,’ Woodwell said… ‘This year’s maturities, coupled with greater clarity in those and other areas, should begin to break the logjam in the markets.’”

February 13 – Bloomberg (Natalie Wong and Patrick Clark): “The shakeout in the $20 trillion US commercial real estate market has long been delayed for a simple reason: No one could figure out just how much properties were worth. And, more crucially, few wanted to. Since the Covid-19 pandemic upended the use of real estate around the world, lenders have had little incentive to get tough on borrowers… Transactions ground to a halt as potential sellers were unwilling to unload buildings at distressed prices — an outcome that allowed them to pretend that nothing had fundamentally changed. For many, the time to wait it out is nearing its end. Across the country, deals are starting to pick up, revealing just how far real estate prices have fallen.”

February 13 – Bloomberg (Isis Almeida and Miranda Davis): “When Rahm Emanuel ran Chicago and wanted to boast about the health of the city, the then-mayor pointed to the number of construction cranes across the skyline — 60 at the end of 2017. Almost five years after he left office, that number has dwindled to the single digits… It’s a stark turnaround for the Windy City and a sign of its economic struggles as higher interest rates, inflation and weak demand for office space squelch appetite for new development. The commercial real estate crisis brought on by the rise of remote work and higher borrowing costs has sent US office values tumbling across the US… Construction has slowed from San Francisco to New York… ‘Office is toxic,’ said Bob Clark, executive chairman and founder of developer Clayco… ‘A lot of people had their projects based on low interest rates, and today that actually just doesn’t pencil.’”

February 12 – Bloomberg (Farah Elbahrawy): “US companies are discussing cost control on earnings calls at a record rate, amid a push to reallocate funds and invest in new technologies, according to an analysis by Morgan Stanley strategists. Transcript mentions of ‘operational efficiency’ are at the highest ever in the US during this earnings season as companies focus on expense discipline, but also invest in technologies ‘that can drive future productivity like AI,’ a team led by Michael Wilson wrote in a note.”

February 12 – Financial Times (Antoine Gara): “The founders and top executives of the largest private equity groups in the US have seen the value of their shares rise by more than $40bn since the beginning of 2023 as new assets have poured into their firms. Shares in Blackstone, KKR, Apollo Global, Ares Management and TPG have neared or eclipsed record highs due to better-than-feared financial results. Those earnings were buoyed by growth in the firms’ overall assets, particularly credit and insurance-based investment operations, which benefited from fast-rising interest rates.”

February 12 – Bloomberg (Swetha Gopinath and Kat Hidalgo): “Private equity funds last year returned the lowest amount of cash to their investors since the financial crisis 15 years ago, according to Raymond James… Distributions to so-called limited partners totaled 11.2% of funds’ net asset value, the lowest since 2009 and well below the 25% median figure across the last 25 years… Higher borrowing costs, volatile markets and economic uncertainty have made it more difficult for private equity firms to exit their existing investments through sales or initial public offerings.”

February 12 – Financial Times (Nicholas Megaw): “Biotech companies are rushing to raise money in US equity markets at the fastest rate since the peak of the mid-pandemic market boom. Drug developers raised $6.2bn in equity capital markets in January, according to… Jefferies. That marked the largest total since February 2021… The funding surge marks a sharp turnaround after a two-year deal drought that forced many companies to cut jobs and shelve projects to save costs, and forced some out of business.”

February 12 – Bloomberg (John Gittelsohn): “Nearly 20% of outstanding debt on US commercial and multifamily real estate — $929 billion — will mature this year, requiring refinancing or property sales. The volume of loans coming due swelled 40% from an earlier estimate by the Mortgage Bankers Association of $659 billion, a surge attributed to loan extensions and other delays rather than new transactions.”
February 15 – Wall Street Journal (Konrad Putzier): “Arbor Realty Trust rose from its roots on Long Island, N.Y., to become a property-finance powerhouse. As a major lender to Sunbelt apartment buyers, it helped fuel a speculative real estate frenzy in 2021 and early 2022. That boom ended when interest rates shot up, imperiling borrowers’ ability to make payments on Arbor’s loans that were often repackaged into bonds and sold to investors. Now, the company is contending with a wave of property owners struggling to pay interest on their floating-rate debt. Borrowers of a quarter of Arbor’s securitized debt were late on debt payments as of mid-January… Borrowers of around 9% of the debt were 30 or more days late.”

February 14 – Wall Street Journal (Mike Colias, Nora Eckert and Sean McLain): “The Michigan plant where the F-150 Lightning electric truck is built used to vibrate with excitement. President Biden visited in 2021 and test drove the blazing-fast pickup. Before the first ones even started rolling off the assembly line in the spring of 2022, Ford said it would expand the factory to quadruple the number it could build. That energy is rapidly fading. Ford is cutting the plant’s output by half, and workers are relocating to other facilities… The sudden change ‘was a little bit of a shocker,’ said Matthew Schulte, who inspects trucks at the factory... ‘Reality has set in.’ As recently as a year ago, automakers were struggling to meet the hot demand for electric vehicles. In a span of months, though, the dynamic flipped, leaving them hitting the brakes on what for many had been an all-out push toward an electric transformation.”

February 10 – CNBC (Ray Parisi): “The most expensive home for sale in the U.S. hit the market this week for $295 million. Gordon Pointe, as it’s called, is a roughly 9-acre compound in Naples, Florida, on the Gulf Coast, in an affluent enclave called Port Royal. The mega-listing includes a main house that spans about 11,500 square feet, with six bedrooms. Two guest houses, each over 5,000 square feet, bring the estate’s total interior living space to 22,800 square feet. All three homes are on a peninsula that delivers 1,650 feet of waterfront, a private yacht basin and T-shaped dock.”

U.S./Russia/China/Europe Watch:

February 16 – Financial Times (Courtney Weaver and Henry Foy): “Alexei Navalny, the Russian opposition activist who has been the most prominent critic of President Vladimir Putin’s regime for much of the past decade, has died in a remote Arctic penal colony aged 47… A firebrand campaigner for what he called the ‘beautiful Russia of the future’, Navalny’s detailed investigations exposing state corruption alarmed the Kremlin as much as his ability to inspire hundreds of thousands of people to protest against it. His activism made him the leader of Russia’s true grassroots opposition to Putin’s more than two-decade-long rule, earning him ceaseless intimidation, threats and attacks from the regime and its supporters in retaliation, as well as more than a dozen jail sentences. Behind bars since 2021 with little to no prospect of release, he remained one of the fiercest critics of Putin’s regime and repeatedly condemned Russia’s invasion of Ukraine even amid prison conditions that he said amounted to torture. Navalny was poisoned in August 2020 with the Soviet-developed nerve agent novichok while campaigning in Siberia…”

February 14 – Associated Press (Edith M. Lederer): “Russia and China… accused the United States and Britain of illegally attacking military sites used by Yemen’s Houthi rebels to launch missiles at commercial vessels in the Red Sea, disrupting global shipping. U.S. deputy ambassador Robert Wood and UK Ambassador Barbara Woodward countered that the Houthi attacks are illegal, and their ‘proportionate and legal action’ against the Yemen rebels are being taken in self-defense. Woodward said the Houthi attacks are ‘driving up the costs of global shipping, including the costs of food supplies and humanitarian aid in the region.’

February 14 – New York Times (Julian E. Barnes, Karoun Demirjian, Eric Schmitt and David E. Sanger): “The United States has informed Congress and its allies in Europe about Russian advances on a new, space-based nuclear weapon designed to threaten America’s extensive satellite network… Such a satellite-killing weapon, if deployed, could destroy civilian communications, surveillance from space and military command-and control operations by the United States and its allies. At the moment, the United States does not have the ability to counter such a weapon and defend its satellites, a former official said. Officials said that the new intelligence, which they did not describe in detail, raised serious questions about whether Russia was preparing to abandon the Outer Space Treaty of 1967, which bans all orbital nuclear weapons.”

February 13 – Reuters (Andrius Sytas): “Russia is preparing for a military confrontation with the West within the next decade and could be deterred by a counter build-up of armed forces, Estonia's Foreign Intelligence Service said… A growing number of Western officials have warned of a military threat from Russia to countries along the eastern flank of NATO, calling for Europe to get prepared by rearming. The chief of the intelligence service said the assessment was based on Russian plans to double the number of forces stationed along its border with NATO members Finland and the Baltic States of Estonia, Lithuania and Latvia.”

Inflation Watch:

February 13 – Financial Times (Alexandra Scaggs): “The data underpinning today’s surprisingly hot US inflation report raises one interesting question — well…, at least. What is a ‘transportation service’? It’s one of just a few services costs that drove an acceleration of consumer prices in January: Shelter costs, transportation services and medical services. The latter two are considered ‘core services’, because rent costs can be sticky and Americans don’t necessarily pay increases in owners’ equivalent rent in real time… The cost of insuring an automobile has climbed nearly 21% over the past year... It rose nearly 2% in January without seasonal adjustments.”

February 13 – Financial Times (Ian Smith, Attracta Mooney and Aime Williams): “Michael Heffner had owned his detached house a short drive from the seafront in Virginia Beach, on the US east coast, for exactly one year when his home insurer abruptly cancelled coverage. ‘They just dropped me,’ says Heffner, a US Navy officer. ‘There was no, ‘Hey, do you want to stay on with us if we charge more?’ Nothing.’ Scrambling to find a new insurer, he found his existing premium of about $1,200 a year impossible to replicate. Instead, he received quotes ranging from $2,000 to $3,200… As firms exit some areas and demand higher premiums in others, affordable home insurance cover… is getting harder to secure. The global picture explains why. A run of four consecutive years when overall insurance losses from natural catastrophes have topped $100bn…”

February 15 – Reuters (Lucia Mutikani): “U.S. import prices increased by the most in nearly two years in January amid rising costs for petroleum and other goods, a trend that if sustained, would be bad news in the fight against inflation. Import prices jumped 0.8% last month, the largest gain since March 2022, after a revised 0.7% decline in December…”

February 12 – Reuters (Michael S. Derby): “Americans reported a fairly stable outlook for inflation at the start of the year, as medium-term expectations settled back to levels last seen before the coronavirus pandemic struck… The Federal Reserve Bank of New York said… in its January Survey of Consumer Expectations that inflation a year and five years from now were unchanged at readings of 3% and 2.5%, respectively, while the projected rise in inflation three years from now dropped to 2.4%, the lowest since March 2020, from December’s 2.6%.”

Biden Administration Watch:

February 13 – Reuters (David Morgan and Patricia Zengerle): “Democratic President Joe Biden and a bipartisan group of lawmakers including the top U.S. Senate Republican… urged the Republican-controlled House of Representatives to take up a $95.34 billion military aid package for Ukraine and other allies. The measure passed the Senate in a 70-29 vote shortly before dawn on Tuesday after a hardline group of Republicans spent the night trying to block it. But it was unclear if House Speaker Mike Johnson would even bring it up for a vote in the chamber his party controls by a narrow 219-212 margin.”

Federal Reserve Watch:

February 12 – Bloomberg (Steve Matthews): “Federal Reserve Bank of Richmond President Thomas Barkin said there is a risk that US businesses, which boosted profit margins and sales by raising prices over the last couple of years, may be slow to give up their practice of significant hikes. ‘If you were selling something, it was pretty good’ with higher volumes and profits, Barkin said… at the Atlanta Economics Club... ‘Is it conceivable that’s purely off the table? I don’t think so. I think it’s going to be on the table for a while now.’ ‘I think there’s a real risk that there will be continued inflationary pressure,’ Barkin said.”

February 14 – Bloomberg (Craig Torres and Katanga Johnson): “Federal Reserve Vice Chair for Supervision Michael Barr said the US central bank needs to see more data indicating inflation is heading back to 2% before it begins lowering interest rates. ‘As Chair Powell indicated in his most recent press conference, my FOMC colleagues and I are confident we are on a path to 2% inflation, but we need to see continued good data before we can begin the process of reducing the federal funds rate,’ Barr said… ‘I fully support what he called a careful approach to considering policy normalization given current conditions’… Barr also said stronger-than-expected inflation data released Tuesday was a reminder that the path back to the Fed’s inflation target might be ‘bumpy.’”

February 14 – Reuters (Lindsay Dunsmuir): “The Federal Reserve's path back to its 2% inflation target rate would still be on track even if price increases run a bit hotter-than-expected over the next few months, and the central bank should be wary of waiting too long before it cuts interest rates, Chicago Fed President Austan Goolsbee said… ‘Even if inflation comes in a bit higher for a few would still be consistent with our path back to target,’ Goolsbee said… at an event hosted by the Council on Foreign Relations in New York. ‘I don't support waiting until inflation on a 12-month basis has already achieved 2% to begin to cut rates.’”

February 15 – Bloomberg (Steve Matthews and Alexandra Harris): “Federal Reserve Bank of Atlanta President Raphael Bostic said there’s no rush to cut interest rates with the US labor market and economy still strong, and cautioned it’s not yet clear that inflation is heading sustainably to the central bank’s 2% target. ‘The evidence from data, our surveys, and our outreach says that victory is not clearly in hand, and leaves me not yet comfortable that inflation is inexorably declining to our 2% objective,’ Bostic said… ‘That may be true for some time, even if the January CPI report turns out to be an aberration.’”

February 14 – Reuters (Howard Schneider): “The Federal Reserve bound itself to promises during the coronavirus pandemic that proved too constraining once inflation started to surge, forcing the U.S. central bank to pivot quickly to tight monetary policy, Fed Governor Christopher Waller said in an essay... ‘Overall, the (Federal Open Market Committee's) response to tightening after the COVID pandemic was not textbook,’ requiring an accelerated stop to ongoing asset purchases and the fastest interest rate hikes in 30 years, Waller said in a note co-authored with Fed senior adviser Jane Ihrig. ‘When looking back, there are lessons to be learned’…, chief among them that Fed statements ‘should be careful to use language that allows the Committee the flexibility it needs to respond to changing economic and financial conditions.’”

U.S. Bubble Watch:

February 12 – Bloomberg (Viktoria Dendrinou): “The US budget deficit widened in the four months through January, as debt-servicing costs climbed further. The deficit for the first four months of the 2024 fiscal year reached $532 billion, or 16% more than recorded in the same period in the prior year, Treasury Department data… showed. Interest costs in the four months through January were $357 billion, a 37% jump from 2023.”

February 16 – Bloomberg (Augusta Saraiva): “US consumer sentiment improved for a third month in February as Americans grew more optimistic about the outlook for the economy and inflation. The sentiment index edged up 0.6 point to 79.6, the highest since July 2021, according to… the University of Michigan… Consumers expect prices will climb at an annual rate of 3% over the next year, up from the 2.9% expected in January but close to levels seen in early 2021… They see costs rising 3% over the next 5 to 10 years… A measure of expectations rose to 78.4 this month, the highest since July 2021. Meanwhile, the current conditions gauge edged down to 81.5. Buying conditions for durable goods eased but remained above year-ago levels. While consumers’ perception of their current financial situation improved slightly, their expectations eased.”

February 15 – Dow Jones (Jeffry Bartash): “Strong labor market shows little wear and tear. The numbers: The number of Americans who applied for unemployment benefits in early February fell to a one-month low of 212,000 indicating layoffs remain low nationwide despite sharp job cuts at some big businesses such as UPS. Initial jobless claims slid by 8,000 from 222,000 in the prior week.”

February 15 – Bloomberg (Augusta Saraiva): “US retail sales broadly declined in January, indicating consumers took a breather after a strong holiday shopping season. The value of retail purchases, unadjusted for inflation, decreased 0.8% from December after a downward revision to the prior month… The drop was the biggest in nearly a year.”

February 15 – Bloomberg (Michael Sasso): “Sentiment among US homebuilders rose to a six-month high in February as buyers continued to take advantage of mortgage rates that have fallen from their October peaks… The NAHB’s measure of expected sales increased three points, while gauges of prospective buyer traffic and current sales also rose. Builder sentiment climbed in all four regions of the US, with especially strong gains in the West and Northeast.”

February 16 – Bloomberg (Michael Sasso): “US new-home construction sank at the start of the year by the most since the onset of the pandemic, indicating the recovery in the housing market will be gradual as many buyers await a further decline in mortgage rates. Residential starts decreased 14.8% last month to a 1.3 million annualized rate, after an upward revision to the prior month… Multifamily home construction plummeted by more than 35% after surging in the prior month, while single-family groundbreakings also slowed… Building permits… decreased to a 1.5 million rate. Permits for one-family homes edged higher after rising consistently throughout 2023, and multifamily authorizations fell 7.9%, the most since September.”

February 13 – CNBC (Diana Olick): “After a brief reprieve in December and January, mortgage rates are moving higher again, and that is taking its toll on mortgage demand. Applications for a mortgage to purchase a home dropped 3% for the week and were 12% lower than the same week a year ago. ‘Purchase applications remained subdued as elevated rates continue to add to affordability challenges along with still-low existing housing inventory,’ said Joel Kan, an MBA economist…”

February 14 – Bloomberg (Michael Sasso): “US mortgage rates rose last week to a two-month high, reversing some of the momentum in the nation’s housing recovery. The contract rate on a 30-year fixed mortgage increased 7 bps in the week ended Feb. 9 to 6.87%, the highest since early December…”

China Watch:

February 15 – Wall Street Journal (Lingling Wei and Stella Yifan Xie): “China’s massive property market is crumbling. Xi Jinping wants to revive socialist ideas about housing and put the state back in charge. Home prices across China are falling, developers have gone bust and people are doubting whether real estate will ever be a viable investment again. The meltdown is dragging down growth and spooking investors worldwide. Under the new strategy, the Communist Party would take over a larger share of the market, which for years has been dominated by the private sector. Underpinning it are two major programs… One involves the state buying up distressed private-market projects and converting them into homes that the government would rent out or, in some cases, sell. The other calls for the state itself to build more subsidized housing for low- and middle-income families.”

February 12 – Financial Times (Steve Johnson): “A wave of domestic buying by China’s ‘national team’ of large, state-affiliated institutions helped propel overall net inflows to emerging market equity exchange trade funds to record levels in January. EM equity ETFs took in $23.3bn in January, according to… BlackRock, surpassing the previous record of $22.8bn in January 2022. However, 99% of this money was pumped into ETFs listed in the Asia-Pacific region, in contrast to a more normal month such as December when 30% of EM equity buying was through US-listed ETFs. The wall of buying has Beijing’s fingerprints all over it as Central Huijin, an investment arm of China’s sovereign wealth fund, joined a raft of state-owned insurance companies and asset managers in buying ETFs in an effort to prop up the country’s ailing stock market…”

Global Bubble Watch:

February 12 – Bloomberg (Swati Pandey): “Australia’s services price inflation remains high and is only expected to cool gradually, an outcome that’s crucial to the central bank meeting its objectives, according to Marion Kohler, head of economic analysis at the Reserve Bank. ‘Firms in our liaison program continue to say that they face pressure from higher labor and non-labor costs like professional services, logistics and insurance,” Kohler said… The anticipated ‘decline in services price inflation is necessary for the inflation target to be achieved over time.’”

Central Banker Watch:

February 14 – Bloomberg (Sonja Wind): “History suggests that it’s worse to loosen monetary policy too soon than too late, according to European Central Bank Governing Council member Joachim Nagel. ‘From past experience, it was often more painful if you lowered interest rates too early and then possibly ran into another phase in which prices rose and you then had to take countermeasures,’ the Bundesbank chief told Bloomberg… ‘This means a higher price in the end in economic terms,’ he said, urging officials to be patient in assessing the situation.’”

February 15 – Bloomberg (Mark Schroers and Alexander Weber): “European Central Bank President Christine Lagarde cautioned against rushing into interest-rate cuts as rising salaries become an ever-more significant driver of inflation… ‘The last thing that I would want to see is us making a hasty decision to see inflation rise again and have to take more measures… We do not have enough evidence yet to have the level of confidence that we are going to hit our medium-term 2% target and that it will be sustainably there.’”

February 12 – Financial Times (Sam Fleming and George Parker): “The Bank of England is seeing signs of an ‘upturn’ in the economy, its governor said on Monday, as he played down the significance of upcoming data some analysts say will show the UK was in a technical recession at the end of last year. Andrew Bailey said the BoE’s latest forecasts pointed to a ‘somewhat stronger growth story’ ahead, although he also cautioned that trends in productivity and investment meant there was still a ‘very constrained’ supply side of the economy.”

Europe Watch:

February 12 – Reuters (Marc Jones): “Rating agency Fitch fired a warning shot across Britain's bows…, urging the country's government to keep a tight rein on spending at its upcoming budget or risk another downgrade. Fitch has an AA- grade and a negative outlook - effectively a downgrade warning - on its UK rating and is awaiting the budget next month where the struggling Conservative government is flagging possible tax cuts ahead of an approaching election.”

February 15 – Reuters (Suban Abdulla and Andy Bruce): “Britain's economy fell into a recession in the second half of 2023, a tough backdrop ahead of this year's expected election for Prime Minister Rishi Sunak who has promised to boost growth. Gross domestic product (GDP) contracted by 0.3% in the three months to December, having shrunk by 0.1% between July and September…”

February 12 – Reuters (Tom Sims): “German commercial property prices fell 12.1% in the final three months of 2023 compared with a year earlier in their biggest-ever drop, the VDP banking association said…, as the nation's struggling property industry suffers its worst crisis in decades. For the full year, commercial real estate prices dropped 10.2%... For years, property in Europe and particularly Germany boomed as interest rates fell, turbocharging demand. But a sudden jump in rates and building costs tipped some developers into insolvency as bank financing dried up and deals froze.”

Japan Watch:

February 13 – Bloomberg (Toru Fujioka): “The yen’s rapid fall past 150 against the dollar adds a further complication for the Bank of Japan as it considers the best timing for its first interest rate hike since 2007. Most BOJ watchers expect Governor Kazuo Ueda to raise the policy rate either in March or April. Raising the rate earlier might provide some quicker support for the yen, but economists point out that the central bank will be reluctant to give the impression it is simply responding to market moves. ‘There’s no doubt the yen has become a more important factor for the end of the negative rate,’ said Yuichi Kodama, chief economist at Meiji Yasuda Research Institute. ‘I don’t rule out the chance of liftoff in March, but my base case is still April as long as the yen stays around this level.’”

February 15 – Reuters (Leika Kihara and Tetsushi Kajimoto): “Japan unexpectedly slipped into a recession at the end of last year, losing its title as the world's third-biggest economy to Germany and raising doubts about when the central bank would begin to exit its decade-long ultra-loose monetary policy… Japan's gross domestic product (GDP) fell an annualised 0.4% in the October-December period after a 3.3% slump in the previous quarter…, confounding market forecasts for a 1.4% increase.”

Emerging Market Watch:

February 10 – Bloomberg (Jose Orozco): “Petroleos Mexicanos would be near default without the Mexican government’s support, Moody’s… said, downgrading the state oil company’s debt further into junk territory. The credit rating company lowered Pemex’s corporate debt to B3 from B1 and maintained its negative outlook… ‘Moody’s anticipates Pemex will have to increase its reliance on external funding to counterbalance its negative free cash flow… The company operates with aggressive financial policies reflected in weak liquidity and very high debt levels, resulting in a capital structure that is untenable.’”

Social, Political, Environmental, Cybersecurity Instability Watch:

February 12 – Financial Times (Kenza Bryan): “Governments around the world are intensifying scrutiny on the building of data centres over fears that their huge energy usage is putting excessive pressure on national climate targets and electricity grids. Ireland, Germany, Singapore and China as well as a US county and Amsterdam in the Netherlands have introduced restrictions on new data centres in recent years to comply with more stringent environmental requirements… The environmental impact of data centres… has become a growing issue around the world… Analysts at Barclays warn that governments have yet to take into account the effects of growing internet use on their electricity grids, with curbs of similar ‘severity and frequency’ expected elsewhere in coming years. This could put pressure on the $220bn business of data centre and cloud companies, expected to rise to $418bn by the end of the decade as global data demands surge, according to… Industry ARC. Market research group Dell’Oro, meanwhile, estimates global capital expenditure on data centres to exceed $500bn in 2027.”

February 13 – Reuters (Hyunjoo Jin and Abhirup Roy): “A seasoned San Francisco cab driver might have avoided the intersection of Jackson Street and Grant Avenue, in the heart of the city's Chinatown on the first day of Chinese New Year. An autonomous Waymo robotaxi, by contrast, drove toward the cross streets on Saturday evening, when crowds were blocking all sides and revelers were lighting fireworks… Minutes later, some in the crowd attacked the car and set it on fire. ‘Most normal car drivers know that they have to avoid Chinatown during the Lunar New Year holidays. The computer doesn't understand that,’ said Aaron Peskin, president of the San Francisco Board of Supervisors, who has called for more regulation of self-driving cars. The incident highlighted both the limited ability of robotic cars to make judgment calls and hostility to them for a host of reasons…”

Leveraged Speculation Watch:

February 12 – Reuters (Nell Mackenzie): “Investments to new hedge funds in 2023 fell to new lows, while established hedge funds hiked fees to the highest on record, said… Goldman Sachs... This illustrates a growing bias towards established and bigger hedge funds that average higher returns for their investors, said Goldman Sachs. Hedge fund launches fell in Europe and the Asia Pacific region by 6% and 8% while rising 14% in the U.S. But Goldman Sachs still maintained that 2023 marked a second consecutive record low for new launches... However, management fees… rose to their highest since 2012, Goldman Sachs said.”

Geopolitical Watch:

February 11 – Associated Press (Amir Vahdat): “Iran marked Sunday the 45th anniversary of the 1979 Islamic Revolution amid tensions gripping the wider Middle East over Israel’s continued war on Hamas in the Gaza Strip. Thousands of Iranians marched through major streets and squares decorated with flags, balloons and banners with revolutionary and religious slogans. In Tehran, crowds waved Iranian flags, chanted slogans, and carried placards with the traditional ‘Death to America’ and ‘Death to Israel’ written on them. Some burned U.S. and Israeli flags, a common practice in pro-government rallies.”

February 14 – Bloomberg: “Two explosions along Iran's main south-north gas pipeline network on Wednesday were caused by sabotage, the Iranian oil minister told state TV... Authorities also denied reports that the incident caused gas cuts to industries and offices in some provinces, state media reported. ‘This terrorist act of sabotage occurred… on Wednesday morning in the network of national gas transmission pipelines in two regions of the country,’ Minister Javad Owji said.”

February 16 – Bloomberg (Andreo Calonzo): “The Philippines said it will respond to any ‘dangerous’ maneuvers by China in a disputed South China Sea shoal, where Manila has started rotating vessels this month amid heightened tensions with Beijing. The Southeast Asian nation’s coast guard and fisheries bureau ‘will maintain professionalism in dealing with any unlawful and provocative behavior’ by Chinese vessels in Scarborough Shoal, National Security Adviser Eduardo Ano said…”