[Reuters] Hong Kong's mortgage lenders doing booming business in the shadows
[Barron's] Man vs. Machine: How Has Indexing Changed the Market?
[The Hill] GOP pessimism rising on ObamaCare repeal
[FT] Federal Reserve hits back at monetary policy critics
[FT] What will Janet Yellen say about US rates policy before Congress?
[FT] Volatility flickers back to life in financial markets
Saturday, July 8, 2017
Saturday's News Links
[Bloomberg] U.S. Squeezes Steel Concessions From G-20 After Tariff Threat
[Reuters] G20 communique agreed apart from climate issue: EU officials
[Bloomberg] ECB's Villeroy Sees Autumn as the Season to Adapt Stimulus Plan
[Bloomberg] ECB Officials Disagree on How Much Is Too Much for Stimulus Plan
[FT] The shadow of tighter money falls on markets
[FT] BlackRock exchange traded funds hit new record inflows of $140bn
[Reuters] G20 communique agreed apart from climate issue: EU officials
[Bloomberg] ECB's Villeroy Sees Autumn as the Season to Adapt Stimulus Plan
[Bloomberg] ECB Officials Disagree on How Much Is Too Much for Stimulus Plan
[FT] The shadow of tighter money falls on markets
[FT] BlackRock exchange traded funds hit new record inflows of $140bn
Friday, July 7, 2017
Weekly Commentary: Wonderful Monetary Policy and Beautiful Deleveragings
“Generally speaking (depending on the country), it is appropriate for central banks to lessen the aggressiveness of their unconventional policies because these policies have successfully brought about beautiful deleveragings. In my opinion, at this point of transition, we should savor this accomplishment and thank the policy makers who fought to bring about these policies. They had to fight hard to do it and have been more maligned than appreciated. Let’s thank them.” Ray Dalio, July 6, 2017
I find his choice of words inflammatory, but I guess when you’re worth $16.8bn (Forbes) you can write what and how you please. In past CBBs I took strong exception with Ray Dalio’s “beautiful deleveraging” thesis. Data these days speak incontrovertibly to the fact that from a systemic standpoint there has been a huge accumulation of additional debt – at home and globally. The notion of deleveraging is a myth. It is the unprecedented inflation of “money” at the very foundation of global finance that is real. As for “wonderful monetary policy,” at best the jury’s still out. I’ll be shocked if we look back in five or ten years and tag this period’s monetary management in a positive light.
Dalio is somewhat of an enigma. Highly intelligent and hugely successful in the markets ($160bn hedge fund empire), he is one of this era’s foremost “deep thinkers”. I enjoy reading his analysis and share his concerns for social and geopolitical instability. But I see flawed monetary management - and resulting Bubbles/busts and wealth redistribution/destruction - as a major agent to these instabilities. Dalio sees “wonderful monetary policy” as a positive force, while I see radical policy experimentation with disastrous consequences.
It’s what Dalio doesn’t address that I find most intriguing: How much financial sector leverage has accumulated over the past nine years of near-zero rates and unprecedented central bank market liquidity injections and backstopping? How has the expansion of global financial sector leverage (including central bank balance sheets and speculative leveraging) distorted traditional indicators of systemic stability – such as corporate and household debt, debt service capacity and market risk premia.
Monetary policy and associated financial leveraging have significantly reduced debt service burdens for going on a decade, in the process lessening overall debt growth for households and businesses alike. I would also argue that Trillions of liquidity injections into the markets have flowed into real economies, again working to mitigate private-sector debt accumulation. The massive inflation of central bank and government balance sheets has indeed improved the outward appearance of private-sector finances. This has superficially “brought about balance sheet repairs” for traditional weak-link household and corporate borrowers. I’m just not convinced these remain the most germane structures for gauging global Bubble systemic fragilities.
Dalio has been a hedge fund “risk parity” pioneer. “Risk parity is a portfolio allocation strategy based on targeting risk levels across the various components of an investment portfolio… Risk parity considers four different components: equities, credit, interest rates and commodities, and attempts to spread risk evenly across the asset classes. The goal of risk parity investing is to earn the same level of return with less volatility and risk, or to realize better returns with an equal amount of risk and volatility…” (Investopedia).
Few strategies have so greatly benefited from nine years of radical monetary management. A portfolio of diversified asset classes (most notably equities, bonds and corporate Credit) - all enjoying simultaneous central bank-induced price inflation - has been a huge and surefire winner. The more leverage the better. And, importantly, no drag on performance from hedging or de-risking during recurring bouts of market instability, not with the inherent market “hedge” from managing a diversified portfolio with a significant bond component. It’s just been the best of all worlds.
“Wonderful Monetary Policy” has ensured that any successful strategy is inundated with financial inflows. Dalio’s Bridgewater has seen assets under management swell to $160 billion. Hundreds of billions more have gravitated to similar strategies. The proliferation of diversified multi-asset class strategies (leveraged and otherwise) has been a powerful force behind the synchronized inflation of prices for securities and corporate Credit across the globe. As central banks prepare to remove aggressive stimulus, I would expect many strategies that have enjoyed long (nine years!) and consistent success to now face significant challenges.
July 7 – Bloomberg (Dani Burger): “Hawkish signals from central bankers have punished stocks and bonds alike in the past week. Also punished: investors who make a living operating in several asset classes at once. They’ve been stung by the concerted selloff that lifted 10-year Treasury yields by 25 bps and sent tech stocks to the biggest losses in 16 months. Among the hardest-hit were systematic funds who -- either to diversify or maximize gains -- dip their toes in a hodgepodge of different markets all at the same time. Losses stand out in two of the best-known quant strategies, trend-following traders known as commodity trading advisers, and risk parity funds. CTAs dropped 5.1% over the past two weeks, their worst stretch since 2007, according to a Societe General SA database of the 20 largest managers. The Salient Risk Parity Index dropped 1.8%, the most in four months.”
Dalio: “Central bankers have clearly and understandably told us that henceforth those flows from their punch bowls will be tapered rather than increased—i.e., that the directions of policy are reversing so we are at a) the end of that nine-year era of continuous pressings down on interest rates and pushing out of money that created the liquidity-fueled moves in the economies and markets, and b) the beginning of the late-cycle phase of the business/short-term debt cycle, in which central bankers try to tighten at paces that are exactly right in order to keep growth and inflation neither too hot nor too cold, until they don’t get it right and we have our next downturn. Recognizing that, our responsibility now is to keep dancing but closer to the exit and with a sharp eye on the tea leaves.”
Fascinating analysis. “Central bankers have clearly and understandably told us that henceforth those flows from their punch bowls will be tapered… that the directions of policy are reversing… Our responsibility now is to keep dancing but closer to the exit and with a sharp eye on the tea leaves.”
The problem is that tea leaves reading “head for the exits” risk inciting a stampede. These fund complexes and speculative strategies have become gigantic within an overall marketplace structure more vulnerable than ever. In what will now be a common theme, who will take the other side of the trade when the enormous “risk parity” crowd moves to de-risk. Who will have the wherewithal to step up and buy when asset prices across the board come under pressure? How quickly will perceived low-risk strategies face major redemptions when performance turns sour? This has become a systemic issue, recognizing the massive flows into equities, bonds and corporate Credit – with the ETF complex surpassing $4.0 TN of assets. There has never been anything similar to trend-following (speculative) finance so dictating market dynamics.
This is not some nebulous issue going unexplored by market players. There are, however, three key aspects to this issue that are unknowable – and have, to this point, been easily dismissed in the exuberance of a central bank-administered marketplace: First, how much leverage has been employed throughout the securities markets – in the U.S. and globally? Second, how much embedded leverage has accumulated in global derivatives markets? And third, what is the scope of market risk that has (or expects to be) offloaded to dynamically hedged derivatives trading strategies (that will be forced to sell into declining markets to hedge exposures)?
And a few thoughts on Dalio’s, “The beginning of the late-cycle phase of the business/short-term debt cycle, in which central bankers try to tighten at paces that are exactly right in order to keep growth and inflation neither too hot nor too cold, until they don’t get it right and we have our next downturn.”
I have issues with such analysis. “Central bankers” trying to get things “exactly right”? The next downturn comes when they “don’t get it right”? Well, let’s not lose sight of the reality that central bankers are nine years into an unprecedented reflationary experiment. To this point, rightly or wrongly, they’ve orchestrated historic securities and asset market inflation. Yet central banks will at some point lose control of the global financial Bubble, at which time they will have fully lost control of inflation and growth dynamics. The notion that this continues so long as they “get it right” really suggests that central bankers must remain pro-Bubble.
It’s these days not difficult to explain how the structure of the U.S. household balance sheet appears in good shape (net worth approaching $100 TN!). The structure of the corporate balance sheet is surely solid as well, at least from the perspective of strong earnings and cash-flow. With rates so low and markets abundantly liquid, it’s easy to argue that the federal government balance sheet, while having ballooned massively, remains quite manageable. Conventional analysis, then, views the entire structure of the greater U.S. balance sheet as solid and immune to crisis dynamics.
Yet traditional analysis misses the prevailing vulnerability that emanates from this most unusual of Credit and Speculative Cycles: The Structure of Global Financial Market Risk. Central banks inflated an unprecedented market Bubble, slashing rates, adding Trillions of liquidity and repeatedly intervening to stem fledgling “Risk Off” Dynamics. Perceptions of low risk have over years stoked the accumulation of unprecedented systemic risk (including price, liquidity, Credit, counterparty, policy, economic, social, political, geopolitical and so on)
Over nine years, this has led to deeply embedded market misperceptions, perhaps most importantly that risk assets enjoy money-like attributes of liquidity and safety. Moreover, that central banks will ensure rising asset prices. These misperceptions have spurred Trillions of flows, with a major chunk jumping aboard the equity and fixed-income bull markets via the ETF complex.
Within the leveraged speculating community, hundreds of billions flowed into “risk parity,” CTAs (“a CTA fund is a hedge fund that uses futures contracts to achieve its investment objective”) and other trend-following strategies. Meanwhile, zero rates and central bank control over securities markets have ensured a derivatives boom like no other – derivatives to leverage securities, to employ international “carry trade” speculations, to exploit Credit spreads, to write myriad variations of market “insurance,” to hedge risk and to implement about whatever strategy imaginable.
I would posit that global market Bubbles today rest tenuously upon the false premise that central banks can get it right when it comes to managing market risk and liquidity. In reality, central banks have created an Unsustainable Market Structure with increasingly acute latent fragilities. It’s impossible to “get it right,” because Bubbles are by their nature unsustainable.
Today’s global Bubble works only so long as securities values continue to inflate. Market inflation is dependent upon unrelenting central bank stimulus and backstops. It will all falter badly in reverse. And all the “money” that has chased central bank-induced market returns – from “risk parity” to corporate bond and equity index ETFs to derivatives strategies – creates vulnerability to an abrupt shift in perceptions, followed by illiquidity and market dislocation.
Markets this week were again showing indications of vulnerability. Global yields remain on the rise. German bund yields jumped 11 bps to an 18-month high 0.57%. French yields rose 13 bps to 0.94%. The largest yield spikes, however, were at the “periphery.” Italian and Spanish 10-year yields surged 19 bps to 2.34% and 1.73% - with Italian yields near two-year highs.
It’s also worth noting that emerging bond markets faced increased selling (EM bond ETF down 1.3% this week). Local EM bond markets were under heavy selling pressure. Ten-year yields surged 28 bps in Turkey, 21 bps in Indonesia, 21 bps in Russia, 22 bps in Colombia, 12 bps in Brazil and 11 bps in South Africa. Dollar-denominated EM bonds were not spared. Yields rose 20 bps in Turkey, 19 bps in Argentina, 13 bps in Brazil, 12 bps in Mexico, 15 bps in Colombia and 10 bps in Russia.
July 6 – Bloomberg (Liz McCormick and Lananh Nguyen): “With yields surging across major economies as more central banks hint at joining the Federal Reserve in tightening policy, strategists are pointing to a likely loser: emerging-market currencies. The fallout is already being felt in the foreign-exchange market as investors eye the end of an era of unprecedented stimulus. An MSCI index of emerging-market currencies hovered near a seven-week low Thursday as yields on Treasuries and bunds rose to fresh highs. In 2006, the last time investors braced for steeper borrowing costs in the biggest economies, the index lost almost 5% of its value in a span of weeks, while developing-market stocks plunged.”
When it comes to Market Structures vulnerable after nine years of runaway global monetary stimulus, look no further than EM. Despite all the corruption, fraud, political turmoil and nonsense that one would anticipate from a prolonged period of egregiously easy “money,” finance has nonetheless flowed lavishly to EM (with its relatively high-yielding debt markets and growth opportunities). Over recent months, with blow-off dynamics enveloping risk markets worldwide, huge flows gravitated to EM. Much of this “money” was intermediated through the ETF complex. How much was purely trend-following?
While traditional analysis would look first to U.S. economic fundamentals (including household and corporate debt, earnings, employment and inflation) for indications of underlying market vulnerability, I would point instead to Global Market Bubble Dynamics – while reminding readers that the current backdrop is distinct to previous Bubble experiences. As such, market indicators this week at the periphery – EM as well as European – were flashing heightened susceptibility to de-risking/de-leveraging and the potential for liquidity challenges. Considering the enormity of recent flows, perhaps EM will provide an early test for the thesis of Market Structural Vulnerabilities.
Here at home, 10-year Treasury yields rose eight bps to 2.39%. In equities, there was more of this choppy topping-action rotation away from tech/high-flyers and into financials/laggards. Corporate debt markets are beginning to feel the strain of rising global yields. High-yield bond funds saw another $1.1bn of outflows, though investment-grade corporates are still attracting large inflows. The high-yield ETF (HYG) traded near a two-month low. Commodities, as well, seemed to support the thesis of fledgling “Risk Off” and waning liquidity. With crude down almost 4%, the GSCI Commodities Index dropped 1.8%. Copper fell 2.4% and gold lost 2.3%. But it was wild trading in silver (down 7.2%) that might have provided a harbinger of more general market liquidity issues to come.
That Treasuries, equities, corporate Credit and commodities all seem to be indicating a (thus far subtle) shift in market liquidity, we can look to “risk parity” - and similar multi-asset class strategies that incorporate leverage – as a possible weak link in a Vulnerable Global Market Structure. And we’re supposed to savor this moment and pay a debt of gratitude to courageous central bankers? Strange world.
I find his choice of words inflammatory, but I guess when you’re worth $16.8bn (Forbes) you can write what and how you please. In past CBBs I took strong exception with Ray Dalio’s “beautiful deleveraging” thesis. Data these days speak incontrovertibly to the fact that from a systemic standpoint there has been a huge accumulation of additional debt – at home and globally. The notion of deleveraging is a myth. It is the unprecedented inflation of “money” at the very foundation of global finance that is real. As for “wonderful monetary policy,” at best the jury’s still out. I’ll be shocked if we look back in five or ten years and tag this period’s monetary management in a positive light.
Dalio is somewhat of an enigma. Highly intelligent and hugely successful in the markets ($160bn hedge fund empire), he is one of this era’s foremost “deep thinkers”. I enjoy reading his analysis and share his concerns for social and geopolitical instability. But I see flawed monetary management - and resulting Bubbles/busts and wealth redistribution/destruction - as a major agent to these instabilities. Dalio sees “wonderful monetary policy” as a positive force, while I see radical policy experimentation with disastrous consequences.
It’s what Dalio doesn’t address that I find most intriguing: How much financial sector leverage has accumulated over the past nine years of near-zero rates and unprecedented central bank market liquidity injections and backstopping? How has the expansion of global financial sector leverage (including central bank balance sheets and speculative leveraging) distorted traditional indicators of systemic stability – such as corporate and household debt, debt service capacity and market risk premia.
Monetary policy and associated financial leveraging have significantly reduced debt service burdens for going on a decade, in the process lessening overall debt growth for households and businesses alike. I would also argue that Trillions of liquidity injections into the markets have flowed into real economies, again working to mitigate private-sector debt accumulation. The massive inflation of central bank and government balance sheets has indeed improved the outward appearance of private-sector finances. This has superficially “brought about balance sheet repairs” for traditional weak-link household and corporate borrowers. I’m just not convinced these remain the most germane structures for gauging global Bubble systemic fragilities.
Dalio has been a hedge fund “risk parity” pioneer. “Risk parity is a portfolio allocation strategy based on targeting risk levels across the various components of an investment portfolio… Risk parity considers four different components: equities, credit, interest rates and commodities, and attempts to spread risk evenly across the asset classes. The goal of risk parity investing is to earn the same level of return with less volatility and risk, or to realize better returns with an equal amount of risk and volatility…” (Investopedia).
Few strategies have so greatly benefited from nine years of radical monetary management. A portfolio of diversified asset classes (most notably equities, bonds and corporate Credit) - all enjoying simultaneous central bank-induced price inflation - has been a huge and surefire winner. The more leverage the better. And, importantly, no drag on performance from hedging or de-risking during recurring bouts of market instability, not with the inherent market “hedge” from managing a diversified portfolio with a significant bond component. It’s just been the best of all worlds.
“Wonderful Monetary Policy” has ensured that any successful strategy is inundated with financial inflows. Dalio’s Bridgewater has seen assets under management swell to $160 billion. Hundreds of billions more have gravitated to similar strategies. The proliferation of diversified multi-asset class strategies (leveraged and otherwise) has been a powerful force behind the synchronized inflation of prices for securities and corporate Credit across the globe. As central banks prepare to remove aggressive stimulus, I would expect many strategies that have enjoyed long (nine years!) and consistent success to now face significant challenges.
July 7 – Bloomberg (Dani Burger): “Hawkish signals from central bankers have punished stocks and bonds alike in the past week. Also punished: investors who make a living operating in several asset classes at once. They’ve been stung by the concerted selloff that lifted 10-year Treasury yields by 25 bps and sent tech stocks to the biggest losses in 16 months. Among the hardest-hit were systematic funds who -- either to diversify or maximize gains -- dip their toes in a hodgepodge of different markets all at the same time. Losses stand out in two of the best-known quant strategies, trend-following traders known as commodity trading advisers, and risk parity funds. CTAs dropped 5.1% over the past two weeks, their worst stretch since 2007, according to a Societe General SA database of the 20 largest managers. The Salient Risk Parity Index dropped 1.8%, the most in four months.”
Dalio: “Central bankers have clearly and understandably told us that henceforth those flows from their punch bowls will be tapered rather than increased—i.e., that the directions of policy are reversing so we are at a) the end of that nine-year era of continuous pressings down on interest rates and pushing out of money that created the liquidity-fueled moves in the economies and markets, and b) the beginning of the late-cycle phase of the business/short-term debt cycle, in which central bankers try to tighten at paces that are exactly right in order to keep growth and inflation neither too hot nor too cold, until they don’t get it right and we have our next downturn. Recognizing that, our responsibility now is to keep dancing but closer to the exit and with a sharp eye on the tea leaves.”
Fascinating analysis. “Central bankers have clearly and understandably told us that henceforth those flows from their punch bowls will be tapered… that the directions of policy are reversing… Our responsibility now is to keep dancing but closer to the exit and with a sharp eye on the tea leaves.”
The problem is that tea leaves reading “head for the exits” risk inciting a stampede. These fund complexes and speculative strategies have become gigantic within an overall marketplace structure more vulnerable than ever. In what will now be a common theme, who will take the other side of the trade when the enormous “risk parity” crowd moves to de-risk. Who will have the wherewithal to step up and buy when asset prices across the board come under pressure? How quickly will perceived low-risk strategies face major redemptions when performance turns sour? This has become a systemic issue, recognizing the massive flows into equities, bonds and corporate Credit – with the ETF complex surpassing $4.0 TN of assets. There has never been anything similar to trend-following (speculative) finance so dictating market dynamics.
This is not some nebulous issue going unexplored by market players. There are, however, three key aspects to this issue that are unknowable – and have, to this point, been easily dismissed in the exuberance of a central bank-administered marketplace: First, how much leverage has been employed throughout the securities markets – in the U.S. and globally? Second, how much embedded leverage has accumulated in global derivatives markets? And third, what is the scope of market risk that has (or expects to be) offloaded to dynamically hedged derivatives trading strategies (that will be forced to sell into declining markets to hedge exposures)?
And a few thoughts on Dalio’s, “The beginning of the late-cycle phase of the business/short-term debt cycle, in which central bankers try to tighten at paces that are exactly right in order to keep growth and inflation neither too hot nor too cold, until they don’t get it right and we have our next downturn.”
I have issues with such analysis. “Central bankers” trying to get things “exactly right”? The next downturn comes when they “don’t get it right”? Well, let’s not lose sight of the reality that central bankers are nine years into an unprecedented reflationary experiment. To this point, rightly or wrongly, they’ve orchestrated historic securities and asset market inflation. Yet central banks will at some point lose control of the global financial Bubble, at which time they will have fully lost control of inflation and growth dynamics. The notion that this continues so long as they “get it right” really suggests that central bankers must remain pro-Bubble.
It’s these days not difficult to explain how the structure of the U.S. household balance sheet appears in good shape (net worth approaching $100 TN!). The structure of the corporate balance sheet is surely solid as well, at least from the perspective of strong earnings and cash-flow. With rates so low and markets abundantly liquid, it’s easy to argue that the federal government balance sheet, while having ballooned massively, remains quite manageable. Conventional analysis, then, views the entire structure of the greater U.S. balance sheet as solid and immune to crisis dynamics.
Yet traditional analysis misses the prevailing vulnerability that emanates from this most unusual of Credit and Speculative Cycles: The Structure of Global Financial Market Risk. Central banks inflated an unprecedented market Bubble, slashing rates, adding Trillions of liquidity and repeatedly intervening to stem fledgling “Risk Off” Dynamics. Perceptions of low risk have over years stoked the accumulation of unprecedented systemic risk (including price, liquidity, Credit, counterparty, policy, economic, social, political, geopolitical and so on)
Over nine years, this has led to deeply embedded market misperceptions, perhaps most importantly that risk assets enjoy money-like attributes of liquidity and safety. Moreover, that central banks will ensure rising asset prices. These misperceptions have spurred Trillions of flows, with a major chunk jumping aboard the equity and fixed-income bull markets via the ETF complex.
Within the leveraged speculating community, hundreds of billions flowed into “risk parity,” CTAs (“a CTA fund is a hedge fund that uses futures contracts to achieve its investment objective”) and other trend-following strategies. Meanwhile, zero rates and central bank control over securities markets have ensured a derivatives boom like no other – derivatives to leverage securities, to employ international “carry trade” speculations, to exploit Credit spreads, to write myriad variations of market “insurance,” to hedge risk and to implement about whatever strategy imaginable.
I would posit that global market Bubbles today rest tenuously upon the false premise that central banks can get it right when it comes to managing market risk and liquidity. In reality, central banks have created an Unsustainable Market Structure with increasingly acute latent fragilities. It’s impossible to “get it right,” because Bubbles are by their nature unsustainable.
Today’s global Bubble works only so long as securities values continue to inflate. Market inflation is dependent upon unrelenting central bank stimulus and backstops. It will all falter badly in reverse. And all the “money” that has chased central bank-induced market returns – from “risk parity” to corporate bond and equity index ETFs to derivatives strategies – creates vulnerability to an abrupt shift in perceptions, followed by illiquidity and market dislocation.
Markets this week were again showing indications of vulnerability. Global yields remain on the rise. German bund yields jumped 11 bps to an 18-month high 0.57%. French yields rose 13 bps to 0.94%. The largest yield spikes, however, were at the “periphery.” Italian and Spanish 10-year yields surged 19 bps to 2.34% and 1.73% - with Italian yields near two-year highs.
It’s also worth noting that emerging bond markets faced increased selling (EM bond ETF down 1.3% this week). Local EM bond markets were under heavy selling pressure. Ten-year yields surged 28 bps in Turkey, 21 bps in Indonesia, 21 bps in Russia, 22 bps in Colombia, 12 bps in Brazil and 11 bps in South Africa. Dollar-denominated EM bonds were not spared. Yields rose 20 bps in Turkey, 19 bps in Argentina, 13 bps in Brazil, 12 bps in Mexico, 15 bps in Colombia and 10 bps in Russia.
July 6 – Bloomberg (Liz McCormick and Lananh Nguyen): “With yields surging across major economies as more central banks hint at joining the Federal Reserve in tightening policy, strategists are pointing to a likely loser: emerging-market currencies. The fallout is already being felt in the foreign-exchange market as investors eye the end of an era of unprecedented stimulus. An MSCI index of emerging-market currencies hovered near a seven-week low Thursday as yields on Treasuries and bunds rose to fresh highs. In 2006, the last time investors braced for steeper borrowing costs in the biggest economies, the index lost almost 5% of its value in a span of weeks, while developing-market stocks plunged.”
When it comes to Market Structures vulnerable after nine years of runaway global monetary stimulus, look no further than EM. Despite all the corruption, fraud, political turmoil and nonsense that one would anticipate from a prolonged period of egregiously easy “money,” finance has nonetheless flowed lavishly to EM (with its relatively high-yielding debt markets and growth opportunities). Over recent months, with blow-off dynamics enveloping risk markets worldwide, huge flows gravitated to EM. Much of this “money” was intermediated through the ETF complex. How much was purely trend-following?
While traditional analysis would look first to U.S. economic fundamentals (including household and corporate debt, earnings, employment and inflation) for indications of underlying market vulnerability, I would point instead to Global Market Bubble Dynamics – while reminding readers that the current backdrop is distinct to previous Bubble experiences. As such, market indicators this week at the periphery – EM as well as European – were flashing heightened susceptibility to de-risking/de-leveraging and the potential for liquidity challenges. Considering the enormity of recent flows, perhaps EM will provide an early test for the thesis of Market Structural Vulnerabilities.
Here at home, 10-year Treasury yields rose eight bps to 2.39%. In equities, there was more of this choppy topping-action rotation away from tech/high-flyers and into financials/laggards. Corporate debt markets are beginning to feel the strain of rising global yields. High-yield bond funds saw another $1.1bn of outflows, though investment-grade corporates are still attracting large inflows. The high-yield ETF (HYG) traded near a two-month low. Commodities, as well, seemed to support the thesis of fledgling “Risk Off” and waning liquidity. With crude down almost 4%, the GSCI Commodities Index dropped 1.8%. Copper fell 2.4% and gold lost 2.3%. But it was wild trading in silver (down 7.2%) that might have provided a harbinger of more general market liquidity issues to come.
That Treasuries, equities, corporate Credit and commodities all seem to be indicating a (thus far subtle) shift in market liquidity, we can look to “risk parity” - and similar multi-asset class strategies that incorporate leverage – as a possible weak link in a Vulnerable Global Market Structure. And we’re supposed to savor this moment and pay a debt of gratitude to courageous central bankers? Strange world.
For the Week:
The S&P500 was little changed (up 8.3% y-t-d), while the Dow added 0.3% (up 8.4%). The Utilities declined 0.8% (up 5.4%). The Banks jumped 1.6% (up 5.8%), and the Broker/Dealers added 0.6% (up 0.6%). The Transports rose 1.4% (up 7.2%). The S&P 400 Midcaps were unchanged (up 5.2%), and the small cap Russell 2000 was little changed (up 4.3%). The Nasdaq100 increased 0.2% (up 16.3%), and the Morgan Stanley High Tech index added 0.2% (up 20.5%). The Semiconductors recovered 1.9% (up 16.4%). The Biotechs gained 1.2% (up 27%). With bullion sinking $28, the HUI gold index fell 3.7% (down 1.9%).
Three-month Treasury bill rates ended the week at 101 bps. Two-year government yields added two bps to 1.40% (up 21bps y-t-d). Five-year T-note yields gained six bps to 1.95% (up 2bps). Ten-year Treasury yields rose eight bps to 2.39% (down 6bps). Long bond yields jumped nine bps to 2.93% (down 14bps).
Greek 10-year yields were unchanged at 5.36% (down 166bps y-t-d). Ten-year Portuguese yields rose 13 bps to 3.16% (down 59bps). Italian 10-year yields surged 19 bps to 2.34% (up 53bps). Spain's 10-year yields rose 19 bps to 1.73% (up 35bps). German bund yields gained 11 bps to 0.57% (up 37bps). French yields jumped 13 bps to 0.94% (up 26bps). The French to German 10-year bond spread widened two bps to 37 bps. U.K. 10-year gilt yields increased five bps to 1.31% (up 7bps). U.K.'s FTSE equities index gained 0.5% (up 2.9%).
Japan's Nikkei 225 equities index slipped 0.5% (up 4.3% y-t-d). Japanese 10-year "JGB" yields were unchanged at 0.09% (up 5bps). France's CAC40 gained 0.5% (up 5.8%). The German DAX equities index rose 0.5% (up 7.9%). Spain's IBEX 35 equities index added 0.4% (up 12.2%). Italy's FTSE MIB index recovered 2.1% (up 9.3%). EM equities were mixed to lower. Brazil's Bovespa index declined 0.9% (up 3.5%), while Mexico's Bolsa increased 0.4% (up 9.7%). South Korea's Kospi fell 0.5% (up 17.4%). India’s Sensex equities index gained 1.4% (up 17.8%). China’s Shanghai Exchange added 0.8% (up 3.7%). Turkey's Borsa Istanbul National 100 index dipped 0.4% (up 28.1%). Russia's MICEX equities index rallied 1.8% (down 14.3%).
Junk bond mutual funds saw outflows of $1.155 billion (from Lipper).
Freddie Mac 30-year fixed mortgage rates jumped eight bps to 3.96% (up 55bps y-o-y). Fifteen-year rates rose five bps to 3.22% (up 48bps). The five-year hybrid ARM rate gained four bps to 3.21% (up 53bps). Bankrate's survey of jumbo mortgage borrowing costs had 30-yr fixed rates up nine bps to 4.10% (up 46bps).
Federal Reserve Credit last week declined $4.1bn to $4.427 TN. Over the past year, Fed Credit dipped $2.8bn. Fed Credit inflated $1.616 TN, or 58%, over the past 243 weeks. Elsewhere, Fed holdings for foreign owners of Treasury, Agency Debt gained $8.2bn last week to $3.316 TN. "Custody holdings" were up $86.6bn y-o-y, or 2.7%.
M2 (narrow) "money" supply last week jumped $35.7bn to a record $13.546 TN. "Narrow money" expanded $708bn, or 5.5%, over the past year. For the week, Currency increased $2.1bn. Total Checkable Deposits surged $45.6bn, while Savings Deposits declined $10.9bn. Small Time Deposits were little changed. Retail Money Funds dipped $1.8bn.
Total money market fund assets gained $4.7bn to $2.627 TN. Money Funds fell $74bn y-o-y (2.7%).
Total Commercial Paper dropped $26.8bn to $946.8bn. CP declined $93bn y-o-y, or 8.9%.
Currency Watch:
The U.S. dollar index recovered 0.4% to 96.008 (down 6.2% y-t-d). For the week on the upside, the Brazilian real increased 0.8%, the Canadian dollar 0.7%, the Mexican peso 0.2%, and the Swedish krona 0.1%. For the week on the downside, the South African rand declined 2.3%, the Japanese yen 1.3%, the Australian dollar 1.1%, the British pound 1.0%, the South Korean won 0.9%, the New Zealand dollar 0.7%, the Swiss franc 0.6%, the Singapore dollar 0.4%, the Norwegian krone 0.3% and the euro 0.2%. The Chinese renminbi declined 0.36% versus the dollar this week (up 2.05% y-t-d).
Commodities Watch:
The Goldman Sachs Commodities Index dropped 1.8% (down 8.3% y-t-d). Spot Gold lost 2.3% to $1,213 (up 5.3%). In wild trading, Silver sank 7.2% to $15.425 (down 4%). Crude fell $3.91 to $44.23 (down 18%). Gasoline declined 1.0% (down 10%), and Natural Gas sank 5.6% (down 23%). Copper dropped 2.4% (up 6%). Wheat gained another 1.7% (up 31%). Corn rose 3.0% (up 12%).
Trump Administration Watch:
July 3 – Wall Street Journal (Kristina Peterson and Michelle Hackman): “Republican senators back home on recess this week are hearing from some influential critics of their health-law effort: GOP governors, many of whom are urging them to push back on the legislation because it would cut Medicaid funding. Governors of states including Ohio, Nevada and Arkansas, which stand to lose billions of dollars in Medicaid funding under the Senate bill, want senators to keep as much of that money as possible.”
July 1 – Financial Times (Demetri Sevastopulo, Tom Mitchell and Charles Clover): “China lashed out at the US… in protest at an apparent sea change in the Trump administration’s policy towards Beijing as the White House prepared to slap punitive restrictions on Chinese steel imports, agreed an arms deal with Taiwan, and sanctioned a Chinese bank. Cui Tiankai, the Chinese ambassador to Washington, criticised the $1.4bn Taiwanese weapons deal and what he called the ‘long-arm jurisdiction’ of the US in sanctioning Chinese companies… The deteriorating relations come less than 100 days since Mr Trump hosted Mr Xi at his Mar-a-Lago estate and said the leaders would have a ‘very great relationship’. Since then, the White House has become frustrated China was not doing enough to pressure North Korea to abandon its ballistic missile and nuclear programmes.”
July 2 – Time (Charlie Campbell): “The honeymoon, it appears, is over. On Sunday, Beijing warned the U.S. government that sending an American naval vessel into territorial waters it claims around the Paracel Islands in the disputed South China Sea was a ‘serious political and military provocation,’ in the latest of a slew of incidents that augur souring relations… Foreign Ministry spokesperson Lu Kang said… that China sent military vessels and fighter planes to ward off the USS Stethem, warning that approaching the Paracels, which are known as the Xisha Islands in China and are also claimed by Taiwan and Vietnam, ‘violated Chinese and international law, infringed upon China's sovereignty, disrupted peace, security and order of the relevant waters and put in jeopardy the facilities and personnel on the Chinese islands,’ according to the state-run China Daily newspaper.”
China Bubble Watch:
July 5 – Reuters (Yawen Chen and Ryan Woo): “China's services sector grew at a slower pace in June as new orders slumped, signaling renewed pressure on businesses after a pickup in May and pointing to a softening outlook for the economy… The findings reinforced analyst views that the world's second-largest economy is cooling after a strong start to the year, as Beijing cracks down on easy credit to contain a dangerous build-up in debt and defuse financial risks. The Caixin/Markit services purchasing managers' index (PMI) dropped to 51.6 in June from 52.8 in May…”
July 4 – Reuters (Shu Zhang): “China's central bank said… the shadow banking sector lacks sufficient regulation and the bank would give more prominence to financial risk controls. Compared with traditional bank lending, the opaque nature of shadow banking products make it easier for them to bypass regulatory requirements and provide credit to restricted areas, the People's Bank of China (PBOC) said in its annual China Financial Stability Report… The central bank will increase supervision over the rapidly growing asset management industry to curb shadow banking risks, it said.”''
July 4 – Reuters (Huileng Tan): “Growth in shadow banking in China is slowing due to coordinated government action to contain systemic financial risks, a development that will benefit banks, although it will also bring adjustment risks, Moody's… said… The ratings agency's analysis showed the effectiveness of coordinated measures by authorities by the central bank, the banking and securities regulators ‘to slow runaway growth in shadow banking.’ Actions included the central bank changing its monetary policy setting in the last quarter of 2016 to ‘moderate neutral’ from ‘moderate,’ which raised market funding costs and refinancing risks for banks, reducing the return from supporting long-term investments with short-term market funds, said Moody's.”
July 4 – Bloomberg: “China struck deal after deal to acquire companies abroad over the last few years. Now the bill is coming due. The nation’s top corporate dealmakers, including HNA Group Co. and Fosun International Ltd., must pay off the equivalent of at least $11.5 billion in bonds and loans by the end of 2018 -- a feat now complicated by government efforts to rein in their aggressive rush overseas. That figure represents just a fraction of the total debt of 1.1 trillion yuan ($162bn) that the Chinese companies have reported… The size of their obligations -- and whether they will be able to shoulder them -- has begun to worry global banks and investors now that Beijing has pressed companies to dial back their ambitions abroad.”
July 5 – Reuters (Thomas Escritt and Michelle Martin): “Ties between China and Germany are about to enter a new phase, China's president said, as he met the German chancellor before a G20 summit that is expected to highlight their differences with the United States on a host of issues. President Xi Jinping and Chancellor Angela Merkel pledged… to work together more closely on a range of issues… Trump's testy relationship with both China and Germany is pushing the two countries closer together, despite Berlin's concerns about human rights in China and frustrations over market access.”
July 1 – Reuters (James Pomfret and Venus Wu): “Chinese President Xi Jinping swore in Hong Kong's new leader on Saturday with a stark warning that Beijing won't tolerate any challenge to its authority in the divided city as it marked the 20th anniversary of its return from Britain to China… Xi said Hong Kong should crack down on moves towards ‘Hong Kong independence’. ‘Any attempt to endanger China's sovereignty and security, challenge the power of the central government ... or use Hong Kong to carry out infiltration and sabotage activities against the mainland is an act that crosses the red line and is absolutely impermissible,’ Xi said.”
Europe Watch:
July 3 – Bloomberg (Carolynn Look): “Euro-area manufacturing expanded at the strongest pace in over six years as factories across the region took on more workers to deal with surging orders. A Purchasing Managers’ Index climbed to 57.4 in June, up from 57.0 in May and above a June 23 flash estimate, IHS Markit said…”
July 3 – Reuters (Michael Nienaber): “Euro zone growth is stronger than expected and this will enable the European Central Bank to slowly normalize its monetary policy and end a ‘crazy situation’ of negative interest rates, German Finance Minister Wolfgang Schaeuble said… Senior German government officials have stepped up the pressure on the ECB to scale back its monetary stimulus of bond purchases and sub-zero rates as Germany heads toward federal elections and voters complain about meager savings returns… Speaking to voters… Schaeuble said that the euro zone was recovering surprisingly well and that the threat of deflation had vanished. ‘If we have more growth and if there is no threat of a deflation, then the ECB will -- it cannot do this fast because the problems in some countries in Europe are too big -- then it can slowly start to normalize monetary policy so that we can hopefully soon end this crazy situation of zero interest rates and negative interest rates,’ he said.”
The S&P500 was little changed (up 8.3% y-t-d), while the Dow added 0.3% (up 8.4%). The Utilities declined 0.8% (up 5.4%). The Banks jumped 1.6% (up 5.8%), and the Broker/Dealers added 0.6% (up 0.6%). The Transports rose 1.4% (up 7.2%). The S&P 400 Midcaps were unchanged (up 5.2%), and the small cap Russell 2000 was little changed (up 4.3%). The Nasdaq100 increased 0.2% (up 16.3%), and the Morgan Stanley High Tech index added 0.2% (up 20.5%). The Semiconductors recovered 1.9% (up 16.4%). The Biotechs gained 1.2% (up 27%). With bullion sinking $28, the HUI gold index fell 3.7% (down 1.9%).
Three-month Treasury bill rates ended the week at 101 bps. Two-year government yields added two bps to 1.40% (up 21bps y-t-d). Five-year T-note yields gained six bps to 1.95% (up 2bps). Ten-year Treasury yields rose eight bps to 2.39% (down 6bps). Long bond yields jumped nine bps to 2.93% (down 14bps).
Greek 10-year yields were unchanged at 5.36% (down 166bps y-t-d). Ten-year Portuguese yields rose 13 bps to 3.16% (down 59bps). Italian 10-year yields surged 19 bps to 2.34% (up 53bps). Spain's 10-year yields rose 19 bps to 1.73% (up 35bps). German bund yields gained 11 bps to 0.57% (up 37bps). French yields jumped 13 bps to 0.94% (up 26bps). The French to German 10-year bond spread widened two bps to 37 bps. U.K. 10-year gilt yields increased five bps to 1.31% (up 7bps). U.K.'s FTSE equities index gained 0.5% (up 2.9%).
Japan's Nikkei 225 equities index slipped 0.5% (up 4.3% y-t-d). Japanese 10-year "JGB" yields were unchanged at 0.09% (up 5bps). France's CAC40 gained 0.5% (up 5.8%). The German DAX equities index rose 0.5% (up 7.9%). Spain's IBEX 35 equities index added 0.4% (up 12.2%). Italy's FTSE MIB index recovered 2.1% (up 9.3%). EM equities were mixed to lower. Brazil's Bovespa index declined 0.9% (up 3.5%), while Mexico's Bolsa increased 0.4% (up 9.7%). South Korea's Kospi fell 0.5% (up 17.4%). India’s Sensex equities index gained 1.4% (up 17.8%). China’s Shanghai Exchange added 0.8% (up 3.7%). Turkey's Borsa Istanbul National 100 index dipped 0.4% (up 28.1%). Russia's MICEX equities index rallied 1.8% (down 14.3%).
Junk bond mutual funds saw outflows of $1.155 billion (from Lipper).
Freddie Mac 30-year fixed mortgage rates jumped eight bps to 3.96% (up 55bps y-o-y). Fifteen-year rates rose five bps to 3.22% (up 48bps). The five-year hybrid ARM rate gained four bps to 3.21% (up 53bps). Bankrate's survey of jumbo mortgage borrowing costs had 30-yr fixed rates up nine bps to 4.10% (up 46bps).
Federal Reserve Credit last week declined $4.1bn to $4.427 TN. Over the past year, Fed Credit dipped $2.8bn. Fed Credit inflated $1.616 TN, or 58%, over the past 243 weeks. Elsewhere, Fed holdings for foreign owners of Treasury, Agency Debt gained $8.2bn last week to $3.316 TN. "Custody holdings" were up $86.6bn y-o-y, or 2.7%.
M2 (narrow) "money" supply last week jumped $35.7bn to a record $13.546 TN. "Narrow money" expanded $708bn, or 5.5%, over the past year. For the week, Currency increased $2.1bn. Total Checkable Deposits surged $45.6bn, while Savings Deposits declined $10.9bn. Small Time Deposits were little changed. Retail Money Funds dipped $1.8bn.
Total money market fund assets gained $4.7bn to $2.627 TN. Money Funds fell $74bn y-o-y (2.7%).
Total Commercial Paper dropped $26.8bn to $946.8bn. CP declined $93bn y-o-y, or 8.9%.
Currency Watch:
The U.S. dollar index recovered 0.4% to 96.008 (down 6.2% y-t-d). For the week on the upside, the Brazilian real increased 0.8%, the Canadian dollar 0.7%, the Mexican peso 0.2%, and the Swedish krona 0.1%. For the week on the downside, the South African rand declined 2.3%, the Japanese yen 1.3%, the Australian dollar 1.1%, the British pound 1.0%, the South Korean won 0.9%, the New Zealand dollar 0.7%, the Swiss franc 0.6%, the Singapore dollar 0.4%, the Norwegian krone 0.3% and the euro 0.2%. The Chinese renminbi declined 0.36% versus the dollar this week (up 2.05% y-t-d).
Commodities Watch:
The Goldman Sachs Commodities Index dropped 1.8% (down 8.3% y-t-d). Spot Gold lost 2.3% to $1,213 (up 5.3%). In wild trading, Silver sank 7.2% to $15.425 (down 4%). Crude fell $3.91 to $44.23 (down 18%). Gasoline declined 1.0% (down 10%), and Natural Gas sank 5.6% (down 23%). Copper dropped 2.4% (up 6%). Wheat gained another 1.7% (up 31%). Corn rose 3.0% (up 12%).
Trump Administration Watch:
July 3 – Wall Street Journal (Kristina Peterson and Michelle Hackman): “Republican senators back home on recess this week are hearing from some influential critics of their health-law effort: GOP governors, many of whom are urging them to push back on the legislation because it would cut Medicaid funding. Governors of states including Ohio, Nevada and Arkansas, which stand to lose billions of dollars in Medicaid funding under the Senate bill, want senators to keep as much of that money as possible.”
July 1 – Financial Times (Demetri Sevastopulo, Tom Mitchell and Charles Clover): “China lashed out at the US… in protest at an apparent sea change in the Trump administration’s policy towards Beijing as the White House prepared to slap punitive restrictions on Chinese steel imports, agreed an arms deal with Taiwan, and sanctioned a Chinese bank. Cui Tiankai, the Chinese ambassador to Washington, criticised the $1.4bn Taiwanese weapons deal and what he called the ‘long-arm jurisdiction’ of the US in sanctioning Chinese companies… The deteriorating relations come less than 100 days since Mr Trump hosted Mr Xi at his Mar-a-Lago estate and said the leaders would have a ‘very great relationship’. Since then, the White House has become frustrated China was not doing enough to pressure North Korea to abandon its ballistic missile and nuclear programmes.”
July 2 – Time (Charlie Campbell): “The honeymoon, it appears, is over. On Sunday, Beijing warned the U.S. government that sending an American naval vessel into territorial waters it claims around the Paracel Islands in the disputed South China Sea was a ‘serious political and military provocation,’ in the latest of a slew of incidents that augur souring relations… Foreign Ministry spokesperson Lu Kang said… that China sent military vessels and fighter planes to ward off the USS Stethem, warning that approaching the Paracels, which are known as the Xisha Islands in China and are also claimed by Taiwan and Vietnam, ‘violated Chinese and international law, infringed upon China's sovereignty, disrupted peace, security and order of the relevant waters and put in jeopardy the facilities and personnel on the Chinese islands,’ according to the state-run China Daily newspaper.”
China Bubble Watch:
July 5 – Reuters (Yawen Chen and Ryan Woo): “China's services sector grew at a slower pace in June as new orders slumped, signaling renewed pressure on businesses after a pickup in May and pointing to a softening outlook for the economy… The findings reinforced analyst views that the world's second-largest economy is cooling after a strong start to the year, as Beijing cracks down on easy credit to contain a dangerous build-up in debt and defuse financial risks. The Caixin/Markit services purchasing managers' index (PMI) dropped to 51.6 in June from 52.8 in May…”
July 4 – Reuters (Shu Zhang): “China's central bank said… the shadow banking sector lacks sufficient regulation and the bank would give more prominence to financial risk controls. Compared with traditional bank lending, the opaque nature of shadow banking products make it easier for them to bypass regulatory requirements and provide credit to restricted areas, the People's Bank of China (PBOC) said in its annual China Financial Stability Report… The central bank will increase supervision over the rapidly growing asset management industry to curb shadow banking risks, it said.”''
July 4 – Reuters (Huileng Tan): “Growth in shadow banking in China is slowing due to coordinated government action to contain systemic financial risks, a development that will benefit banks, although it will also bring adjustment risks, Moody's… said… The ratings agency's analysis showed the effectiveness of coordinated measures by authorities by the central bank, the banking and securities regulators ‘to slow runaway growth in shadow banking.’ Actions included the central bank changing its monetary policy setting in the last quarter of 2016 to ‘moderate neutral’ from ‘moderate,’ which raised market funding costs and refinancing risks for banks, reducing the return from supporting long-term investments with short-term market funds, said Moody's.”
July 4 – Bloomberg: “China struck deal after deal to acquire companies abroad over the last few years. Now the bill is coming due. The nation’s top corporate dealmakers, including HNA Group Co. and Fosun International Ltd., must pay off the equivalent of at least $11.5 billion in bonds and loans by the end of 2018 -- a feat now complicated by government efforts to rein in their aggressive rush overseas. That figure represents just a fraction of the total debt of 1.1 trillion yuan ($162bn) that the Chinese companies have reported… The size of their obligations -- and whether they will be able to shoulder them -- has begun to worry global banks and investors now that Beijing has pressed companies to dial back their ambitions abroad.”
July 5 – Reuters (Thomas Escritt and Michelle Martin): “Ties between China and Germany are about to enter a new phase, China's president said, as he met the German chancellor before a G20 summit that is expected to highlight their differences with the United States on a host of issues. President Xi Jinping and Chancellor Angela Merkel pledged… to work together more closely on a range of issues… Trump's testy relationship with both China and Germany is pushing the two countries closer together, despite Berlin's concerns about human rights in China and frustrations over market access.”
July 1 – Reuters (James Pomfret and Venus Wu): “Chinese President Xi Jinping swore in Hong Kong's new leader on Saturday with a stark warning that Beijing won't tolerate any challenge to its authority in the divided city as it marked the 20th anniversary of its return from Britain to China… Xi said Hong Kong should crack down on moves towards ‘Hong Kong independence’. ‘Any attempt to endanger China's sovereignty and security, challenge the power of the central government ... or use Hong Kong to carry out infiltration and sabotage activities against the mainland is an act that crosses the red line and is absolutely impermissible,’ Xi said.”
Europe Watch:
July 3 – Bloomberg (Carolynn Look): “Euro-area manufacturing expanded at the strongest pace in over six years as factories across the region took on more workers to deal with surging orders. A Purchasing Managers’ Index climbed to 57.4 in June, up from 57.0 in May and above a June 23 flash estimate, IHS Markit said…”
July 3 – Reuters (Michael Nienaber): “Euro zone growth is stronger than expected and this will enable the European Central Bank to slowly normalize its monetary policy and end a ‘crazy situation’ of negative interest rates, German Finance Minister Wolfgang Schaeuble said… Senior German government officials have stepped up the pressure on the ECB to scale back its monetary stimulus of bond purchases and sub-zero rates as Germany heads toward federal elections and voters complain about meager savings returns… Speaking to voters… Schaeuble said that the euro zone was recovering surprisingly well and that the threat of deflation had vanished. ‘If we have more growth and if there is no threat of a deflation, then the ECB will -- it cannot do this fast because the problems in some countries in Europe are too big -- then it can slowly start to normalize monetary policy so that we can hopefully soon end this crazy situation of zero interest rates and negative interest rates,’ he said.”
July 4 – Reuters (Foo Yun Chee, Stephen Jewkes and Antonella Cinelli): “The European Union has approved a 5.4 billion euro ($6.1bn) state bailout of Italy's fourth-largest lender, Monte dei Paschi di Siena, taking the total amount of Italian taxpayer funds deployed to rescue banks over the past week to more than 20 billion euros. Outside Greece, Europe has not seen such big state bailouts since the aftermath of the global financial crisis, raising political concerns about the continued use of public funds to mop up losses at badly run banks despite the introduction of new EU rules designed to prevent this.”
July 4 – AFP (Daniel Bosque): “Catalonia will declare independence ‘immediately’ if a majority of the Spanish region's voters opt for independence in a Scotland-style referendum called for October, its ruling coalition said. ‘If the majority of votes are for creating a Catalan republic, obviously independence will have to be declared immediately,’ said Gabriela Serra, a member of the separatist coalition that governs Catalonia.”
Central Bank Watch:
July 6 – Bloomberg (Carolynn Look): “European Central Bank policy makers considered removing a pledge to increase their bond-buying program if needed when they met last month. As the likelihood of calls for unconventional policy measures to be stepped up had ‘clearly diminished,’ the Governing Council discussed removing the easing biases in their policy communication, an account of the June 7-8 meeting showed. While they ultimately opted only to change the wording on interest rates, ‘it was argued that the improved economic environment with vanishing tail risks, in principle, suggested also revisiting the easing bias with respect to the asset-purchase program.’ The account highlighted how nervous decision-makers are about the outlook for the post-crisis recovery as they edge cautiously toward the day they start unwinding their extraordinary measures.”
July 4 – Financial Times (Roger Blitz): “A week after European Central Bank president Mario Draghi rattled markets by declaring victory against deflation, Sweden’s Riksbank said that higher inflation expectations and an easing in external risks made further rate cuts ‘less likely than before’. Forecasts of a slow summer in markets have been disabused by a sudden shift from central banks towards normalising monetary policy. For investors, this has a number of implications. Bond yields are moving higher and the dollar is weakening against the euro, the Canadian dollar, the pound and other currencies whose central banks have signalled a shift in policy.”
July 3 – Reuters (Frank Siebelt): “The European Central Bank is working on moving away from its ultra-easy monetary policy, Jens Weidmann, head of Germany's Bundesbank and a member of the ECB's rate-setting body, said… Investors are watching for any sign that the ECB may reduce its stimulus, which includes massive bond purchases and ultra-low rates, after a hint in that direction by President Mario Draghi boosted the euro and government bond yields this week. ‘It will hopefully come and we're working on that, we're also discussing it,’ Weidmann, a long-standing critic of the ECB's bond purchases, told an audience at the Bundesbank's open days.”
July 4 – Bloomberg (John Ainger and Stephen Spratt): “European Central Bank data showed it fell short of its target for purchases of German bonds under its quantitative-easing program for a third straight month in June, while favoring French and Italian securities as it combats a shortage in the euro region’s benchmark sovereign debt. The ECB fell short of its implied buying target, as dictated by the capital key, by 304 million euros ($345 million) last month, following a shortfall of 277 million euros in May… The ECB has been fudging its own bond-buying guidelines, known as the capital key, with President Mario Draghi reiterating last in a press conference last month that the asset-purchase program has enough ‘flexibility.’”
July 2 – Financial Times (Claire Jones): “For years, Jens Weidmann was the unabashed hawk at the heart of the European Central Bank, the voice of German opposition to the unconventional monetary policies intended to save the eurozone from a deflationary death spiral. Now, an uncharacteristic period of reserve from the Bundesbank president has convinced his eurozone colleagues that he is mounting a quiet campaign to take over as ECB chief. Not all of them are happy at the prospect. Mario Draghi’s term as the ECB’s president is up in late 2019 and speculation is already rife that Berlin will push for Mr Weidmann — a close ally of Angela Merkel, the chancellor — to become its first German head.”
Brexit Watch:
July 1 – Reuters (Andrew MacAskill): “British business leaders have been told to brace for the possibility that Prime Minister Theresa May's government may walk out of Brexit talks this year, according to the Sunday Telegraph. The move would be designed for ‘domestic consumption’ to show the government is negotiating hard with the European Union… The Sunday Telegraph said the briefing of business leaders by a senior May aide took place after last month's general election and the person has since left in the recent overhaul at the top of government.”
Global Bubble Watch:
July 2 – Wall Street Journal (Simon Nixon): “Central bankers around the world are grappling with a common problem: when and how to normalize monetary policy at a time of normal levels of economic growth, normal levels of unemployment but abnormal levels of wage growth that is keeping inflation lower than their economic models predict. Policy makers at the European Central Bank and Bank of England are facing political challenges that are making their task even harder. At the ECB, the political constraint is its own self-imposed rules setting limits on the size and scale of its quantitative easing program. To avoid getting foul of the European Union treaty prohibition on direct financing of governments by the central bank, the ECB limits itself to buying government bonds strictly in proportion to each eurozone member’s ECB shareholding and capping its ownership of any individual bond at 33%. As a result, its QE program will soon run into capacity constraints—starting as soon as this summer with Germany, Spain, Ireland and Portugal.”
July 6 – Bloomberg (Dani Burger): “Is this the dawn of a new era? Coordinated or not, signals from central bankers from Europe to Canada and the U.S. have roiled financial markets: The 10-year Treasury note yield jumped more than 20 bps, bund rates reclaimed 0.50% for the first time in 18 months… While a few days of trading doesn’t cement the fate of markets for months to come, the debate is heating up over whether the moves are fleeting, amplified in the short term by summer vacation-induced light volumes, or if they mark the start of the end of a decade of easy money.”
July 3 – Reuters (Huw Jones): “The rising influence of ‘open ended’ funds and the impact on developing economies if the investment flows were abruptly reversed remain a concern for global regulators, Financial Stability Board Chairman Mark Carney said… The rapid growth in the world's asset management sector since the financial crisis to $75 trillion assets by 2015, or 40% of the world's financial assets, has been a largely positive development, Carney told reporters. An issue of concern, however is around ‘open ended’ funds supplying a substantial proportion of cross border flows into developing economies… Carney said the concern comes at a time when liquidity, or the ability to sell at short notice to redeem investors, appears better than it is likely to be under stressed conditions. ‘The question is what will the consequences be when inevitably there is a period of sharp adjustment, reduced liquidity,’ Carney said.”
July 4 – Wall Street Journal (Henny Sender): “On the 20th anniversary of the Asian financial crisis it might be regarded as a fitting response to sceptics that emerging market equities have been one of the best performing asset classes so far this year. Two decades ago, no sooner had the first day of official festivities accompanying Hong Kong’s return to Chinese control finished, then the overvalued Thai baht swooned. Its drop was followed by a plunge in the Indonesia rupiah and South Korean won, while the Malaysian ringgit, and Hong Kong and new Taiwan dollar were all rapidly under pressure… And make no mistake — emerging markets are still vulnerable to rising rates. Almost $2tn in emerging markets bonds and loans come due by the end of 2018. Higher rates in the US would likely mean a stronger US dollar, making dollar debt that Asian companies more expensive to service. That may well usher in credit downgrades in emerging markets.”
July 6 – Bloomberg (Katia Dmitrieva, Erik Hertzberg, and Kristine Owram): “Toronto’s housing market is losing steam. A series of government measures and the prospect of higher interest rates boosted listings and sparked the biggest sales decline in more than eight years last month, the Toronto Real Estate Board reported… Average home prices rose just 6.3% to C$793,915 ($612,000), the smallest annual increase since January 2015. Toronto’s real estate market, mostly known for bidding wars and 20% price gains, is beginning to feel the effects of government rule changes that make it harder to get a mortgage.”
Fixed Income Bubble Watch:
July 3 – Wall Street Journal (Richard Barley): “Tiny hints from central banks about policy normalization shook markets up last week. They were also a reminder of the highly abnormal situation bond markets find themselves in, with little or no cushion for investors against rising yields. It is too easy to lose money in bonds. Returns on bonds come from two sources: the interest income that accrues to holders and changes in bond prices. But years of zero-interest-rate policy have drastically reduced the former, making the latter far more important. That shift is important, in that it has changed the way in which normally reliable bonds behave. Take Germany… The country’s benchmark 10-year bond pays a coupon of 0.25%, and at the start of last week was priced nearly close to par, with a yield of 0.25%. By the end of the week, it yielded 0.47%, but the bond’s price had dropped by around 2%...”
July 5 – Bloomberg (Robert Smith): “The US and European high-yield markets have delivered strong returns this year, but clouds are looming that threaten to make the second half of 2017 less straightforward. Bank of America Merrill Lynch’s non-financial high-yield indices returned 4.8% for US dollars and 3.7% for euros in the first half of 2017. However, the sheen came off both markets slightly at the end of these runs, with the US and euro indices having been up more than 5 and 4.1% respectively earlier in June. Two very different culprits caused these dips in performance, with a renewed slump in the oil price largely to blame for US weakness and talk of the ECB tapering bond purchases fuelling the European sell-off.”
July 3 – Reuters (Lauren Hirsch and Nick Brown): “The Puerto Rico power utility PREPA, laden with a $9 billion debt load, has filed for a form of bankruptcy, Puerto Rico's primary fiscal agent said… “
Federal Reserve Watch:
July 4 – Wall Street Journal (Nick Timiraos): “Federal Reserve officials have indicated there is a strong chance they will announce in September a decision to start shrinking the central bank’s portfolio of bonds and other assets, while putting off until December any further interest-rate increase. The moves would give officials time to assess how markets react to the balance-sheet reductions and to confirm their view that a recent slowdown in inflation will fade. Launching the balance-sheet plan in September also would afford Chairwoman Janet Yellen an opportunity to initiate it well ahead of any potential leadership transition.”
U.S. Bubble Watch:
July 5 – Wall Street Journal (Greg Ip): “If you drew up a list of preconditions for recession, it would include the following: a labor market at full strength, frothy asset prices, tightening central banks, and a pervasive sense of calm. In other words, it would look a lot like the present. Those of us who have lived through economic mayhem before feel our muscle memory twitch at times like this. Consider the worrisome absence of worry. ‘Implied volatility’ measures the cost of hedging against big market moves via options. When fear is pervasive, options are expensive so implied volatility is high. At present, implied volatility in bonds, stocks, currencies and gold sits near its lowest since mid-2007, the eve of the financial crisis… The economic expansion is now entering its ninth year and in two years will be the longest on record. The unemployment rate sits at 4.3%, the lowest in 16 years, suggesting the economy has reached, or nearly reached, full capacity.”
July 3 – Bloomberg (Sho Chandra): “American factories powered up in June at the fastest pace in nearly three years, with robust advances in production, orders and employment that indicate a firming in the economy, data from the Institute for Supply Management showed… Factory index rose to 57.8, highest since August 2014 (est. 55.3) from 54.9 in May…”
July 3 – Bloomberg (Will Davies): “It’ll take more than central bank tightening to shake volatility from its yearlong slumber, according to Goldman Sachs… A large shock such as recession or war is usually required. That’s generally been the case for the 14 similar low volatility ‘regimes’ since 1928, at least in equity markets, Goldman Sachs strategists Christian Mueller-Glissmann and Alessio Rizzi said. These periods on average lasted nearly two years, featured short-lived spikes and realized S&P 500 volatility was usually at or below 10.”
July 3 – Bloomberg (Elise Young): “Were it not for Illinois’s flirtation with a junk credit downgrade and New Jersey Governor Chris Christie’s luxuriating on a closed public beach, the budget woes of U.S. states might have assumed their annual spot in the dust bin of public-policy history. This year, spending strife is unusually widespread, with 11 states missing their July 1 fiscal-year deadlines... In a poor economy, states often freeze spending while lawmakers and the chief executive work out how to plug budget holes. This year’s standoffs, though, come amid record stock-market gains and low national unemployment.”
July 6 – Reuters (Howard Schneider): “The U.S. housing finance system continues to put taxpayers at risk in a market dominated by government-backed agencies, Federal Reserve Governor Jerome Powell said…, calling for further reform of an ‘unsustainable’ situation. A decade after doubts about the creditworthiness of mortgage-backed securities helped trigger the worst financial crisis since the Great Depression, systemic risk remains given the concentration of mortgages in Fannie Mae and Freddie Mac, he said. ‘We're almost at a now-or-never moment,’ Powell told a conference…, arguing that the window for political action on an overhaul of housing finance may not stay open for long.”
July 4 – MarketWatch (Rachel Koning Beals): “As car buyers’ obsession with bigger, pricier vehicles grows, so does their willingness to take longer to pay for them, says new analysis from Edmunds.com. The average auto-loan length reached an all-time high of 69.3 months in June. That’s 6.8% longer than five years ago… The average amount that buyers financed was hit with the biggest uptick for the year last month, at $30,945, or up $631 from May. The financing trend also lead to the highest monthly payments for the year, now averaging $517…”
Japan Watch:
July 3 – Reuters (Linda Sieg): “Prime Minister Shinzo Abe's Liberal Democratic Party suffered an historic defeat in an election in the Japanese capital on Sunday, signaling trouble ahead for the premier, who has suffered from slumping support because of a favoritism scandal. On the surface, the Tokyo Metropolitan assembly election was a referendum on Governor Yuriko Koike's year in office, but the dismal showing for Abe's party is also a stinging rebuke of his 4-1/2-year-old administration.”
July 3 – Bloomberg (Isabel Reynolds and Yuki Hagiwara): “Scandal-hit Japanese Prime Minister Shinzo Abe faces one of his biggest tests since coming to power in late 2012, after his ruling party lost to an upstart outfit in an election for Tokyo’s assembly. The Liberal Democratic Party lost more than half its seats to end up with 23, the lowest number ever in the capital, in a vote that could be a harbinger for national elections. Voter turnout was up about eight percentage points on the previous poll four years ago… Somber-faced party executives sat in silence at the opening of an extraordinary meeting on Monday morning to discuss the defeat.”
July 2 – Bloomberg (Yoshiaki Nohara, Masahiro Hidaka, and Toru Fujioka): “Haruhiko Kuroda shouldn’t serve another term as governor of the Bank of Japan because the central bank will need fresh ideas as it moves toward exiting years of unprecedented monetary easing, according to an adviser to the prime minister. ‘An exit will surely come up within the next five years and we need someone who can prepare for it,’ said Nobuyuki Nakahara, a former BOJ board member. ‘He will fall into inertia and struggle to come up with bold new ideas. It’s the same in the private sector when a corporate president stays too long,’ he said.”
July 2 – Reuters (Leika Kihara and Tetsushi Kajimoto): “Confidence among Japan's big manufacturers hit its highest level in more than three years in the June quarter, …adding to signs the recovery in the world's third largest economy is gaining pace. Big firms also saw the job market at its tightest in 25 years, offering policymakers some hope that companies may finally raise wages… The survey underscores the Bank of Japan's view that the economy is heading for a moderate expansion…”
July 3 – Bloomberg (Toru Fujioka, Keiko Ujikane, and Takashi Amano): “A change of leadership at the Bank of Japan would offer a chance to bolster public confidence in its ability to defeat deflation, according to an economic adviser to Prime Minister Shinzo Abe. ‘What’s important, especially this time, is whether we can undertake regime change,” Etsuro Honda said… ‘It should be someone who is refreshing enough and can renew people’s impressions with personal charm and sincerity.’”
Leveraged Speculation Watch:
July 4 – Wall Street Journal (Laurence Fletcher): “After the presidential election last year, many hedge-fund managers called the U.S. a great moneymaking opportunity. It turns out Europe is the place to be. Bets on stocks in Italy, France and Spain—long laggards compared with the U.S.—have given some global hedge funds returns of more than 20% so far this year. The average hedge fund has managed only 3% through May, according to… Hedge Fund Research.”
Geopolitical Watch:
July 5 – Wall Street Journal (Jonathan Cheng): “The U.S. warned North Korea that it is ready to fight if provoked, as Pyongyang claimed another weapons-development breakthrough following its launch of an intercontinental ballistic missile a day earlier. The regime, having demonstrated its capacity to reach the U.S. with a missile, …touted another achievement of the test launch: It claimed that its missile warhead—the forward section, which carries the explosive—can withstand the extreme heat and pressure of re-entering the earth’s atmosphere.”
July 4 – Reuters (Jack Kim and Christine Kim): “North Korea said… its newly developed intercontinental ballistic missile (ICBM) can carry a large nuclear warhead, triggering a call by Washington for global action to hold it accountable for pursuing nuclear weapons. A spokeswoman for the U.S. Defense Department said it had concluded that North Korea test-launched an ICBM on Tuesday, which some experts now believe had the range to reach the U.S. state of Alaska as well as parts of the mainland United States. U.S. Secretary of State Rex Tillerson said the test, on the eve of the U.S. Independence Day holiday, represented ‘a new escalation of the threat’ to the United States and its allies, and vowed to take stronger measures.”
July 5 – Wall Street Journal (Farnaz Fassihi, Gordon Lubold and Jonathan Cheng): “The U.S. and Russia clashed at the United Nations Security Council over how to respond to North Korea’s nuclear-weapons program, a confrontation throwing into doubt U.S. hopes for an international diplomatic solution to the burgeoning crisis. The standoff between diplomats… came just two days before President Donald Trump and Russian counterpart Vladimir Putin plan to hold their first meeting during the summit of the Group of 20 leading nations in Germany, raising the stakes for both leaders as well as China, which will attend the international gathering.”
July 5 – CNBC (Cheang Ming): “Strategic ties between Russia and China were appraised in glowing terms as Chinese President Xi Jinping wrapped up a two-day state visit to Russia, concluding with at least $10 billion in agreements. Xi, who met with Russian President Vladimir Putin during the trip, told Russian media that relations between the two countries were currently at their ‘best time in history.’ The Chinese president also said Russia and China were each other's ‘most trustworthy strategic partners,’ Xinhua reported.”
July 5 – Financial Times (Heba Saleh and Simeon Kerr): “The four Arab states that have imposed an extraordinary embargo on Qatar, on Wednesday lambasted Doha for its ‘negative’ response to their demands in a sign that the month-long diplomatic crisis is deepening. After meeting in Cairo to discuss the dispute, the foreign ministers of Saudi Arabia, the United Arab Emirates, Bahrain and Egypt said Qatar’s response showed ‘a lack of seriousness in dealing with the roots of the problem’ and a ‘failure to appreciate the dangers in the situation’. Adel al-Jubeir, Saudi Arabia’s foreign minister, warned that additional steps against Doha could be taken at the appropriate time."
July 6 – Reuters (Rodi Said and Dominic Evans): “The head of the Syrian Kurdish YPG militia said… that Turkish military deployments near Kurdish-held areas of northwestern Syria amounted to a ‘declaration of war’ which could trigger clashes within days. Turkey's Deputy Prime Minister Numan Kurtulmus retorted that his country was not declaring war but that its forces would respond to any hostile move by the YPG, which he described as a small-scale army formed by the United States.”
July 5 – Associated Press (Gerry Shih and Muneeza Naqvi): “China has insisted India withdraw its troops from a disputed Himalayan plateau before talks can take place to settle the most protracted standoff in recent years between the nuclear-armed neighbors, who fought a bloody frontier war 55 years ago. India must pull back its troops ‘as soon as possible’ as a precondition to demonstrate sincerity, foreign ministry spokesman Geng Shuang told reporters… His comments came after weeks of saber-rattling in New Delhi and Beijing, as officials from both sides talk up a potential clash even bloodier than their 1962 war that left thousands dead.”
July 2 – New York Times (Sheera Frenkel): “The attack had the hallmarks of something researchers had dreaded for years: malicious software using artificial intelligence that could lead to a new digital arms race in which A.I.-driven defenses battled A.I.-driven offenses while humans watched from the sidelines. But what was not as widely predicted was that one of the earliest instances of that sort of malware was found in India… Security researchers are increasingly looking in countries outside the West to discover the newest, most creative and potentially most dangerous types of cyberattacks being deployed. As developing economies rush to go online, they provide a fertile testing ground for hackers trying their skills…”
July 1 – Reuters (Pavel Polityuk): “Ukraine said… that Russian security services were involved in a recent cyber attack on the country, with the aim of destroying important data and spreading panic. The SBU, Ukraine's state security service, said the attack, which started in Ukraine and spread around the world…, was by the same hackers who attacked the Ukrainian power grid in December 2016. Ukrainian politicians were quick to blame Russia for Tuesday's attack, but a Kremlin spokesman dismissed ‘unfounded blanket accusations’.”
July 4 – AFP (Daniel Bosque): “Catalonia will declare independence ‘immediately’ if a majority of the Spanish region's voters opt for independence in a Scotland-style referendum called for October, its ruling coalition said. ‘If the majority of votes are for creating a Catalan republic, obviously independence will have to be declared immediately,’ said Gabriela Serra, a member of the separatist coalition that governs Catalonia.”
Central Bank Watch:
July 6 – Bloomberg (Carolynn Look): “European Central Bank policy makers considered removing a pledge to increase their bond-buying program if needed when they met last month. As the likelihood of calls for unconventional policy measures to be stepped up had ‘clearly diminished,’ the Governing Council discussed removing the easing biases in their policy communication, an account of the June 7-8 meeting showed. While they ultimately opted only to change the wording on interest rates, ‘it was argued that the improved economic environment with vanishing tail risks, in principle, suggested also revisiting the easing bias with respect to the asset-purchase program.’ The account highlighted how nervous decision-makers are about the outlook for the post-crisis recovery as they edge cautiously toward the day they start unwinding their extraordinary measures.”
July 4 – Financial Times (Roger Blitz): “A week after European Central Bank president Mario Draghi rattled markets by declaring victory against deflation, Sweden’s Riksbank said that higher inflation expectations and an easing in external risks made further rate cuts ‘less likely than before’. Forecasts of a slow summer in markets have been disabused by a sudden shift from central banks towards normalising monetary policy. For investors, this has a number of implications. Bond yields are moving higher and the dollar is weakening against the euro, the Canadian dollar, the pound and other currencies whose central banks have signalled a shift in policy.”
July 3 – Reuters (Frank Siebelt): “The European Central Bank is working on moving away from its ultra-easy monetary policy, Jens Weidmann, head of Germany's Bundesbank and a member of the ECB's rate-setting body, said… Investors are watching for any sign that the ECB may reduce its stimulus, which includes massive bond purchases and ultra-low rates, after a hint in that direction by President Mario Draghi boosted the euro and government bond yields this week. ‘It will hopefully come and we're working on that, we're also discussing it,’ Weidmann, a long-standing critic of the ECB's bond purchases, told an audience at the Bundesbank's open days.”
July 4 – Bloomberg (John Ainger and Stephen Spratt): “European Central Bank data showed it fell short of its target for purchases of German bonds under its quantitative-easing program for a third straight month in June, while favoring French and Italian securities as it combats a shortage in the euro region’s benchmark sovereign debt. The ECB fell short of its implied buying target, as dictated by the capital key, by 304 million euros ($345 million) last month, following a shortfall of 277 million euros in May… The ECB has been fudging its own bond-buying guidelines, known as the capital key, with President Mario Draghi reiterating last in a press conference last month that the asset-purchase program has enough ‘flexibility.’”
July 2 – Financial Times (Claire Jones): “For years, Jens Weidmann was the unabashed hawk at the heart of the European Central Bank, the voice of German opposition to the unconventional monetary policies intended to save the eurozone from a deflationary death spiral. Now, an uncharacteristic period of reserve from the Bundesbank president has convinced his eurozone colleagues that he is mounting a quiet campaign to take over as ECB chief. Not all of them are happy at the prospect. Mario Draghi’s term as the ECB’s president is up in late 2019 and speculation is already rife that Berlin will push for Mr Weidmann — a close ally of Angela Merkel, the chancellor — to become its first German head.”
Brexit Watch:
July 1 – Reuters (Andrew MacAskill): “British business leaders have been told to brace for the possibility that Prime Minister Theresa May's government may walk out of Brexit talks this year, according to the Sunday Telegraph. The move would be designed for ‘domestic consumption’ to show the government is negotiating hard with the European Union… The Sunday Telegraph said the briefing of business leaders by a senior May aide took place after last month's general election and the person has since left in the recent overhaul at the top of government.”
Global Bubble Watch:
July 2 – Wall Street Journal (Simon Nixon): “Central bankers around the world are grappling with a common problem: when and how to normalize monetary policy at a time of normal levels of economic growth, normal levels of unemployment but abnormal levels of wage growth that is keeping inflation lower than their economic models predict. Policy makers at the European Central Bank and Bank of England are facing political challenges that are making their task even harder. At the ECB, the political constraint is its own self-imposed rules setting limits on the size and scale of its quantitative easing program. To avoid getting foul of the European Union treaty prohibition on direct financing of governments by the central bank, the ECB limits itself to buying government bonds strictly in proportion to each eurozone member’s ECB shareholding and capping its ownership of any individual bond at 33%. As a result, its QE program will soon run into capacity constraints—starting as soon as this summer with Germany, Spain, Ireland and Portugal.”
July 6 – Bloomberg (Dani Burger): “Is this the dawn of a new era? Coordinated or not, signals from central bankers from Europe to Canada and the U.S. have roiled financial markets: The 10-year Treasury note yield jumped more than 20 bps, bund rates reclaimed 0.50% for the first time in 18 months… While a few days of trading doesn’t cement the fate of markets for months to come, the debate is heating up over whether the moves are fleeting, amplified in the short term by summer vacation-induced light volumes, or if they mark the start of the end of a decade of easy money.”
July 3 – Reuters (Huw Jones): “The rising influence of ‘open ended’ funds and the impact on developing economies if the investment flows were abruptly reversed remain a concern for global regulators, Financial Stability Board Chairman Mark Carney said… The rapid growth in the world's asset management sector since the financial crisis to $75 trillion assets by 2015, or 40% of the world's financial assets, has been a largely positive development, Carney told reporters. An issue of concern, however is around ‘open ended’ funds supplying a substantial proportion of cross border flows into developing economies… Carney said the concern comes at a time when liquidity, or the ability to sell at short notice to redeem investors, appears better than it is likely to be under stressed conditions. ‘The question is what will the consequences be when inevitably there is a period of sharp adjustment, reduced liquidity,’ Carney said.”
July 4 – Wall Street Journal (Henny Sender): “On the 20th anniversary of the Asian financial crisis it might be regarded as a fitting response to sceptics that emerging market equities have been one of the best performing asset classes so far this year. Two decades ago, no sooner had the first day of official festivities accompanying Hong Kong’s return to Chinese control finished, then the overvalued Thai baht swooned. Its drop was followed by a plunge in the Indonesia rupiah and South Korean won, while the Malaysian ringgit, and Hong Kong and new Taiwan dollar were all rapidly under pressure… And make no mistake — emerging markets are still vulnerable to rising rates. Almost $2tn in emerging markets bonds and loans come due by the end of 2018. Higher rates in the US would likely mean a stronger US dollar, making dollar debt that Asian companies more expensive to service. That may well usher in credit downgrades in emerging markets.”
July 6 – Bloomberg (Katia Dmitrieva, Erik Hertzberg, and Kristine Owram): “Toronto’s housing market is losing steam. A series of government measures and the prospect of higher interest rates boosted listings and sparked the biggest sales decline in more than eight years last month, the Toronto Real Estate Board reported… Average home prices rose just 6.3% to C$793,915 ($612,000), the smallest annual increase since January 2015. Toronto’s real estate market, mostly known for bidding wars and 20% price gains, is beginning to feel the effects of government rule changes that make it harder to get a mortgage.”
Fixed Income Bubble Watch:
July 3 – Wall Street Journal (Richard Barley): “Tiny hints from central banks about policy normalization shook markets up last week. They were also a reminder of the highly abnormal situation bond markets find themselves in, with little or no cushion for investors against rising yields. It is too easy to lose money in bonds. Returns on bonds come from two sources: the interest income that accrues to holders and changes in bond prices. But years of zero-interest-rate policy have drastically reduced the former, making the latter far more important. That shift is important, in that it has changed the way in which normally reliable bonds behave. Take Germany… The country’s benchmark 10-year bond pays a coupon of 0.25%, and at the start of last week was priced nearly close to par, with a yield of 0.25%. By the end of the week, it yielded 0.47%, but the bond’s price had dropped by around 2%...”
July 5 – Bloomberg (Robert Smith): “The US and European high-yield markets have delivered strong returns this year, but clouds are looming that threaten to make the second half of 2017 less straightforward. Bank of America Merrill Lynch’s non-financial high-yield indices returned 4.8% for US dollars and 3.7% for euros in the first half of 2017. However, the sheen came off both markets slightly at the end of these runs, with the US and euro indices having been up more than 5 and 4.1% respectively earlier in June. Two very different culprits caused these dips in performance, with a renewed slump in the oil price largely to blame for US weakness and talk of the ECB tapering bond purchases fuelling the European sell-off.”
July 3 – Reuters (Lauren Hirsch and Nick Brown): “The Puerto Rico power utility PREPA, laden with a $9 billion debt load, has filed for a form of bankruptcy, Puerto Rico's primary fiscal agent said… “
Federal Reserve Watch:
July 4 – Wall Street Journal (Nick Timiraos): “Federal Reserve officials have indicated there is a strong chance they will announce in September a decision to start shrinking the central bank’s portfolio of bonds and other assets, while putting off until December any further interest-rate increase. The moves would give officials time to assess how markets react to the balance-sheet reductions and to confirm their view that a recent slowdown in inflation will fade. Launching the balance-sheet plan in September also would afford Chairwoman Janet Yellen an opportunity to initiate it well ahead of any potential leadership transition.”
U.S. Bubble Watch:
July 5 – Wall Street Journal (Greg Ip): “If you drew up a list of preconditions for recession, it would include the following: a labor market at full strength, frothy asset prices, tightening central banks, and a pervasive sense of calm. In other words, it would look a lot like the present. Those of us who have lived through economic mayhem before feel our muscle memory twitch at times like this. Consider the worrisome absence of worry. ‘Implied volatility’ measures the cost of hedging against big market moves via options. When fear is pervasive, options are expensive so implied volatility is high. At present, implied volatility in bonds, stocks, currencies and gold sits near its lowest since mid-2007, the eve of the financial crisis… The economic expansion is now entering its ninth year and in two years will be the longest on record. The unemployment rate sits at 4.3%, the lowest in 16 years, suggesting the economy has reached, or nearly reached, full capacity.”
July 3 – Bloomberg (Sho Chandra): “American factories powered up in June at the fastest pace in nearly three years, with robust advances in production, orders and employment that indicate a firming in the economy, data from the Institute for Supply Management showed… Factory index rose to 57.8, highest since August 2014 (est. 55.3) from 54.9 in May…”
July 3 – Bloomberg (Will Davies): “It’ll take more than central bank tightening to shake volatility from its yearlong slumber, according to Goldman Sachs… A large shock such as recession or war is usually required. That’s generally been the case for the 14 similar low volatility ‘regimes’ since 1928, at least in equity markets, Goldman Sachs strategists Christian Mueller-Glissmann and Alessio Rizzi said. These periods on average lasted nearly two years, featured short-lived spikes and realized S&P 500 volatility was usually at or below 10.”
July 3 – Bloomberg (Elise Young): “Were it not for Illinois’s flirtation with a junk credit downgrade and New Jersey Governor Chris Christie’s luxuriating on a closed public beach, the budget woes of U.S. states might have assumed their annual spot in the dust bin of public-policy history. This year, spending strife is unusually widespread, with 11 states missing their July 1 fiscal-year deadlines... In a poor economy, states often freeze spending while lawmakers and the chief executive work out how to plug budget holes. This year’s standoffs, though, come amid record stock-market gains and low national unemployment.”
July 6 – Reuters (Howard Schneider): “The U.S. housing finance system continues to put taxpayers at risk in a market dominated by government-backed agencies, Federal Reserve Governor Jerome Powell said…, calling for further reform of an ‘unsustainable’ situation. A decade after doubts about the creditworthiness of mortgage-backed securities helped trigger the worst financial crisis since the Great Depression, systemic risk remains given the concentration of mortgages in Fannie Mae and Freddie Mac, he said. ‘We're almost at a now-or-never moment,’ Powell told a conference…, arguing that the window for political action on an overhaul of housing finance may not stay open for long.”
July 4 – MarketWatch (Rachel Koning Beals): “As car buyers’ obsession with bigger, pricier vehicles grows, so does their willingness to take longer to pay for them, says new analysis from Edmunds.com. The average auto-loan length reached an all-time high of 69.3 months in June. That’s 6.8% longer than five years ago… The average amount that buyers financed was hit with the biggest uptick for the year last month, at $30,945, or up $631 from May. The financing trend also lead to the highest monthly payments for the year, now averaging $517…”
Japan Watch:
July 3 – Reuters (Linda Sieg): “Prime Minister Shinzo Abe's Liberal Democratic Party suffered an historic defeat in an election in the Japanese capital on Sunday, signaling trouble ahead for the premier, who has suffered from slumping support because of a favoritism scandal. On the surface, the Tokyo Metropolitan assembly election was a referendum on Governor Yuriko Koike's year in office, but the dismal showing for Abe's party is also a stinging rebuke of his 4-1/2-year-old administration.”
July 3 – Bloomberg (Isabel Reynolds and Yuki Hagiwara): “Scandal-hit Japanese Prime Minister Shinzo Abe faces one of his biggest tests since coming to power in late 2012, after his ruling party lost to an upstart outfit in an election for Tokyo’s assembly. The Liberal Democratic Party lost more than half its seats to end up with 23, the lowest number ever in the capital, in a vote that could be a harbinger for national elections. Voter turnout was up about eight percentage points on the previous poll four years ago… Somber-faced party executives sat in silence at the opening of an extraordinary meeting on Monday morning to discuss the defeat.”
July 2 – Bloomberg (Yoshiaki Nohara, Masahiro Hidaka, and Toru Fujioka): “Haruhiko Kuroda shouldn’t serve another term as governor of the Bank of Japan because the central bank will need fresh ideas as it moves toward exiting years of unprecedented monetary easing, according to an adviser to the prime minister. ‘An exit will surely come up within the next five years and we need someone who can prepare for it,’ said Nobuyuki Nakahara, a former BOJ board member. ‘He will fall into inertia and struggle to come up with bold new ideas. It’s the same in the private sector when a corporate president stays too long,’ he said.”
July 2 – Reuters (Leika Kihara and Tetsushi Kajimoto): “Confidence among Japan's big manufacturers hit its highest level in more than three years in the June quarter, …adding to signs the recovery in the world's third largest economy is gaining pace. Big firms also saw the job market at its tightest in 25 years, offering policymakers some hope that companies may finally raise wages… The survey underscores the Bank of Japan's view that the economy is heading for a moderate expansion…”
July 3 – Bloomberg (Toru Fujioka, Keiko Ujikane, and Takashi Amano): “A change of leadership at the Bank of Japan would offer a chance to bolster public confidence in its ability to defeat deflation, according to an economic adviser to Prime Minister Shinzo Abe. ‘What’s important, especially this time, is whether we can undertake regime change,” Etsuro Honda said… ‘It should be someone who is refreshing enough and can renew people’s impressions with personal charm and sincerity.’”
Leveraged Speculation Watch:
July 4 – Wall Street Journal (Laurence Fletcher): “After the presidential election last year, many hedge-fund managers called the U.S. a great moneymaking opportunity. It turns out Europe is the place to be. Bets on stocks in Italy, France and Spain—long laggards compared with the U.S.—have given some global hedge funds returns of more than 20% so far this year. The average hedge fund has managed only 3% through May, according to… Hedge Fund Research.”
Geopolitical Watch:
July 5 – Wall Street Journal (Jonathan Cheng): “The U.S. warned North Korea that it is ready to fight if provoked, as Pyongyang claimed another weapons-development breakthrough following its launch of an intercontinental ballistic missile a day earlier. The regime, having demonstrated its capacity to reach the U.S. with a missile, …touted another achievement of the test launch: It claimed that its missile warhead—the forward section, which carries the explosive—can withstand the extreme heat and pressure of re-entering the earth’s atmosphere.”
July 4 – Reuters (Jack Kim and Christine Kim): “North Korea said… its newly developed intercontinental ballistic missile (ICBM) can carry a large nuclear warhead, triggering a call by Washington for global action to hold it accountable for pursuing nuclear weapons. A spokeswoman for the U.S. Defense Department said it had concluded that North Korea test-launched an ICBM on Tuesday, which some experts now believe had the range to reach the U.S. state of Alaska as well as parts of the mainland United States. U.S. Secretary of State Rex Tillerson said the test, on the eve of the U.S. Independence Day holiday, represented ‘a new escalation of the threat’ to the United States and its allies, and vowed to take stronger measures.”
July 5 – Wall Street Journal (Farnaz Fassihi, Gordon Lubold and Jonathan Cheng): “The U.S. and Russia clashed at the United Nations Security Council over how to respond to North Korea’s nuclear-weapons program, a confrontation throwing into doubt U.S. hopes for an international diplomatic solution to the burgeoning crisis. The standoff between diplomats… came just two days before President Donald Trump and Russian counterpart Vladimir Putin plan to hold their first meeting during the summit of the Group of 20 leading nations in Germany, raising the stakes for both leaders as well as China, which will attend the international gathering.”
July 5 – CNBC (Cheang Ming): “Strategic ties between Russia and China were appraised in glowing terms as Chinese President Xi Jinping wrapped up a two-day state visit to Russia, concluding with at least $10 billion in agreements. Xi, who met with Russian President Vladimir Putin during the trip, told Russian media that relations between the two countries were currently at their ‘best time in history.’ The Chinese president also said Russia and China were each other's ‘most trustworthy strategic partners,’ Xinhua reported.”
July 5 – Financial Times (Heba Saleh and Simeon Kerr): “The four Arab states that have imposed an extraordinary embargo on Qatar, on Wednesday lambasted Doha for its ‘negative’ response to their demands in a sign that the month-long diplomatic crisis is deepening. After meeting in Cairo to discuss the dispute, the foreign ministers of Saudi Arabia, the United Arab Emirates, Bahrain and Egypt said Qatar’s response showed ‘a lack of seriousness in dealing with the roots of the problem’ and a ‘failure to appreciate the dangers in the situation’. Adel al-Jubeir, Saudi Arabia’s foreign minister, warned that additional steps against Doha could be taken at the appropriate time."
July 6 – Reuters (Rodi Said and Dominic Evans): “The head of the Syrian Kurdish YPG militia said… that Turkish military deployments near Kurdish-held areas of northwestern Syria amounted to a ‘declaration of war’ which could trigger clashes within days. Turkey's Deputy Prime Minister Numan Kurtulmus retorted that his country was not declaring war but that its forces would respond to any hostile move by the YPG, which he described as a small-scale army formed by the United States.”
July 5 – Associated Press (Gerry Shih and Muneeza Naqvi): “China has insisted India withdraw its troops from a disputed Himalayan plateau before talks can take place to settle the most protracted standoff in recent years between the nuclear-armed neighbors, who fought a bloody frontier war 55 years ago. India must pull back its troops ‘as soon as possible’ as a precondition to demonstrate sincerity, foreign ministry spokesman Geng Shuang told reporters… His comments came after weeks of saber-rattling in New Delhi and Beijing, as officials from both sides talk up a potential clash even bloodier than their 1962 war that left thousands dead.”
July 2 – New York Times (Sheera Frenkel): “The attack had the hallmarks of something researchers had dreaded for years: malicious software using artificial intelligence that could lead to a new digital arms race in which A.I.-driven defenses battled A.I.-driven offenses while humans watched from the sidelines. But what was not as widely predicted was that one of the earliest instances of that sort of malware was found in India… Security researchers are increasingly looking in countries outside the West to discover the newest, most creative and potentially most dangerous types of cyberattacks being deployed. As developing economies rush to go online, they provide a fertile testing ground for hackers trying their skills…”
July 1 – Reuters (Pavel Polityuk): “Ukraine said… that Russian security services were involved in a recent cyber attack on the country, with the aim of destroying important data and spreading panic. The SBU, Ukraine's state security service, said the attack, which started in Ukraine and spread around the world…, was by the same hackers who attacked the Ukrainian power grid in December 2016. Ukrainian politicians were quick to blame Russia for Tuesday's attack, but a Kremlin spokesman dismissed ‘unfounded blanket accusations’.”
Friday Evening Links
[Reuters] Wall Street climbs after jobs data as tech, financials rise
[Bloomberg] Cross-Asset Quants Are Facing Their Worst Losses in a Decade
[Bloomberg] Oil Posts Weekly Decline as U.S. Drillers Resume Expansion
[CNBC] Money is rushing into ‘the most dangerous trade in the world’
[Bloomberg] Cross-Asset Quants Are Facing Their Worst Losses in a Decade
[Bloomberg] Oil Posts Weekly Decline as U.S. Drillers Resume Expansion
[CNBC] Money is rushing into ‘the most dangerous trade in the world’
Thursday, July 6, 2017
Friday's News Links
[Bloomberg] U.S. Stocks, Dollar Rise as Jobs Data Top Estimate: Markets Wrap
[Bloomberg] U.S. Hiring Accelerates While Wage Growth Stays Flat
[Reuters] Bank of Japan offers to buy unlimited amount of bonds to calm markets
[Bloomberg] ECB Is Said to Wonder If ABS Program Worthwhile as QE Talks Loom
[Bloomberg] China Blasts G-20 Over Trade as Trump and Putin Shake Hands
[Bloomberg] Bond Rout Sounds Warning for Equities That Higher Rates Can Hurt
[Bloomberg] China Rewrites Rulebook on Capital Flows After Crisis Lessons
[Bloomberg] Emerging Markets May Have Squandered the Rock-Bottom Rates Era
[CNBC] Ray Dalio, manager of world's biggest hedge fund, says 'keep dancing' but party ending soon
[Bloomberg] In America’s Richest State, the Capital Flirts With Bankruptcy
[Bloomberg] Hong Kong Braces for Higher Rates as Currency Losses Quicken
[WSJ] Mester Says Fed Should Start Portfolio Runoff ‘Sooner Rather Than Later’
[Reuters] U.S. bombers challenge China in South China Sea flyover
[NYT] Hackers are Targeting Nuclear Facilities, Homeland Security Dept. and F.B.I. Say
[Bloomberg] U.S. Hiring Accelerates While Wage Growth Stays Flat
[Reuters] Bank of Japan offers to buy unlimited amount of bonds to calm markets
[Bloomberg] ECB Is Said to Wonder If ABS Program Worthwhile as QE Talks Loom
[Bloomberg] China Blasts G-20 Over Trade as Trump and Putin Shake Hands
[Bloomberg] Bond Rout Sounds Warning for Equities That Higher Rates Can Hurt
[Bloomberg] China Rewrites Rulebook on Capital Flows After Crisis Lessons
[Bloomberg] Emerging Markets May Have Squandered the Rock-Bottom Rates Era
[CNBC] Ray Dalio, manager of world's biggest hedge fund, says 'keep dancing' but party ending soon
[Bloomberg] In America’s Richest State, the Capital Flirts With Bankruptcy
[Bloomberg] Hong Kong Braces for Higher Rates as Currency Losses Quicken
[WSJ] Mester Says Fed Should Start Portfolio Runoff ‘Sooner Rather Than Later’
[Reuters] U.S. bombers challenge China in South China Sea flyover
[NYT] Hackers are Targeting Nuclear Facilities, Homeland Security Dept. and F.B.I. Say
Thursday Evening Links
[Bloomberg] U.S. Stocks Drop Most Since May, Bond Rout Worsens: Markets Wrap
[Bloomberg] Bond Wipeout Prompts U.S. Treasury Bulls to Rush for the Exit
[Bloomberg] Hawkish Central Bankers Spark a Debate About the End of Easy Money
[Bloomberg] Gundlach Sees More Pain for Bond Bulls as Hedge Funds Make Exit
[Bloomberg] Emerging Currencies Are in the Bull's-Eye as More Central Banks Signal Hikes
[Reuters] U.S. housing finance system 'unsustainable': Fed's Powell
[FT] ECB minutes stir debate over retreat from cheap money
[FT] ETF revolution is not without cost
[Bloomberg] Bond Wipeout Prompts U.S. Treasury Bulls to Rush for the Exit
[Bloomberg] Hawkish Central Bankers Spark a Debate About the End of Easy Money
[Bloomberg] Gundlach Sees More Pain for Bond Bulls as Hedge Funds Make Exit
[Bloomberg] Emerging Currencies Are in the Bull's-Eye as More Central Banks Signal Hikes
[Reuters] U.S. housing finance system 'unsustainable': Fed's Powell
[FT] ECB minutes stir debate over retreat from cheap money
[FT] ETF revolution is not without cost
Wednesday, July 5, 2017
Thursday's News Links
[Bloomberg] U.S. Stocks Retreat as Sovereign Bond Drop Deepens: Markets Wrap
[Bloomberg] Surge in German Bond Yields Triggers Fresh Rout in Global Debt
[Reuters] German bond yields hit 18-month highs on stimulus shivers
[Bloomberg] ECB Discussed Removing Easing Bias on Bond-Buying Program
[Bloomberg] The Flashpoints for World Leaders at the Hamburg G-20
[Bloomberg] U.S. Trade Gap Narrows as Exports Rise to Highest in Two Years
[Bloomberg] China Bond Defaults Work Wonders to Spur Pricing for Risk
[CNBC] China could export a recession to everyone else, says ex-IMF chief economist Kenneth
Rogoff
[Reuters] French central bank chief warns of sovereign debt risk
[Bloomberg] Toronto Home Sales Drop Most in Eight Years
[WSJ] Fed Officials Ready to Start Shrinking Portfolio in Months
[FT] Clouds start to form over high-yield debt
[Reuters] Trump pledges to act on North Korean threat
[Bloomberg] China Demands India Leave Himalayan Plateau in Rising Spat
[Reuters] Exclusive: Kurdish YPG militia expects conflict with Turkey in northern Syria
[WSJ] U.S., Russia Spar Over Approach to North Korea Threat
[FT] Qatar crisis deepens after Arab states attack ‘negative’ Doha
[Bloomberg] Surge in German Bond Yields Triggers Fresh Rout in Global Debt
[Reuters] German bond yields hit 18-month highs on stimulus shivers
[Bloomberg] ECB Discussed Removing Easing Bias on Bond-Buying Program
[Bloomberg] The Flashpoints for World Leaders at the Hamburg G-20
[Bloomberg] U.S. Trade Gap Narrows as Exports Rise to Highest in Two Years
[Bloomberg] China Bond Defaults Work Wonders to Spur Pricing for Risk
[CNBC] China could export a recession to everyone else, says ex-IMF chief economist Kenneth
Rogoff
[Reuters] French central bank chief warns of sovereign debt risk
[Bloomberg] Toronto Home Sales Drop Most in Eight Years
[WSJ] Fed Officials Ready to Start Shrinking Portfolio in Months
[FT] Clouds start to form over high-yield debt
[Reuters] Trump pledges to act on North Korean threat
[Bloomberg] China Demands India Leave Himalayan Plateau in Rising Spat
[Reuters] Exclusive: Kurdish YPG militia expects conflict with Turkey in northern Syria
[WSJ] U.S., Russia Spar Over Approach to North Korea Threat
[FT] Qatar crisis deepens after Arab states attack ‘negative’ Doha
Wednesday Evening Links
[Bloomberg] Stocks, Dollar Gain Amid Fed Minutes as Oil Drops: Markets Wrap
[CNBC] US crude sinks 4.1%, settling at $45.13 and ending longest winning streak since 2012
[Bloomberg] Low Inflation Frays Fed Consensus
[CNBC] The Fed grows worried its loose policy threatens US financial stability
[Reuters] Fed minutes suggest increasing tensions on inflation shortfall
[Bloomberg] Now Fed Officials Are Starting to Wonder If the VIX Is Too Low
[CNBC] Explosion in money flowing into ETFs may lead to a market liquidity problem, Bank of America says
[Bloomberg] Moody's May Still Lower Illinois to Junk Even If Budget Enacted
[CNBC] Two major lending changes mean it's suddenly easier to get a mortgage
[NYT] Fed Officials Split Over Timing on Reducing Debt Holdings
[FT] Fed ready to begin unwinding stimulus ‘within months’
[CNBC] US crude sinks 4.1%, settling at $45.13 and ending longest winning streak since 2012
[Bloomberg] Low Inflation Frays Fed Consensus
[CNBC] The Fed grows worried its loose policy threatens US financial stability
[Reuters] Fed minutes suggest increasing tensions on inflation shortfall
[Bloomberg] Now Fed Officials Are Starting to Wonder If the VIX Is Too Low
[CNBC] Explosion in money flowing into ETFs may lead to a market liquidity problem, Bank of America says
[Bloomberg] Moody's May Still Lower Illinois to Junk Even If Budget Enacted
[CNBC] Two major lending changes mean it's suddenly easier to get a mortgage
[NYT] Fed Officials Split Over Timing on Reducing Debt Holdings
[FT] Fed ready to begin unwinding stimulus ‘within months’
Tuesday, July 4, 2017
Wednesday's News Links
[Bloomberg] U.S. Stocks Retreat as Dollar, Treasuries Advance: Markets Wrap
[Bloomberg] Oil Tumbles as Russia Is Said to Oppose Deeper Production Curbs
[Reuters] Italian bond yields edge higher as ECB bias, bank rescue cloud picture
[Bloomberg] Rand Slumps as ANC Said to Weigh State Ownership of Central Bank
[Bloomberg] BOE's Saunders Warns of First U.K. Rate Increase in a Decade
[Reuters] China's services sector loses steam in June: Caixin PMI
[CNBC] China shadow banking is slowing amid more coordinated government measures, says Moody's
[Bloomberg] Gone But Not Forgotten: Traders Brace for Volatility's Comeback
[Reuters] North Korea says its ICBM can carry nuclear warhead; U.S. calls for global action
[Reuters] Merkel takes aim at U.S. 'winners and losers' policy before G20
[Reuters] Ahead of fractious G20, Germany and China pledge new cooperation
[CNBC] These are the scenarios for the US response to North Korea
[CNBC] 'Best time in history' for China-Russia relationship: Xi and Putin boost ties
[WSJ] Why Soaring Assets and Low Unemployment Mean It’s Time to Start Worrying
[WSJ] Fed Eyes September Announcement on Balance-Sheet Reduction
[FT] The retreat from QE: a central bank scorecard
[WSJ] U.S. Tells North Korea It Is Prepared to Go to War
[FT] Theresa May braced for a fall as Brexit tests loom
[Bloomberg] Oil Tumbles as Russia Is Said to Oppose Deeper Production Curbs
[Reuters] Italian bond yields edge higher as ECB bias, bank rescue cloud picture
[Bloomberg] Rand Slumps as ANC Said to Weigh State Ownership of Central Bank
[Bloomberg] BOE's Saunders Warns of First U.K. Rate Increase in a Decade
[Reuters] China's services sector loses steam in June: Caixin PMI
[CNBC] China shadow banking is slowing amid more coordinated government measures, says Moody's
[Bloomberg] Gone But Not Forgotten: Traders Brace for Volatility's Comeback
[Reuters] North Korea says its ICBM can carry nuclear warhead; U.S. calls for global action
[Reuters] Merkel takes aim at U.S. 'winners and losers' policy before G20
[Reuters] Ahead of fractious G20, Germany and China pledge new cooperation
[CNBC] These are the scenarios for the US response to North Korea
[CNBC] 'Best time in history' for China-Russia relationship: Xi and Putin boost ties
[WSJ] Why Soaring Assets and Low Unemployment Mean It’s Time to Start Worrying
[WSJ] Fed Eyes September Announcement on Balance-Sheet Reduction
[FT] The retreat from QE: a central bank scorecard
[WSJ] U.S. Tells North Korea It Is Prepared to Go to War
[FT] Theresa May braced for a fall as Brexit tests loom
Monday, July 3, 2017
Tuesday's News Links
[Bloomberg] Havens Advance as Missile Test Rattles Traders: Markets Wrap
[Bloomberg] States Mired in Budget Paralysis Defy Eight-Year Recovery
[MarketWatch] Car buyers stretch loan payments to record lengths to get in pricier vehicles
[Bloomberg] ECB's `Flexible' QE Model Falls Short on German Bond Purchases
[Reuters] China's shadow banking lacks sufficient regulation: central bank
[France24] Catalonia to declare immediate independence if 'yes' wins referendum
[Bloomberg] War or Recession Might Be Needed to Break Low-Vol, Goldman Says
[Bloomberg] Metals Trading Has a Paper Fraud Problem
[Bloomberg] North Korea Claims Its First Successful Launch of an ICBM
[CNBC] North Korea launches missile, likely hitting Japanese waters
[WSJ] Hedge Funds Flock to Europe, Thinking Worst Is Over
[FT] China is the biggest threat to Asian emerging markets
[Washington Post] China vows to step up air, sea patrols after U.S. warship sails near disputed island
[Bloomberg] States Mired in Budget Paralysis Defy Eight-Year Recovery
[MarketWatch] Car buyers stretch loan payments to record lengths to get in pricier vehicles
[Bloomberg] ECB's `Flexible' QE Model Falls Short on German Bond Purchases
[Reuters] China's shadow banking lacks sufficient regulation: central bank
[France24] Catalonia to declare immediate independence if 'yes' wins referendum
[Bloomberg] War or Recession Might Be Needed to Break Low-Vol, Goldman Says
[Bloomberg] Metals Trading Has a Paper Fraud Problem
[Bloomberg] North Korea Claims Its First Successful Launch of an ICBM
[CNBC] North Korea launches missile, likely hitting Japanese waters
[WSJ] Hedge Funds Flock to Europe, Thinking Worst Is Over
[FT] China is the biggest threat to Asian emerging markets
[Washington Post] China vows to step up air, sea patrols after U.S. warship sails near disputed island
Monday Evening Links
[Bloomberg] Stocks Head for Higher Start in Asia, Yen Declines: Markets Wrap
[Bloomberg] ‘Regime Change’ at BOJ Would Boost Confidence, Says Abe Adviser
[Reuters] Schaeuble hoping growth will end stimulus and 'crazy' negative rates
[Bloomberg] Manufacturing Pickup Signals Boost to U.S. Economic Growth
[Bloomberg] SUVs Save the Day Again in June as U.S. Car Demand Languishes
[CNBC] Market top ahead because Fed's easy money 'no longer politically acceptable,' Bank of America's Hartnett says
[Reuters] Unnerved by markets, ECB rate setters wary of July move: sources
[Bloomberg] ‘Regime Change’ at BOJ Would Boost Confidence, Says Abe Adviser
[Reuters] Schaeuble hoping growth will end stimulus and 'crazy' negative rates
[Bloomberg] Manufacturing Pickup Signals Boost to U.S. Economic Growth
[Bloomberg] SUVs Save the Day Again in June as U.S. Car Demand Languishes
[CNBC] Market top ahead because Fed's easy money 'no longer politically acceptable,' Bank of America's Hartnett says
[Reuters] Unnerved by markets, ECB rate setters wary of July move: sources
Sunday, July 2, 2017
Monday's News Links
[Bloomberg] U.S. Stocks Mixed as Tech Slips, Dollar Advances: Markets Wrap
[Reuters] Illinois House passes $5 billion tax package
[Reuters] Tough questions still to tackle before G20 summit, Germany says
[Bloomberg] Euro-Area Manufacturing Accelerates as Orders Fuel Optimism
[Bloomberg] Euro-Area Unemployment Holds at 8-Year Low as Recovery Proceeds
[Bloomberg] China Caixin PMI Rose Above 50 in June, Signaling Expansion
[Reuters] Puerto Rican power utility files for bankruptcy
[Reuters] G20 watchdog says fund flows to developing countries a concern
[CNN] Xi to Trump: 'Negative factors' straining US, China relations
[Time] Beijing Hits Out at U.S. Navy Exercises in South China Sea in a Sign of Turbulent Relations Ahead
[WSJ] Why It’s So Easy to Lose Money in Bonds
[FT] Bond sell-off fails to derail Fed unwinding plans for QE
[FT] China’s interbank bond market in five charts
[WSJ] Republican Senators Face Pushback From Governors on the Health Bill
[FT] Prospect of Weidmann in top job raises hackles at ECB
[WSJ] U.S. Navy Patrols Near Disputed Island in South China Sea
[NYT] Hackers Find ‘Ideal Testing Ground’ for Attacks: Developing Countries
[Reuters] Illinois House passes $5 billion tax package
[Reuters] Tough questions still to tackle before G20 summit, Germany says
[Bloomberg] Euro-Area Manufacturing Accelerates as Orders Fuel Optimism
[Bloomberg] Euro-Area Unemployment Holds at 8-Year Low as Recovery Proceeds
[Bloomberg] China Caixin PMI Rose Above 50 in June, Signaling Expansion
[Reuters] Puerto Rican power utility files for bankruptcy
[Reuters] G20 watchdog says fund flows to developing countries a concern
[CNN] Xi to Trump: 'Negative factors' straining US, China relations
[Time] Beijing Hits Out at U.S. Navy Exercises in South China Sea in a Sign of Turbulent Relations Ahead
[WSJ] Why It’s So Easy to Lose Money in Bonds
[FT] Bond sell-off fails to derail Fed unwinding plans for QE
[FT] China’s interbank bond market in five charts
[WSJ] Republican Senators Face Pushback From Governors on the Health Bill
[FT] Prospect of Weidmann in top job raises hackles at ECB
[WSJ] U.S. Navy Patrols Near Disputed Island in South China Sea
[NYT] Hackers Find ‘Ideal Testing Ground’ for Attacks: Developing Countries
Sunday Evening Links
[Bloomberg] Yen Pares Gain After Abe Setback; Stocks to Rise: Markets Wrap
[Bloomberg] Scandal-Hit Abe Plunged Into Crisis After Tokyo Election Loss
[Bloomberg] Abe's Mentor Says BOJ Needs Fresh Face as Kuroda Is Out of Ideas
[Reuters] Japan business confidence hits three-year high: BOJ tankan
[Bloomberg] ECB's Mersch Joins Weidmann in Explaining Policy Path to Germans
[Bloomberg] BOJ May Need QE Exit Talks by Year-End, Principal Global Says
[CNBC] Ron Paul: Not a 'total shock' if stocks plummet 25% and gold soars 50% by October
[WSJ] European Central Banks Face Added Political Constraints
[Bloomberg] Scandal-Hit Abe Plunged Into Crisis After Tokyo Election Loss
[Bloomberg] Abe's Mentor Says BOJ Needs Fresh Face as Kuroda Is Out of Ideas
[Reuters] Japan business confidence hits three-year high: BOJ tankan
[Bloomberg] ECB's Mersch Joins Weidmann in Explaining Policy Path to Germans
[Bloomberg] BOJ May Need QE Exit Talks by Year-End, Principal Global Says
[CNBC] Ron Paul: Not a 'total shock' if stocks plummet 25% and gold soars 50% by October
[WSJ] European Central Banks Face Added Political Constraints
Saturday, July 1, 2017
Sunday's News LInks
[Bloomberg] Qatar Defiance Fuels Stock Declines as Neighbors' Deadline Looms
[Reuters] May could walk out of Brexit talks over exit bill: Telegraph
[Reuters] Japan PM's party suffers historic defeat in Tokyo poll, popular governor wins big
[Bloomberg] Dollar Bulls Face Perilous Start to Second Half as Payrolls Loom
[Reuters] Gulf deadline to resolve Qatar rift approaches
[Reuters] Trump to speak with Xi, Abe as North Korea, steel issues loom
[FT] Will more central banks shift policy towards tightening?
[Reuters] May could walk out of Brexit talks over exit bill: Telegraph
[Reuters] Japan PM's party suffers historic defeat in Tokyo poll, popular governor wins big
[Bloomberg] Dollar Bulls Face Perilous Start to Second Half as Payrolls Loom
[Reuters] Gulf deadline to resolve Qatar rift approaches
[Reuters] Trump to speak with Xi, Abe as North Korea, steel issues loom
[FT] Will more central banks shift policy towards tightening?
Saturday's News Links
[Reuters] ECB working on move away from ultra-easy policy: Weidmann
[Bloomberg] Weidmann Meets the People With Reassurances on ECB Policy Path
[Bloomberg] Here's One Record Illinois Doesn't Want to Attain: QuickTake Q&A
[CNBC] Citi’s Shafir thinks a 'secular downturn' is at hand, so don't bet on a rebound in mergers in the 2nd half
[Spiegel] Merkel Concerned G-20 Summit Could End in Fiasco
[Reuters] China's Xi talks tough on Hong Kong as tens of thousands call for democracy
[Reuters] Ukraine points finger at Russian security services in recent cyber attack
[FT] China lashes out at US as Trump-Xi honeymoon ends
[FT] How central bankers rattled global markets
[Bloomberg] Weidmann Meets the People With Reassurances on ECB Policy Path
[Bloomberg] Here's One Record Illinois Doesn't Want to Attain: QuickTake Q&A
[CNBC] Citi’s Shafir thinks a 'secular downturn' is at hand, so don't bet on a rebound in mergers in the 2nd half
[Spiegel] Merkel Concerned G-20 Summit Could End in Fiasco
[Reuters] China's Xi talks tough on Hong Kong as tens of thousands call for democracy
[Reuters] Ukraine points finger at Russian security services in recent cyber attack
[FT] China lashes out at US as Trump-Xi honeymoon ends
[FT] How central bankers rattled global markets
Friday, June 30, 2017
Weekly Commentary: The Road to Normalization
The past week provided important support for the “peak monetary stimulus” thesis. There is mounting evidence that global central bankers are monitoring inflating asset prices with heightened concern. The intense focus on CPI is beginning to blur. They would prefer to be on a cautious path toward policy normalization.
June 25 – Financial Times (Claire Jones): “Global financial stability will be in jeopardy if low inflation lulls central banks into not raising interest rates when needed, the Bank for International Settlements has warned. The message about the dangers of sticking too closely to inflation targets comes as central banks in some of the world’s largest economies are considering how to end years of ultra-loose monetary policy after the global financial crisis… ‘Keeping interest rates too low for long could raise financial stability and macroeconomic risks further down the road, as debt continues to pile up and risk-taking in financial markets gathers steam,’ the bank said in its annual report. The BIS acknowledged that raising rates too quickly could cause a panic in markets that have grown used to cheap central bank cash. However, delaying action would mean rates would need to rise further and faster to prevent the next crisis. ‘The most fundamental question for central banks in the next few years is going to be what to do if the economy is chugging along well, but inflation is not going up,’ said Claudio Borio, the head of the BIS’s monetary and economics department… ‘Central banks may have to tolerate longer periods when inflation is below target, and tighten monetary policy if demand is strong — even if inflation is weak — so as not to fall behind the curve with respect to the financial cycle.’ …Mr Borio said many of the factors influencing wage growth were global and would be long-lasting. ‘If, as we think, the forces of globalisation and technology are relevant [in keeping wages low] and have not fully run their course, this will continue to put downward pressure on inflation,’ he said.”
While global markets easily ignored ramifications from the BIS’s (the central bank to central banks) annual report, the same could not be said for less than super dovish comments from Mario Draghi, my nominee for “the world’s most important central banker.”
June 27 – Financial Times (Katie Martin): “What’s that, you say? The ‘R-word’? Judging from the markets, Mario Draghi’s emphasis on reflation changes everything, and highlights the communications challenge lying ahead of the president of the European Central Bank. The ECB’s crisis-fighter-in-chief threw investors into a fit of the vapours on Tuesday when he said he was growing increasingly confident in the currency bloc’s economic recovery, and that ‘deflationary forces have been replaced by reflationary ones’.”
June 27 – Bloomberg (Annie Massa and Elizabeth Dexheimer): “Mario Draghi hinted at how he may sell a gradual unwinding of European Central Bank stimulus. The ECB president repeated his mantra that the Governing Council needs to be patient in letting inflation pressures build in the euro area and prudent in withdrawing support. At the same time, there’s room to tweak existing measures. ‘As the economy continues to recover, a constant policy stance will become more accommodative, and the central bank can accompany the recovery by adjusting the parameters of its policy instruments -- not in order to tighten the policy stance, but to keep it broadly unchanged.’ The comments echo an argument first made by Bundesbank President Jens Weidmann… With his nod to a frequent critic of quantitative easing who has been calling for an end of the 2.3 trillion-euro ($2.6 trillion) program, Draghi may have set the stage for a discussion in the coming months on phasing out asset purchases.”
When the ECB chose not to offer any policy clarification coming out of its June 8th meeting, wishful markets had Draghi holding out until September. The timeline was moved up, with the ECB president using the bank’s annual meeting, held this year in Sintra Portugal, to offer initial thoughts on how the ECB might remove accommodation. Market reaction was swift.
German 10-year bund yields surged 13 bps Tuesday and almost doubled this week to 47bps. French yield jumped 14 bps Tuesday – and 21 bps for the week - to 82 bps. European periphery bonds were under pressure. Italian 10-year yields rose 16 bps Tuesday and 24 bps for the week to 2.16%. Portuguese yields rose 14 bps Tuesday, ending the week at 3.03%. Draghi’s comments rattled bond markets around the globe. Ten-year Treasury yields rose seven bps to 2.21% (up 16 bps for the week), Canadian bonds 11 bps to 1.57% and Australian bonds 10 bps to 2.46%. Emerging market bonds also came under heavy selling pressure, with Eastern European bonds taking a pounding.
June 28 – Bloomberg (Robert Brand): “This is what it sounds like when doves screech. Less than 24 hours Mario Draghi jolted financial markets by saying ‘deflationary forces’ have been replaced by reflationary ones, European Central Bank officials reversed the script, saying markets had misinterpreted the central banker’s comments. What was perceived as hawkish was really meant to strike a balance between recognizing the currency bloc’s economic strength and warning that monetary support is still needed, three Eurosystem officials familiar with policymakers’ thinking said. Their dovish interpretation sparked a rapid unwinding of moves in assets from the euro to stocks and sovereign bonds.”
I don’t see it as the markets misinterpreting Draghi. Understandably, inflated Bubble markets have turned hyper-sensitive to the course of ECB policymaking. The ECB’s massive purchase program inflated a historic Bubble throughout European debt markets, a speculative Bubble that I believe unleashed a surge of global liquidity that has underpinned increasingly speculative securities markets.
If not for massive QE operations from the ECB and BOJ, I believe the 2016 global reversal in bond yields would have likely ushered in a major de-risking/deleveraging episode throughout global markets. Instead, powerful liquidity injections sustained speculative Bubbles throughout global fixed income, in the process spurring blow-off excess throughout global equities and risk assets more generally. Recalling the summer of 2007, everyone is determined to see the dance party rave indefinitely.
First-half QE has been estimated (by Bank of America) at (an incredible) $1.5 TN. Bubbling markets should come as no stunning surprise. At May highs, most European equities indices were sporting double-digit year-to-date gains. The S&P500 returned (price + dividends) almost 10% for the first half, with the more speculative areas of U.S. equities outperforming. The Nasdaq Composite gained 14.1% in the first-half, with the large company Nasdaq 100 (NDX) rising 16.1%. Despite this week’s declines, the Morgan Stanley High Tech index rose 20.3%, and the Semiconductors (SOX) jumped 14.2% y-t-d. The Biotechs (BTK) surged 9.7% during Q2, boosting y-t-d gains to 25.6%. The NYSE Healthcare Index gained 7.7% for the quarter and 15.3% y-t-d. The Nasdaq Transports jumped 9.7% during Q2, with the DJ Transports up 5.3%. The Nasdaq Other Financials rose 7.9% in the quarter.
Central banks have closely collaborated since the financial crisis. While always justifying policy stimulus on domestic grounds, it’s now been almost a decade of central bankers coordinating stimulus measures to address global system fragilities. I doubt the Fed would have further ballooned its balance sheet starting in late-2012 if not for the “European” financial crisis. In early-2016, the ECB and BOJ would not have so aggressively expanded QE programs – and the Fed not postponed “normalization” – if not for global ramifications of a faltering Chinese Bubble. All the talk of downside inflation risk was convenient cover for global crisis worries.
As Mario Draghi stated, the European economy is now on a reflationary footing. At least for now, Beijing has somewhat stabilized the Chinese Bubble. Powered by booming securities markets, global Credit continues to expand briskly. Even in Europe, the employment backdrop has improved markedly. It’s just become difficult for central bankers to fixate on tame consumer price indices with asset prices running wild.
Global market liquidity has become fully fungible, a product of multinational financial institutions, securities lending/finance and derivatives markets. The ECB and BOJ’s ultra-loose policy stances have worked to counteract the Fed’s cautious normalization strategy. Determined to delay the inevitable, Draghi now faces the scheduled year-end expiration of the ECB’s latest QE program, along with an impending shortage of German bunds available for purchase. Behind the scenes and otherwise, Germany is surely losing patience with open-ended “money” printing. This week’s annual ECB gathering provided an opportunity for Draghi to finally get the so-called normalization ball rolling. Despite his cautious approach, markets immediately feared being run over.
June 28 – Bloomberg (Alessandro Speciale): “Mario Draghi just got evidence that his call for ‘prudence’ in withdrawing European Central Bank stimulus applies to his words too. The euro and bond yields surged on Tuesday after the ECB president said the reflation of the euro-area economy creates room to pull back unconventional measures without tightening the stance. Policy makers noted the jolt that showed how hypersensitive investors are to statements that can be read as even mildly hawkish… Draghi’s speech at the ECB Forum in Sintra, Portugal, was intended to strike a balance between recognizing the currency bloc’s economic strength and warning that monetary support is still needed, said the officials…”
June 28 – Bloomberg (James Hertling, Alessandro Speciale, and Piotr Skolimowski): “Global central bankers are coalescing around the message that the cost of money is headed higher -- and markets had better get used to it. Just a week after signaling near-zero interest rates were appropriate, Bank of England Governor Mark Carney suggested on Wednesday that the time is nearing for an increase. His U.S. counterpart, Janet Yellen, said her policy tightening is on track and Canada’s Stephen Poloz reiterated he may be considering a rate hike. The challenge of following though after a decade of easy money was highlighted by European Central Bank President Mario Draghi’s attempt to thread the needle. Financial markets whipsawed as Eurosystem officials walked back comments Draghi made Tuesday that investors had interpreted as signaling an imminent change in monetary policy. ‘The market is very sensitive to the idea that a number of central banks are appropriately and belatedly reassessing the need for emergency policy accommodation,’ said Alan Ruskin, co-head of foreign exchange research at Deutsche Bank AG.”
Draghi and the ECB are hoping to duplicate the Fed blueprint – quite gingerly removing accommodation while exerting minimal impact on bond yields and risk markets more generally: Normalization without a meaningful tightening of financial conditions. This is unrealistic.
Current complacency notwithstanding, turning down the ECB QE spigot will dramatically effect global liquidity dynamics. Keep in mind that the removal of Fed accommodation has so far coincided with enormous counteracting market liquidity injections courtesy of the other major central banks. The ECB will not enjoy a similar luxury. Moreover, global asset prices have inflated significantly over the past 18 months, fueled at least in part by a major increase in speculative leverage.
There are three primary facets to QE dynamics worth pondering as central banks initiate normalization. The first is the size and scope of previous QE operations. The second is the primary target of liquidity-induced market flows. And third, to what extent have central bank measures and associated market flows spurred self-reinforcing speculative leveraging and market distortions. Inarguably, ECB and BOJ-induced flows over recent quarters have been massive. It is also reasonably clear that market flows gravitated primarily to equities and corporate Credit, asset classes demonstrating the most enticing inflationary biases. And there are as well ample anecdotes supporting the view that major speculative leveraging has been integral to myriad Bubbles throughout global risk markets. The now deeply ingrained view that the cadre of global central banks will not tolerate market declines is one of history’s most consequential market distortions.
And while the timing of the removal of ECB and BOJ liquidity stimulus remains uncertain, markets must now at least contemplate an approaching backdrop with less accommodation from the ECB and central banks more generally. With this in mind, Draghi’s comments this week could mark an important juncture for speculative leveraging. Increasingly unstable currency markets are consistent with this thesis. The days of shorting yen and euros and using proceeds for easy profits in higher-yielding currencies appear to have run their course. I suspect de-leveraging dynamics have commenced, though market impact has thus far been muted by ongoing ECB and BOJ liquidity operations.
June 27 – Reuters (William Schomberg, Marc Jones, Jason Lange and Lindsay Dunsmuir): “U.S. Federal Reserve Chair Janet Yellen said on Tuesday that she does not believe that there will be another financial crisis for at least as long as she lives, thanks largely to reforms of the banking system since the 2007-09 crash. ‘Would I say there will never, ever be another financial crisis?’ Yellen said… ‘You know probably that would be going too far but I do think we're much safer and I hope that it will not be in our lifetimes and I don't believe it will be,’ she said.”
While headlines somewhat paraphrased Yellen’s actual comment, “We Will not see Another Crisis in Our Lifetime” is reminiscent of Irving Fisher’s “permanent plateau” just weeks before the great crash of 1929. While on the subject, I never bought into the popular comparison between 2008 and 1929 – and the related notion of 2008 as “the 100-year flood”. The 2008/09 crisis was for the most part a private debt crisis associated with the bursting of a Bubble in mortgage Credit – not dissimilar to previous serial global crises, only larger and somewhat more systemic. It was not, however, a deeply systemic debt crisis akin to the aftermath of 1929, which was characterized by a crisis of confidence in the banking system, the markets and finance more generally, along with a loss of faith in government policy and institutions. But after a decade of unprecedented expansion of government debt and central bank Credit, the stage has now been set for a more systemic 1929-like financial dislocation.
As such, it’s ironic that the Fed has branded the banking system cured and so well capitalized that bankers can now boost dividends, buybacks and, presumably, risk-taking. As conventional central bank thinking goes, a well-capitalized banking system provides a powerful buffer for thwarting the winds of financial crisis. Chair Yellen, apparently, surveys current bank capital levels and extrapolates to systemic stability. Yet the next crisis lurks not with the banks but within the securities and derivatives markets: too much leverage and too much “money” employed in trend-following trading strategies. Too much hedging, speculating and leveraging in derivatives. Market misperceptions and distortions on an epic scale.
Compared to 2008, the leveraged speculating community and the ETF complex are significantly larger and potentially perilous. The derivatives markets are these days acutely more vulnerable to liquidity issues and dislocation. Never have global markets been so dominated by trend-following strategies. It’s a serious issue that asset market performance – stocks, bond, corporate Credit, EM, real estate, etc. – have all become so tightly correlated. There are huge vulnerabilities associated with various markets having become so highly synchronized on a global basis. And in the grand scheme of grossly inflated global securities, asset and derivatives markets, the scope of available bank capital is trivial.
I realize that, at this late stage of the great bull market, such a question sounds hopelessly disconnected. Yet, when markets reverse sharply lower and The Crowd suddenly moves to de-risk, who is left to take the other side of what has become One Gargantuan “Trade”? We’re all familiar with the pat response: “Central banks. They’ll have no choice.” Okay, but I’m more interested in the timing and circumstances.
Central bankers are now signaling their desire to proceed with normalization, along with noting concerns for elevated asset prices. As such, I suspect they will be somewhat more circumspect going forward when it comes to backstopping the markets - than, say, back in 2013 with Bernanke’s “flash crash” or with the China scare of early-2016. Perhaps this might help to explain why the VIX spiked above 15 during Thursday afternoon trading. Even corporate debt markets showed a flash of vulnerability this week.
For the Week:
The S&P500 dipped 0.6% (up 8.2% y-t-d), and the Dow slipped 0.2% (up 8.0%). The Utilities fell 2.5% (up 6.2%). The Banks surged 4.4% (up 4.2%), and the Broker/Dealers jumped 2.6% (up 9.8%). The Transports rose 1.9% (up 5.7%). The S&P 400 Midcaps added 0.2% (up 5.2%), while the small cap Russell 2000 was unchanged (up 4.3%). The Nasdaq100 dropped 2.7% (up 16.1%), and the Morgan Stanley High Tech index sank 3.0% (up 20.3%). The Semiconductors were hit 4.9% (up 14.2%). The Biotechs dropped 3.9% (up 25.5%). With bullion dropping $15, the HUI gold index sank 4.5% (up 1.9%).
Three-month Treasury bill rates ended the week at 100 bps. Two-year government yields gained four bps to 1.38% (up 19bps y-t-d). Five-year T-note yields rose 13 bps to 1.89% (down 4bps). Ten-year Treasury yields jumped 16 bps to 2.30% (down 14bps). Long bond yields increased 12 bps to 2.84% (down 23bps).
Greek 10-year yields were little changed at 5.36% (down 166bps y-t-d). Ten-year Portuguese yields rose 10 bps to 3.03% (down 72bps). Italian 10-year yields surged 24 bps to 2.16% (up 35bps). Spain's 10-year yields jumped 16 bps to 1.54% (up 16bps). German bund yields surged 21 bps to 0.47% (up 26bps). French yields rose 21 bps to 0.82% (up 14bps). The French to German 10-year bond spread was unchanged at 35 bps. U.K. 10-year gilt yields jumped 23 bps to 1.26% (up 2bps). U.K.'s FTSE equities index fell 1.5% (up 11.2%).
Japan's Nikkei 225 equities index declined 0.5% (up 4.8% y-t-d). Japanese 10-year "JGB" yields gained three bps to 0.09% (up 5bps). France's CAC40 sank 2.8% (up 5.3%). The German DAX equities index was hit 3.2% (up 7.4%). Spain's IBEX 35 equities index fell 1.8% (up 11.7%). Italy's FTSE MIB index declined 1.2% (up 7.0%). EM equities were mostly higher. Brazil's Bovespa index rallied 3.0% (up 4.4%), and Mexico's Bolsa gained 1.8% (up 9.2%). South Korea's Kospi increased 0.6% (up 18%). India’s Sensex equities index declined 0.7% (up 16.1%). China’s Shanghai Exchange rose 1.1% (up 2.9%). Turkey's Borsa Istanbul National 100 index added 0.8% (up 28.5%). Russia's MICEX equities index gained 0.6% (down 15.8%).
Junk bond mutual funds saw outflows of $1.735 billion (from Lipper).
Freddie Mac 30-year fixed mortgage rates dipped two bps to 3.88% (up 40bps y-o-y). Fifteen-year rates were unchanged at 3.17% (up 39bps). The five-year hybrid ARM rate gained three bps to 3.17% (up 47bps). Bankrate's survey of jumbo mortgage borrowing costs had 30-yr fixed rates up a basis point to 4.01% (up 34bps).
Federal Reserve Credit last week added $0.8bn to $4.431 TN. Over the past year, Fed Credit declined $5.0bn. Fed Credit inflated $1.620 TN, or 58%, over the past 242 weeks. Elsewhere, Fed holdings for foreign owners of Treasury, Agency Debt jumped another $17.9bn last week to $3.310 TN. "Custody holdings" were up $83bn y-o-y, 2.6%.
M2 (narrow) "money" supply last week slipped $4.3bn to $13.510 TN. "Narrow money" expanded $686bn, or 5.4%, over the past year. For the week, Currency increased $2.7bn. Total Checkable Deposits fell $12.7bn, while Savings Deposits gained $6.9bn. Small Time Deposits were little changed. Retail Money Funds fell $4.1bn.
Total money market fund assets added $4.2bn to $2.621 TN. Money Funds fell $96bn y-o-y (3.5%).
Total Commercial Paper declined $5.4bn to $973.6bn. CP declined $77bn y-o-y, or 7.4%.
Currency Watch:
The U.S. dollar index fell 1.7% to 95.628 (down 6.6% y-t-d). For the week on the upside, the Swedish krona increased 3.4%, the British pound 2.4%, the Canadian dollar 2.3%, the euro 2.1%, the Australian dollar 1.6%, the Norwegian krone 1.3%, the Swiss franc 1.2%, the Brazilian real 1.1%, the Singapore dollar 0.8% and the New Zealand dollar 0.7%. For the week on the downside, the South African rand declined 1.6%, the Japanese yen 1.0%, the Mexican peso 0.6% and the South Korean won 0.4%. The Chinese renminbi gained 0.82% versus the dollar this week (up 2.42% y-t-d).
Commodities Watch:
The Goldman Sachs Commodities Index surged 5.3% (down 6.5% y-t-d). Spot Gold declined 1.2% to $1,242 (up 7.7%). Silver slipped 0.5% to $16.627 (up 4.0%). Crude rallied $3.03 to $46.04 (down 15%). Gasoline jumped 5.6% (down 9%), and Natural Gas rose 3.6% (down 19%). Copper gained 2.9% (up 8%). Wheat surged 11.1% (up 29%). Corn jumped 4.2% (up 8%).
Trump Administration Watch:
June 27 – Bloomberg (Steven T. Dennis and Laura Litvan): “Senate Majority Leader Mitch McConnell’s decision to delay a vote on health-care legislation came as a relief to some Republican holdouts, but it sets off what will be a furious few weeks of talks to deliver on the GOP’s seven-year promise to repeal the Affordable Care Act. Senate Republicans went to the White House Tuesday afternoon to meet with President Donald Trump, who also promised his political supporters he would do away with Obamacare. ‘We’re going to solve the problem,’ the president told senators. But Trump also conceded the possibility that the health bill wouldn’t pass. ‘If we don’t get it done, it’s just going to be something that we’re not going to like,’ he said… ‘And that’s OK, and I understand that very well.’”
June 29 – Reuters: “Congress will need to raise the nation's debt limit and avoid defaulting on loan payments by ‘early to mid-October,’ the Congressional Budget Office said in a report… Treasury Secretary Steve Mnuchin has encouraged Congress to raise the limit before the legislative body leaves for their August recess. But it remains unclear if a bipartisan agreement has been struck to allow the limit to be raised, as both chambers continue to be weighed down by health care and tax reform and trying to find an agreement to fund the government after the September 30 deadline.”
June 30 – CNBC (Fred Imbert): “President Donald Trump's White House is ‘hell-bent’ on imposing tariffs on steel and other imports, Axios reported Friday. The plan — which was pushed by Commerce Secretary Wilbur Ross and was supported by National Trade Council Peter Navarro, and policy adviser Stephen Miller — would potentially impose tariffs in the 20% range… During a ‘tense’ meeting Monday, the president made it clear he favors tariffs, yet the plan was met with heavy opposition by most officials in the room, with one telling Axios about 22 were against it and only three in favor, including Trump.”
June 29 – Financial Times (Stefan Wagstyl): “Angela Merkel threw down the gauntlet to Donald Trump as Germany’s chancellor pledged to fight at next week’s G20 summit for free trade, international co-operation and the Paris climate change accord. In a combative speech on Thursday in the German parliament, Ms Merkel also promised to focus on reinforcing the EU, in close co-operation with France, despite the pressing issue of Brexit. But in a sign that it may be difficult to maintain European unity around a tough approach to Mr Trump, Ms Merkel later softened her tone, as she prepares to host G20 leaders in Hamburg next Friday.”
June 27 – Bloomberg (Joe Light): “Two U.S. senators working on a bipartisan overhaul of Fannie Mae and Freddie Mac are seriously considering a plan that would break up the mortgage-finance giants, according to people with knowledge of the matter. The proposal by Tennessee Republican Bob Corker and Virginia Democrat Mark Warner would attempt to foster competition in the secondary mortgage market… Corker and Warner’s push to develop a plan marks Congress’ latest attempt to figure out what to do with Fannie and Freddie, an issue that has vexed lawmakers ever since the government took control of the companies in 2008 as the housing market cratered. The lawmakers’ plan is still being developed, and a Senate aide who asked not to be named cautioned that no decisions had been made on any issues.”
China Bubble Watch:
June 25 – Financial Times (Minxin Pei): “The Chinese government has just launched an apparent crackdown on a small number of large conglomerates known in the west chiefly for their aggressive dealmaking. The list includes Dalian Wanda, Anbang, Fosun and HNA Group. The news that Chinese banking regulators have asked lenders to examine their exposure to these companies has sent the stocks of groups wholly or partly owned by these conglomerates tumbling in Shanghai and Hong Kong. Obviously, the market was caught by surprise. But it should not be… The immediate trigger is Beijing’s growing alarm over the risks in China’s financial sector and attempt to cut capital outflows. In late April, President Xi Jinping convened a politburo meeting specifically focused on stability in the financial system. Foreshadowing the crackdown, he ordered that those ‘financial crocodiles’ that destabilise China’s financial system must be punished.”
June 26 – Wall Street Journal (Anjani Trivedi): “As Beijing looks to rein in companies that have splurged on overseas deals, it is talking up the systemic risks to its financial system. But just how serious is the problem? After all, for years Beijing has urged leading companies to ‘go global,’ and encouraged banks to support them with lending. Its words were taken to heart: Companies like sprawling conglomerate HNA Group and insurer Anbang pushed the country’s outbound acquisitions to more than $200 billion last year… Now… regulators are investigating leverage and risks at banks associated with China Inc.’s bulging overseas deals. It’s clear that Chinese banks are already heavily exposed to China’s big deal makers through basic lending. Chinese lenders had extended more than 500 billion yuan ($73.14bn) of loans to HNA alone as of last year…”
June 26 – Bloomberg: “China may finally be ready to cut the cord when it comes to the country’s troubled local government financing vehicles. Beijing’s deleveraging drive has seen rules impacting LGFV debt refinancing tightened, spurring a slump in issuance by the vehicles, which owe about 5.6 trillion yuan ($818bn) to bondholders and are seen by some as the poster children for China’s post-financial crisis debt woes. Signs the authorities may be taking a less sympathetic view of the sector has ratings companies flagging the possibility that 2017 could see the first ever default by a local financing vehicle.”
June 29 – Reuters (Yawen Chen and Thomas Peter): “The struggles of China's small and medium-sized firms have grown so acute that many are expected to become unprofitable or even go belly-up this year, boding ill for an economy running short on strong growth drivers. The companies - which account for over 60% of China's $11 trillion gross domestic product - have entered the most challenging funding environment in years as Beijing cracks down on easy credit to contain a dangerous debt build-up. Many of the firms - mostly in the industrial, transport, wholesale, retail, catering and accommodation sectors - are already grappling with soaring costs, fierce competition and thinning profits. The strains faced by small and medium-sized enterprises (SMEs) are expected to grow more visible as Beijing deflates a real estate bubble and eases infrastructure spending to dial back its fiscal stimulus.”
June 29 – Reuters (Leika Kihara and Stanley White): “One of Chinese banks’ favorite tools for increasing leverage has staged a remarkable but worrisome comeback just two months after a regulatory crackdown on leveraged investment… Chinese banks’ issuance of negotiable certificates of deposit in June nearly hit the high recorded in March… NCDs, a type of short-term loan, have become extremely popular in recent years with Chinese banks, especially smaller lenders due to their weaker ability to attract deposits. During a clampdown on runaway debt in April, Chinese regulators warned banks against abusing the tool for speculative, leveraged bets in capital markets. But after a deep but brief drop, NCD issuance has risen again as regulatory attention appeared to ease in recent weeks, hitting 1.96 trillion yuan ($287.73bn) this month, up sharply from 1.23 trillion yuan in May and just a touch below March’s record 2.02 trillion yuan."
June 28 – Financial Times (Gabriel Wildau): “Capital flight disguised as overseas tourism spending has artificially cut China’s reported trade surplus while masking the extent of investment outflows, according to research by the US Federal Reserve. A significant share of overseas spending classified in official data as travel-related shopping, entertainment and hospitality may over a 12-month period have instead been used for investment in financial assets and real estate, the Fed paper argued… Disguised capital outflows in the year to September may have amounted to $190bn, or 1.7% of gross domestic product… Chinese households have in recent years looked at ways to skirt government-imposed limitations on foreign investment as its economy slowed and the renminbi depreciated.”
June 28 – Bloomberg (Joe Ryan): “As Elon Musk races to finish building the world’s biggest battery factory in the Nevada desert, China is poised to leave him in the dust. Chinese companies have plans for additional factories with the capacity to pump out more than 120 gigawatt-hours a year by 2021, according to a report… by Bloomberg Intelligence. That’s enough to supply batteries for around 1.5 million Tesla Model S vehicles or 13.7 million Toyota Prius Plug-in Hybrids per year… By comparison, when completed in 2018, Tesla Inc.’s Gigafactory will crank out up to 35 gigawatt-hours of battery cells annually.”
June 28 – CNBC (Geoff Cutmore): “China's economic growth will accelerate because the country will finally get leaders who aren't scared, a former advisor to China's central bank said Wednesday. ‘The most important reason is that there is a new group of officials being appointed ... (who will emerge) around the 19th Party Congress which will be in mid to late October,’ said Li Daokui, who is now Dean of the Schwarzman College at Tsinghua University in Beijing. …Li said the Chinese economy will grow 6.9 to 7 percent by 2018 from 6.7 percent in 2017. China posted 6.7% GDP growth in 2016, the slowest in 26 years. ‘These (new) officials have been carefully, carefully scrutinized before they are appointed so they are clean. They are not worried about becoming targets of anti-corruption investigations,’ he added.”
Europe Watch:
June 26 – Bloomberg (Sonia Sirletti and Alexander Weber): Italy orchestrated its biggest bank rescue on record, committing as much as 17 billion euros ($19bn) to clean up two failed banks in one of its wealthiest regions, a deal that raises questions about the consistency of Europe’s bank regulations. The intervention at Banca Popolare di Vicenza SpA and Veneto Banca SpA includes state support for Intesa Sanpaolo SpA to acquire their good assets for a token amount… Milan-based Intesa can initially tap about 5.2 billion euros to take on some assets without hurting capital ratios, Padoan said. The European Commission approved the plan.”
June 28 – Reuters (Gernot Heller and Joseph Nasr): “Finance Minister Wolfgang Schaeuble… underscored Germany's concerns about what he called a regulatory loophole after the EU cleared Italy to wind up two failed banks at a hefty cost to local taxpayers. Schaeuble told reporters that Europe should abide by rules enacted after the 2008 collapse of U.S. financial services firm Lehman Brothers that were meant to protect taxpayers. Existing European Union guidelines for restructuring banks aimed to ensure ‘what all political groups wanted: that taxpayers will never again carry the risks of banks,’ he said. Italy is transferring the good assets of the two Veneto lenders to the nation's biggest retail bank, Intesa Sanpaolo (ISP.MI), as part of a transaction that could cost the state up to 17 billion euros ($19 billion).”
June 25 – Reuters (Balazs Koranyi and Erik Kirschbaum): “The time may be nearing for the European Central Bank to start discussing the end of unprecedented stimulus as growth and inflation are both moving in the right direction, Bundesbank president Jens Weidmann told German newspaper Welt am Sonntag. Weidmann, who sits on the ECB's rate-setting Governing Council, also said that the bank should not make any further changes to the key parameters of its bond purchase scheme, comments that signal opposition to an extension of asset buys since the ECB will soon hit its German bond purchase limits. Hoping to revive growth and inflation, the ECB is buying 2.3 trillion euros worth of bonds…, a scheme known as quantitative easing and long opposed by Germany… The purchases are set to run until December and the ECB will decide this fall whether to extend it… ‘As far as a possible extension of the bonds-buying program goes, this hasn't yet been discussed in the ECB Council,’ Weidmann told the newspaper…”
June 26 – Bloomberg (Carolynn Look): “It seems the sky is the limit for Germany’s economy. Business confidence -- logging its fifth consecutive increase -- jumped to the highest since 1991 this month, underpinning optimism by the Bundesbank that the upswing in Europe’s largest economy is set to continue. With domestic demand supported by a buoyant labor market, risks to growth stem almost exclusively from global forces. ‘Sentiment among German businesses is jubilant,’ Ifo President Clemens Fuest said… ‘Germany’s economy is performing very strongly.’”
June 29 – Reuters (Pete Schroeder and David Henry): “German inflation probably accelerated in June, regional data suggested on Thursday, suggesting a solid upswing in the economy is pushing up price pressures as euro zone inflation moves closer to the European Central Bank's target. The data comes only days after ECB head Mario Draghi hinted that the bank's asset-purchase program would become less accommodative going into 2018 as regional growth gains pace and inflation trends return following a period of falling prices. In another sign of rising price pressures in the 19-member single currency bloc, Spanish consumer prices rose more than expected in June… In the German state of Hesse, annual inflation rose to 1.9% in June from 1.7% in May…”
June 28 – Reuters (Gavin Jones and Steve Scherer): “He is an 80-year-old convicted criminal whose last government ended with Italy on the brink of bankruptcy - and he may well be kingmaker at the next election within a year. Mayoral elections on Sunday showed four-time Prime Minister Silvio Berlusconi's center-right Forza Italia party remains a force to be reckoned with... ‘Berlusconi sees this as the last challenge of his career,’ said Renato Brunetta, a close ally for over 20 years and Forza Italia's lower house leader. ‘He feels he has suffered many injustices and deserves one last shot. Who can deny him that?’ Matteo Renzi, leader of the ruling Democratic Party (PD), and Beppe Grillo's anti-establishment 5-Star Movement have dominated the national scene in recent years, relegating Forza Italia to a distant third or fourth in the polls. Yet in the mayoral ballots, Forza Italia and its anti-immigrant Northern League allies trounced the PD and 5-Star in cities all over the country, suggesting they have momentum behind them just as the national vote comes into view.”
Central Bank Watch:
June 27 – Wall Street Journal (Tom Fairless): “The euro soared to its biggest one-day gain against the dollar in a year and eurozone bond prices slumped after European Central Bank President Mario Draghi hinted the ECB might start winding down its stimulus in response to accelerating growth in Europe. Any move by the ECB toward reducing bond purchases would put it on a similar policy path as the Federal Reserve, which first signaled an intent to taper its own stimulus program in 2013. But the ECB is likely to remain far behind: The Fed has been raising interest rates gradually since December 2015, while the ECB’s key rate has been negative since June 2014. Mr. Draghi’s comments, made Tuesday at the ECB’s annual economic policy conference in Portugal, were laced with caution and caveats. But investors interpreted them as a cue to buy euros and sell eurozone bonds, a reversal of a long-term trade that has benefited from the central bank’s €60 billion ($67.15bn) of bond purchases each month. ‘All the signs now point to a strengthening and broadening recovery in the euro area,’ Mr. Draghi said.”
June 28 – Financial Times (Dan McCrum and Chris Giles in London and Claire Jones): “Bond and currency markets whipsawed on Wednesday as Europe’s two most influential central bankers struggled to communicate to investors how they would exit from years of crisis-era economic stimulus policies. The euro surged to a 52-week high against the dollar after investors characterised remarks by Mario Draghi as a signal he was preparing to taper the European Central Bank’s bond-buying scheme — only to drop almost a full cent after senior ECB figures made clear he had been misinterpreted. Similarly, the British pound jumped 1.2% to $1.2972 after Mark Carney, Bank of England governor, said he was prepared to raise interest rates if UK business activity increased — just a week after saying ‘now is not yet the time’ for an increase. The sharp moves and sudden reversals over two days of heavy trading highlight the acute sensitivity of financial markets to any suggestion of a withdrawal of stimulus measures after a prolonged period of monetary accommodation.”
June 25 – Reuters (Marc Jones): “Major central banks should press ahead with interest rate increases, the Bank for International Settlements said…, while recognizing that some turbulence in financial markets will have to be negotiated along the way. The BIS, an umbrella body for leading central banks, said in one of its most upbeat annual reports for years that global growth could soon be back at long-term average levels after a sharp improvement in sentiment over the past year. Though pockets of risk remain because of high debt levels, low productivity growth and dwindling policy firepower, the BIS said policymakers should take advantage of the improving economic outlook and its surprisingly negligible effect on inflation to accelerate the ‘great unwinding’ of quantitative easing programs and record low interest rates.”
Brexit Watch:
June 27 – Reuters (Guy Faulconbridge and Kate Holton): “Prime Minister Theresa May struck a deal on Monday to prop up her minority government by agreeing to at least 1 billion pounds ($1.3bn) in extra funding for Northern Ireland in return for the support of the province's biggest Protestant party. After over two weeks of talks and turmoil sparked by May's failure to win a majority in a June 8 snap election, she now has the parliamentary numbers to pass a budget and a better chance of passing laws to take Britain out of the European Union.”
Global Bubble Watch:
June 28 – Wall Street Journal (Richard Barley): “Sometimes financial markets are surprisingly bad at connecting the dots—until they can’t ignore the picture forming before their eyes. The screeching U-turn in bond markets is a good example. The world’s central banks are sending out a message that loose monetary policy can’t last forever. The shift is mainly rhetorical, and action may yet be some way off. But expectations matter, as they did when the Federal Reserve indicated in 2013 that its quantitative-easing program could be wound down. That caused global bond yields to surge, led by the U.S., and sparked extended turmoil in emerging markets. This time, the bond reversal has been centered on Europe. Ten-year German bund yields started Tuesday just below 0.25%, but by Wednesday afternoon stood at 0.37%. That helped lift bond yields elsewhere, since low German yields have been acting as an anchor. The selloff in the bund Tuesday was the worst in 22 months…”
June 28 – Reuters (Sujata Rao): “Global debt levels have climbed $500 billion in the past year to a record $217 trillion, a new study shows, just as major central banks prepare to end years of super-cheap credit policies. World markets were jarred this week by a chorus of central bankers warning about overpriced assets, excessive consumer borrowing and the need to begin the process of normalizing world interest rates from the extraordinarily low levels introduced to offset the fallout of the 2009 credit crash. This week, U.S. Federal Reserve chief Janet Yellen has warned of expensive asset price valuations, Bank of England Governor Mark Carney has tightened controls on bank credit and European Central Bank head Mario Draghi has opened the door to cutting back stimulus, possibly as soon as September. Years of cheap central bank cash has delivered a sugar rush to world equity markets, pushing them to successive record highs. But another side effect has been explosive credit growth as households, companies and governments rushed to take advantage of rock-bottom borrowing costs. Global debt, as a result, now amounts to 327% of the world's annual economic output, the Institute of International Finance (IIF) said in a report…”
June 26 – Bloomberg (Garfield Clinton Reynolds and Adam Haigh): “Greed seems to be running the show in global markets. Fear has fled, and that may be the biggest risk of all. Currency volatility just hit a 20-month low, Treasury yields are in their narrowest half-year trading range since the 1970s and the U.S. equities fear gauge, the VIX, is stuck near a two-decade nadir. While markets have signaled complacency in the face of Middle East tensions, the withdrawal of Federal Reserve stimulus and President Donald Trump’s tweetstorms, the Bank for International Settlements flagged on Sunday that low volatility can spur risk-taking with the potential to unwind quickly.”
June 27 – Bloomberg (Annie Massa and Elizabeth Dexheimer): “The growing market for exchange-traded funds hasn’t been fully put to the test, according to one of the top U.S. speed trading firms. Ari Rubenstein, chief executive officer and co-founder of Global Trading Systems LLC, told lawmakers… that while investment dollars have flooded the U.S. ETF market, the new order has not endured an extreme period of stress. Volatility, a measure of market uncertainty, has remained low. ‘In some ways the markets are a bit untested,’ Rubenstein said… ‘It’s definitely something we should talk about to make sure industry participants are prepared in those instruments.’”
June 29 – Financial Times (Javier Espinoza): “Private equity buyouts have enjoyed the strongest start to a year since before the financial crisis as fund managers have come under intense pressure from investors to deploy some of the record amount of capital they hold. The volume of deals involving private equity firms climbed 29% to $143.7bn in the first half of the year, the highest level since 2007, according to… Thomson Reuters.”
June 27 – Bloomberg (Enda Curran and Stephen Engle): “Investors aren’t sufficiently pricing in a growing threat to economic and financial market stability from geopolitical risks, and the latest global cyberattack is an example of the damage that can be wreaked on trade, Cornell University Professor Eswar Prasad said. His remarks came as a virus similar to WannaCry reached Asia after spreading from Europe to the U.S. overnight, hitting businesses, port operators and government systems.”
Fixed Income Bubble Watch:
June 27 – CNBC (Ann Saphir): “Bond investors may soon pay a hefty price for being too pessimistic about the economy, according to portfolio manager Joe Zidle. Zidle, who is with Richard Bernstein Advisors, believes the vast amount of money flowing into long-duration bonds is signaling a costly mistake. ‘Last week alone, there is a 20-year plus treasury bond ETF that in one week got more inflows than all domestic equity mutual funds, and all domestic equity ETFs combined year-to-date,’ he said… He added: ‘I think investors are going to be in a real painful trade.’”
June 26 – Bloomberg (Mary Williams Walsh): “The United States Virgin Islands is best known for its powdery beaches and turquoise bays, a constant draw for the tourists who frequent this tiny American territory. Yet away from the beaches the mood is ominous, as government officials scramble to stave off the same kind of fiscal collapse that has already engulfed its neighbor Puerto Rico. The public debts of the Virgin Islands are much smaller than those of Puerto Rico, which effectively declared bankruptcy in May. But so is its population, and therefore its ability to pay. This tropical territory of roughly 100,000 people owes some $6.5 billion to pensioners and creditors.”
Federal Reserve Watch:
June 28 – Bloomberg (Jill Ward, Lucy Meakin, and Christopher Condon): “Federal Reserve Chair Janet Yellen gave no indication her plans for continued monetary policy tightening had shifted while acknowledging that some asset prices had become ‘somewhat rich.’ ‘We’ve made very clear that we think it will be appropriate to the attainment of our goals to raise interest rates very gradually,’ she said… In her first public remarks since the U.S. central bank hiked rates on June 14, Yellen said that asset valuations, by some measures ‘look high, but there’s no certainty about that.’ ‘Asset valuations are somewhat rich if you use some traditional metrics like price earnings ratios, but I wouldn’t try to comment on appropriate valuations, and those ratios ought to depend on long-term interest rates,” she said.”
June 27 – Bloomberg (Christopher Condon): “Federal Reserve Vice Chairman Stanley Fischer pointed to higher asset prices as well as increased vulnerabilities for both household and corporate borrowers in warning against complacency when gauging the safety of the global financial system. ‘There is no doubt the soundness and resilience of our financial system has improved since the 2007-09 crisis,’ Fischer said… ‘However, it would be foolish to think we have eliminated all risks.’”
June 28 – Bloomberg (Luke Kawa): “When a trio of Federal Reserve officials delivered remarks on Tuesday, the state of U.S. financial markets came in for a little bit of criticism. When all was said and done, U.S. equities sank the most in six weeks, yields on 10-year Treasuries rose and the dollar weakened to the lowest level versus the euro in 10 months. Fed Chair Janet Yellen said that asset valuations, by some measures ‘look high, but there’s no certainty about that.’ Earlier, San Francisco Fed President John Williams said the stock market ‘seems to be running very much on fumes’ and that he was ‘somewhat concerned about the complacency in the market.’ Fed Vice-Chair Stanley Fischer suggested that there had been a ‘notable uptick’ in risk appetite that propelled valuation ratios to very elevated levels.”
June 27 – Reuters (Guy Faulconbridge and Kate Holton): “With the U.S. economy at full employment and inflation set to hit the Federal Reserve's 2% target next year, the U.S. central bank needs to keep raising rates gradually to keep the economy on an even keel, a Fed policymaker said… ‘If we delay too long, the economy will eventually overheat, causing inflation or some other problem,’ San Francisco Fed President John Williams said… ‘Gradually raising interest rates to bring monetary policy back to normal helps us keep the economy growing at a rate that can be sustained for a longer time.’”
June 29 – Financial Times (Alistair Gray and Barney Jopson): “Regulators have given US banks the go-ahead to pay out almost all their earnings to shareholders this year in a signal of their confidence in the health of the financial system. The Federal Reserve has given the green light to a record level of post-crisis distributions, including an estimated total of almost $100bn from the six largest banks. All 34 institutions passed the second part of its annual stress test, although the Fed did call out weaknesses in capital planning at Capital One… The big six US banks — Bank of America, Citigroup, Goldman Sachs, Morgan Stanley, JPMorgan Chase and Wells Fargo — are set to return to shareholders between $95bn and $97bn over the next four quarters, according to RBC Capital Markets analyst Gerard Cassidy. That is about 50% more than they were able to hand out after last year’s exam.”
U.S. Bubble Watch:
June 27 – Wall Street Journal (Shibani Mahtani and Douglas Belkin): “This is what happens when a major American state lets its bills stack up for two years. Hospitals, doctors and dentists don’t get paid for hundreds of millions of dollars of patient care. Social-service agencies help fewer people. Public universities and the towns that surround them suffer. The state’s bond rating falls to near junk status. People move out. A standoff in Illinois between Republican Governor Bruce Rauner and Democratic Speaker of the House Michael Madigan over spending and term limits has left Illinois without a budget for two years. State workers and some others are still getting paid because of court orders and other stopgap measures, but bills for many others are piling up. The unpaid backlog is now $14.6 billion and growing.”
June 28 – Bloomberg Business Week (Elizabeth Campbell and John McCormick): “Two years ago, Illinois’s budget impasse meant that the state’s lottery winners had to wait for months to get their winnings. Now, with $15 billion in unpaid bills, Illinois is on the brink of being unable to even sell Powerball tickets. For the third year in a row, the state is poised to begin its fiscal year on July 1 with no state budget and billions of dollars in the red. If that happens, S&P Global Ratings says Illinois will probably lose its investment-grade status and become the first U.S. state on record to have its general obligation debt rated as junk. Illinois is already the worst-rated state at BBB-, S&P’s lowest investment-grade rating. The state owes at least $800 million in interest and late fees on its unpaid bills.”
June 26 – Wall Street Journal (Lev Borodovsky): “Commercial real estate prices are starting to roll over after reaching record highs, capping a long postcrisis rally. While there is no sign that a decline would mean imminent danger for the economy, Federal Reserve Bank of Boston President Eric Rosengren recently warned that valuations represent a risk he ‘will continue to watch carefully.’ So far, prices have proven resilient, reflecting in part the unexpected 2017 decline of interest rates and the rising capital flows from diverse sources such as U.S. pensions and overseas investors.”
June 28 – Wall Street Journal (Chris Dieterich): “Booming demand for passive investments is making exchange-traded funds an increasingly crucial driver of share prices, helping to extend the long U.S. stock rally even as valuations become richer and other big buyers pare back. ETFs bought $98 billion in U.S. stocks during the first three months of this year, on pace to surpass their total purchases for 2015 and 2016 combined… These funds owned nearly 6% of the U.S. stock market in the first quarter—their highest level on record—according to an analysis of Fed data by Goldman Sachs… Surging demand for ETFs this year has to an unprecedented extent helped fuel the latest leg higher for the eight-year stock-market rally.”
June 27 – Reuters (Kimberly Chin): “U.S. single-family home prices rose in April due to tight inventory of houses on the market and low mortgage rates… and economists see no imminent change in the trend. The S&P CoreLogic Case-Shiller composite index of 20metropolitan areas rose 5.7% in April on a year-over-year basis after a 5.9% gain in March, which matched the fastest pace in nearly three years.”
June 27 – Bloomberg (Andrew Mayeda): “The International Monetary Fund cut its outlook for the U.S. economy, removing assumptions of President Donald Trump’s plans to cut taxes and boost infrastructure spending to spur growth. The IMF reduced its forecast for U.S. growth this year to 2.1%, from 2.3% in the fund’s April update to its world economic outlook. The… fund also cut its projection for U.S. growth next year to 2.1%, from 2.5% in April.”
Japan Watch:
June 29 – Reuters (Leika Kihara and Stanley White): “Japan's industrial output fell faster in May than at any time since the devastating earthquake of March 2011 while inventories hit their highest in almost a year, suggesting a nascent economic recovery may stall before it gets properly started. Household spending also fell in May, leaving the Bank of Japan's 2% target seemingly out of reach.”
EM Watch:
June 28 – Reuters (Brad Brooks and Silvio Cascione): “President Michel Temer called a corruption charge filed against him by Brazil's top prosecutor a ‘fiction’ on Tuesday, as the nation's political crisis deepened under the second president faced with possible removal from office in just over a year. Temer, who was charged Monday night with arranging to receive millions of dollars in bribes, said the move would hurt Brazil's economic recovery and possibly paralyze efforts at reform. The conservative leader said executives of the world's biggest meatpacker, JBS SA , who accused him in plea-bargain testimony of arranging to take 38 million reais ($11.47 million) in bribes in the coming months, did so only to escape jail for their own crimes.”
Geopolitical Watch:
June 29 – New York Times (Nicole Perlroth and David E. Sanger): “Twice in the past month, National Security Agency cyberweapons stolen from its arsenal have been turned against two very different partners of the United States — Britain and Ukraine. The N.S.A. has kept quiet, not acknowledging its role in developing the weapons. White House officials have deflected many questions, and responded to others by arguing that the focus should be on the attackers themselves, not the manufacturer of their weapons. But the silence is wearing thin for victims of the assaults, as a series of escalating attacks using N.S.A. cyberweapons have hit hospitals, a nuclear site and American businesses. Now there is growing concern that United States intelligence agencies have rushed to create digital weapons that they cannot keep safe from adversaries or disable once they fall into the wrong hands.”
June 28 – New York Times (Sheera Frenkel, Mark Scott and Paul Mozur): “As governments and organizations around the world grappled… with the impact of a cyberattack that froze computers and demanded a ransom for their release, victims received a clear warning from security experts not to pay a dime in the hopes of getting back their data. The hackers’ email address was shut down and they had lost the ability to communicate with their victims, and by extension, to restore access to computers. If the hackers had wanted to collect ransom money, said cybersecurity experts, their attack was an utter failure. That is, if that was actually their goal. Increasingly sophisticated ransomware assaults now have cybersecurity experts questioning what the attackers are truly after. Is it money? Mayhem? Delivering a political message?”
June 25 – Reuters: “Qatar is reviewing a list of demands presented by four Arab states imposing a boycott on the wealthy Gulf country, but said on Saturday the list was not reasonable or actionable. ‘We are reviewing these demands out of respect for ... regional security and there will be an official response from our ministry of foreign affairs,’ Sheikh Saif al-Thani, the director of Qatar's government communications office, said… Saudi Arabia, Egypt, Bahrain and the United Arab Emirates, which imposed a boycott on Qatar, issued an ultimatum to Doha to close Al Jazeera, curb ties with Iran, shut a Turkish military base and pay reparations among other demands.”
June 27 – Reuters (Foo Yun Chee): “EU antitrust regulators hit Alphabet unit Google with a record 2.42-billion-euro ($2.7bn) fine on Tuesday, taking a tough line in the first of three investigations into the company's dominance in searches and smartphones. It is the biggest fine the EU has ever imposed on a single company in an antitrust case, exceeding a 1.06-billion-euro sanction handed down to U.S. chipmaker Intel in 2009. The European Commission said the world's most popular internet search engine has 90 days to stop favoring its own shopping service or face a further penalty per day of up to 5% of Alphabet's average daily global turnover.”
June 25 – Financial Times (Claire Jones): “Global financial stability will be in jeopardy if low inflation lulls central banks into not raising interest rates when needed, the Bank for International Settlements has warned. The message about the dangers of sticking too closely to inflation targets comes as central banks in some of the world’s largest economies are considering how to end years of ultra-loose monetary policy after the global financial crisis… ‘Keeping interest rates too low for long could raise financial stability and macroeconomic risks further down the road, as debt continues to pile up and risk-taking in financial markets gathers steam,’ the bank said in its annual report. The BIS acknowledged that raising rates too quickly could cause a panic in markets that have grown used to cheap central bank cash. However, delaying action would mean rates would need to rise further and faster to prevent the next crisis. ‘The most fundamental question for central banks in the next few years is going to be what to do if the economy is chugging along well, but inflation is not going up,’ said Claudio Borio, the head of the BIS’s monetary and economics department… ‘Central banks may have to tolerate longer periods when inflation is below target, and tighten monetary policy if demand is strong — even if inflation is weak — so as not to fall behind the curve with respect to the financial cycle.’ …Mr Borio said many of the factors influencing wage growth were global and would be long-lasting. ‘If, as we think, the forces of globalisation and technology are relevant [in keeping wages low] and have not fully run their course, this will continue to put downward pressure on inflation,’ he said.”
While global markets easily ignored ramifications from the BIS’s (the central bank to central banks) annual report, the same could not be said for less than super dovish comments from Mario Draghi, my nominee for “the world’s most important central banker.”
June 27 – Financial Times (Katie Martin): “What’s that, you say? The ‘R-word’? Judging from the markets, Mario Draghi’s emphasis on reflation changes everything, and highlights the communications challenge lying ahead of the president of the European Central Bank. The ECB’s crisis-fighter-in-chief threw investors into a fit of the vapours on Tuesday when he said he was growing increasingly confident in the currency bloc’s economic recovery, and that ‘deflationary forces have been replaced by reflationary ones’.”
June 27 – Bloomberg (Annie Massa and Elizabeth Dexheimer): “Mario Draghi hinted at how he may sell a gradual unwinding of European Central Bank stimulus. The ECB president repeated his mantra that the Governing Council needs to be patient in letting inflation pressures build in the euro area and prudent in withdrawing support. At the same time, there’s room to tweak existing measures. ‘As the economy continues to recover, a constant policy stance will become more accommodative, and the central bank can accompany the recovery by adjusting the parameters of its policy instruments -- not in order to tighten the policy stance, but to keep it broadly unchanged.’ The comments echo an argument first made by Bundesbank President Jens Weidmann… With his nod to a frequent critic of quantitative easing who has been calling for an end of the 2.3 trillion-euro ($2.6 trillion) program, Draghi may have set the stage for a discussion in the coming months on phasing out asset purchases.”
When the ECB chose not to offer any policy clarification coming out of its June 8th meeting, wishful markets had Draghi holding out until September. The timeline was moved up, with the ECB president using the bank’s annual meeting, held this year in Sintra Portugal, to offer initial thoughts on how the ECB might remove accommodation. Market reaction was swift.
German 10-year bund yields surged 13 bps Tuesday and almost doubled this week to 47bps. French yield jumped 14 bps Tuesday – and 21 bps for the week - to 82 bps. European periphery bonds were under pressure. Italian 10-year yields rose 16 bps Tuesday and 24 bps for the week to 2.16%. Portuguese yields rose 14 bps Tuesday, ending the week at 3.03%. Draghi’s comments rattled bond markets around the globe. Ten-year Treasury yields rose seven bps to 2.21% (up 16 bps for the week), Canadian bonds 11 bps to 1.57% and Australian bonds 10 bps to 2.46%. Emerging market bonds also came under heavy selling pressure, with Eastern European bonds taking a pounding.
June 28 – Bloomberg (Robert Brand): “This is what it sounds like when doves screech. Less than 24 hours Mario Draghi jolted financial markets by saying ‘deflationary forces’ have been replaced by reflationary ones, European Central Bank officials reversed the script, saying markets had misinterpreted the central banker’s comments. What was perceived as hawkish was really meant to strike a balance between recognizing the currency bloc’s economic strength and warning that monetary support is still needed, three Eurosystem officials familiar with policymakers’ thinking said. Their dovish interpretation sparked a rapid unwinding of moves in assets from the euro to stocks and sovereign bonds.”
I don’t see it as the markets misinterpreting Draghi. Understandably, inflated Bubble markets have turned hyper-sensitive to the course of ECB policymaking. The ECB’s massive purchase program inflated a historic Bubble throughout European debt markets, a speculative Bubble that I believe unleashed a surge of global liquidity that has underpinned increasingly speculative securities markets.
If not for massive QE operations from the ECB and BOJ, I believe the 2016 global reversal in bond yields would have likely ushered in a major de-risking/deleveraging episode throughout global markets. Instead, powerful liquidity injections sustained speculative Bubbles throughout global fixed income, in the process spurring blow-off excess throughout global equities and risk assets more generally. Recalling the summer of 2007, everyone is determined to see the dance party rave indefinitely.
First-half QE has been estimated (by Bank of America) at (an incredible) $1.5 TN. Bubbling markets should come as no stunning surprise. At May highs, most European equities indices were sporting double-digit year-to-date gains. The S&P500 returned (price + dividends) almost 10% for the first half, with the more speculative areas of U.S. equities outperforming. The Nasdaq Composite gained 14.1% in the first-half, with the large company Nasdaq 100 (NDX) rising 16.1%. Despite this week’s declines, the Morgan Stanley High Tech index rose 20.3%, and the Semiconductors (SOX) jumped 14.2% y-t-d. The Biotechs (BTK) surged 9.7% during Q2, boosting y-t-d gains to 25.6%. The NYSE Healthcare Index gained 7.7% for the quarter and 15.3% y-t-d. The Nasdaq Transports jumped 9.7% during Q2, with the DJ Transports up 5.3%. The Nasdaq Other Financials rose 7.9% in the quarter.
Central banks have closely collaborated since the financial crisis. While always justifying policy stimulus on domestic grounds, it’s now been almost a decade of central bankers coordinating stimulus measures to address global system fragilities. I doubt the Fed would have further ballooned its balance sheet starting in late-2012 if not for the “European” financial crisis. In early-2016, the ECB and BOJ would not have so aggressively expanded QE programs – and the Fed not postponed “normalization” – if not for global ramifications of a faltering Chinese Bubble. All the talk of downside inflation risk was convenient cover for global crisis worries.
As Mario Draghi stated, the European economy is now on a reflationary footing. At least for now, Beijing has somewhat stabilized the Chinese Bubble. Powered by booming securities markets, global Credit continues to expand briskly. Even in Europe, the employment backdrop has improved markedly. It’s just become difficult for central bankers to fixate on tame consumer price indices with asset prices running wild.
Global market liquidity has become fully fungible, a product of multinational financial institutions, securities lending/finance and derivatives markets. The ECB and BOJ’s ultra-loose policy stances have worked to counteract the Fed’s cautious normalization strategy. Determined to delay the inevitable, Draghi now faces the scheduled year-end expiration of the ECB’s latest QE program, along with an impending shortage of German bunds available for purchase. Behind the scenes and otherwise, Germany is surely losing patience with open-ended “money” printing. This week’s annual ECB gathering provided an opportunity for Draghi to finally get the so-called normalization ball rolling. Despite his cautious approach, markets immediately feared being run over.
June 28 – Bloomberg (Alessandro Speciale): “Mario Draghi just got evidence that his call for ‘prudence’ in withdrawing European Central Bank stimulus applies to his words too. The euro and bond yields surged on Tuesday after the ECB president said the reflation of the euro-area economy creates room to pull back unconventional measures without tightening the stance. Policy makers noted the jolt that showed how hypersensitive investors are to statements that can be read as even mildly hawkish… Draghi’s speech at the ECB Forum in Sintra, Portugal, was intended to strike a balance between recognizing the currency bloc’s economic strength and warning that monetary support is still needed, said the officials…”
June 28 – Bloomberg (James Hertling, Alessandro Speciale, and Piotr Skolimowski): “Global central bankers are coalescing around the message that the cost of money is headed higher -- and markets had better get used to it. Just a week after signaling near-zero interest rates were appropriate, Bank of England Governor Mark Carney suggested on Wednesday that the time is nearing for an increase. His U.S. counterpart, Janet Yellen, said her policy tightening is on track and Canada’s Stephen Poloz reiterated he may be considering a rate hike. The challenge of following though after a decade of easy money was highlighted by European Central Bank President Mario Draghi’s attempt to thread the needle. Financial markets whipsawed as Eurosystem officials walked back comments Draghi made Tuesday that investors had interpreted as signaling an imminent change in monetary policy. ‘The market is very sensitive to the idea that a number of central banks are appropriately and belatedly reassessing the need for emergency policy accommodation,’ said Alan Ruskin, co-head of foreign exchange research at Deutsche Bank AG.”
Draghi and the ECB are hoping to duplicate the Fed blueprint – quite gingerly removing accommodation while exerting minimal impact on bond yields and risk markets more generally: Normalization without a meaningful tightening of financial conditions. This is unrealistic.
Current complacency notwithstanding, turning down the ECB QE spigot will dramatically effect global liquidity dynamics. Keep in mind that the removal of Fed accommodation has so far coincided with enormous counteracting market liquidity injections courtesy of the other major central banks. The ECB will not enjoy a similar luxury. Moreover, global asset prices have inflated significantly over the past 18 months, fueled at least in part by a major increase in speculative leverage.
There are three primary facets to QE dynamics worth pondering as central banks initiate normalization. The first is the size and scope of previous QE operations. The second is the primary target of liquidity-induced market flows. And third, to what extent have central bank measures and associated market flows spurred self-reinforcing speculative leveraging and market distortions. Inarguably, ECB and BOJ-induced flows over recent quarters have been massive. It is also reasonably clear that market flows gravitated primarily to equities and corporate Credit, asset classes demonstrating the most enticing inflationary biases. And there are as well ample anecdotes supporting the view that major speculative leveraging has been integral to myriad Bubbles throughout global risk markets. The now deeply ingrained view that the cadre of global central banks will not tolerate market declines is one of history’s most consequential market distortions.
And while the timing of the removal of ECB and BOJ liquidity stimulus remains uncertain, markets must now at least contemplate an approaching backdrop with less accommodation from the ECB and central banks more generally. With this in mind, Draghi’s comments this week could mark an important juncture for speculative leveraging. Increasingly unstable currency markets are consistent with this thesis. The days of shorting yen and euros and using proceeds for easy profits in higher-yielding currencies appear to have run their course. I suspect de-leveraging dynamics have commenced, though market impact has thus far been muted by ongoing ECB and BOJ liquidity operations.
June 27 – Reuters (William Schomberg, Marc Jones, Jason Lange and Lindsay Dunsmuir): “U.S. Federal Reserve Chair Janet Yellen said on Tuesday that she does not believe that there will be another financial crisis for at least as long as she lives, thanks largely to reforms of the banking system since the 2007-09 crash. ‘Would I say there will never, ever be another financial crisis?’ Yellen said… ‘You know probably that would be going too far but I do think we're much safer and I hope that it will not be in our lifetimes and I don't believe it will be,’ she said.”
While headlines somewhat paraphrased Yellen’s actual comment, “We Will not see Another Crisis in Our Lifetime” is reminiscent of Irving Fisher’s “permanent plateau” just weeks before the great crash of 1929. While on the subject, I never bought into the popular comparison between 2008 and 1929 – and the related notion of 2008 as “the 100-year flood”. The 2008/09 crisis was for the most part a private debt crisis associated with the bursting of a Bubble in mortgage Credit – not dissimilar to previous serial global crises, only larger and somewhat more systemic. It was not, however, a deeply systemic debt crisis akin to the aftermath of 1929, which was characterized by a crisis of confidence in the banking system, the markets and finance more generally, along with a loss of faith in government policy and institutions. But after a decade of unprecedented expansion of government debt and central bank Credit, the stage has now been set for a more systemic 1929-like financial dislocation.
As such, it’s ironic that the Fed has branded the banking system cured and so well capitalized that bankers can now boost dividends, buybacks and, presumably, risk-taking. As conventional central bank thinking goes, a well-capitalized banking system provides a powerful buffer for thwarting the winds of financial crisis. Chair Yellen, apparently, surveys current bank capital levels and extrapolates to systemic stability. Yet the next crisis lurks not with the banks but within the securities and derivatives markets: too much leverage and too much “money” employed in trend-following trading strategies. Too much hedging, speculating and leveraging in derivatives. Market misperceptions and distortions on an epic scale.
Compared to 2008, the leveraged speculating community and the ETF complex are significantly larger and potentially perilous. The derivatives markets are these days acutely more vulnerable to liquidity issues and dislocation. Never have global markets been so dominated by trend-following strategies. It’s a serious issue that asset market performance – stocks, bond, corporate Credit, EM, real estate, etc. – have all become so tightly correlated. There are huge vulnerabilities associated with various markets having become so highly synchronized on a global basis. And in the grand scheme of grossly inflated global securities, asset and derivatives markets, the scope of available bank capital is trivial.
I realize that, at this late stage of the great bull market, such a question sounds hopelessly disconnected. Yet, when markets reverse sharply lower and The Crowd suddenly moves to de-risk, who is left to take the other side of what has become One Gargantuan “Trade”? We’re all familiar with the pat response: “Central banks. They’ll have no choice.” Okay, but I’m more interested in the timing and circumstances.
Central bankers are now signaling their desire to proceed with normalization, along with noting concerns for elevated asset prices. As such, I suspect they will be somewhat more circumspect going forward when it comes to backstopping the markets - than, say, back in 2013 with Bernanke’s “flash crash” or with the China scare of early-2016. Perhaps this might help to explain why the VIX spiked above 15 during Thursday afternoon trading. Even corporate debt markets showed a flash of vulnerability this week.
For the Week:
The S&P500 dipped 0.6% (up 8.2% y-t-d), and the Dow slipped 0.2% (up 8.0%). The Utilities fell 2.5% (up 6.2%). The Banks surged 4.4% (up 4.2%), and the Broker/Dealers jumped 2.6% (up 9.8%). The Transports rose 1.9% (up 5.7%). The S&P 400 Midcaps added 0.2% (up 5.2%), while the small cap Russell 2000 was unchanged (up 4.3%). The Nasdaq100 dropped 2.7% (up 16.1%), and the Morgan Stanley High Tech index sank 3.0% (up 20.3%). The Semiconductors were hit 4.9% (up 14.2%). The Biotechs dropped 3.9% (up 25.5%). With bullion dropping $15, the HUI gold index sank 4.5% (up 1.9%).
Three-month Treasury bill rates ended the week at 100 bps. Two-year government yields gained four bps to 1.38% (up 19bps y-t-d). Five-year T-note yields rose 13 bps to 1.89% (down 4bps). Ten-year Treasury yields jumped 16 bps to 2.30% (down 14bps). Long bond yields increased 12 bps to 2.84% (down 23bps).
Greek 10-year yields were little changed at 5.36% (down 166bps y-t-d). Ten-year Portuguese yields rose 10 bps to 3.03% (down 72bps). Italian 10-year yields surged 24 bps to 2.16% (up 35bps). Spain's 10-year yields jumped 16 bps to 1.54% (up 16bps). German bund yields surged 21 bps to 0.47% (up 26bps). French yields rose 21 bps to 0.82% (up 14bps). The French to German 10-year bond spread was unchanged at 35 bps. U.K. 10-year gilt yields jumped 23 bps to 1.26% (up 2bps). U.K.'s FTSE equities index fell 1.5% (up 11.2%).
Japan's Nikkei 225 equities index declined 0.5% (up 4.8% y-t-d). Japanese 10-year "JGB" yields gained three bps to 0.09% (up 5bps). France's CAC40 sank 2.8% (up 5.3%). The German DAX equities index was hit 3.2% (up 7.4%). Spain's IBEX 35 equities index fell 1.8% (up 11.7%). Italy's FTSE MIB index declined 1.2% (up 7.0%). EM equities were mostly higher. Brazil's Bovespa index rallied 3.0% (up 4.4%), and Mexico's Bolsa gained 1.8% (up 9.2%). South Korea's Kospi increased 0.6% (up 18%). India’s Sensex equities index declined 0.7% (up 16.1%). China’s Shanghai Exchange rose 1.1% (up 2.9%). Turkey's Borsa Istanbul National 100 index added 0.8% (up 28.5%). Russia's MICEX equities index gained 0.6% (down 15.8%).
Junk bond mutual funds saw outflows of $1.735 billion (from Lipper).
Freddie Mac 30-year fixed mortgage rates dipped two bps to 3.88% (up 40bps y-o-y). Fifteen-year rates were unchanged at 3.17% (up 39bps). The five-year hybrid ARM rate gained three bps to 3.17% (up 47bps). Bankrate's survey of jumbo mortgage borrowing costs had 30-yr fixed rates up a basis point to 4.01% (up 34bps).
Federal Reserve Credit last week added $0.8bn to $4.431 TN. Over the past year, Fed Credit declined $5.0bn. Fed Credit inflated $1.620 TN, or 58%, over the past 242 weeks. Elsewhere, Fed holdings for foreign owners of Treasury, Agency Debt jumped another $17.9bn last week to $3.310 TN. "Custody holdings" were up $83bn y-o-y, 2.6%.
M2 (narrow) "money" supply last week slipped $4.3bn to $13.510 TN. "Narrow money" expanded $686bn, or 5.4%, over the past year. For the week, Currency increased $2.7bn. Total Checkable Deposits fell $12.7bn, while Savings Deposits gained $6.9bn. Small Time Deposits were little changed. Retail Money Funds fell $4.1bn.
Total money market fund assets added $4.2bn to $2.621 TN. Money Funds fell $96bn y-o-y (3.5%).
Total Commercial Paper declined $5.4bn to $973.6bn. CP declined $77bn y-o-y, or 7.4%.
Currency Watch:
The U.S. dollar index fell 1.7% to 95.628 (down 6.6% y-t-d). For the week on the upside, the Swedish krona increased 3.4%, the British pound 2.4%, the Canadian dollar 2.3%, the euro 2.1%, the Australian dollar 1.6%, the Norwegian krone 1.3%, the Swiss franc 1.2%, the Brazilian real 1.1%, the Singapore dollar 0.8% and the New Zealand dollar 0.7%. For the week on the downside, the South African rand declined 1.6%, the Japanese yen 1.0%, the Mexican peso 0.6% and the South Korean won 0.4%. The Chinese renminbi gained 0.82% versus the dollar this week (up 2.42% y-t-d).
Commodities Watch:
The Goldman Sachs Commodities Index surged 5.3% (down 6.5% y-t-d). Spot Gold declined 1.2% to $1,242 (up 7.7%). Silver slipped 0.5% to $16.627 (up 4.0%). Crude rallied $3.03 to $46.04 (down 15%). Gasoline jumped 5.6% (down 9%), and Natural Gas rose 3.6% (down 19%). Copper gained 2.9% (up 8%). Wheat surged 11.1% (up 29%). Corn jumped 4.2% (up 8%).
Trump Administration Watch:
June 27 – Bloomberg (Steven T. Dennis and Laura Litvan): “Senate Majority Leader Mitch McConnell’s decision to delay a vote on health-care legislation came as a relief to some Republican holdouts, but it sets off what will be a furious few weeks of talks to deliver on the GOP’s seven-year promise to repeal the Affordable Care Act. Senate Republicans went to the White House Tuesday afternoon to meet with President Donald Trump, who also promised his political supporters he would do away with Obamacare. ‘We’re going to solve the problem,’ the president told senators. But Trump also conceded the possibility that the health bill wouldn’t pass. ‘If we don’t get it done, it’s just going to be something that we’re not going to like,’ he said… ‘And that’s OK, and I understand that very well.’”
June 29 – Reuters: “Congress will need to raise the nation's debt limit and avoid defaulting on loan payments by ‘early to mid-October,’ the Congressional Budget Office said in a report… Treasury Secretary Steve Mnuchin has encouraged Congress to raise the limit before the legislative body leaves for their August recess. But it remains unclear if a bipartisan agreement has been struck to allow the limit to be raised, as both chambers continue to be weighed down by health care and tax reform and trying to find an agreement to fund the government after the September 30 deadline.”
June 30 – CNBC (Fred Imbert): “President Donald Trump's White House is ‘hell-bent’ on imposing tariffs on steel and other imports, Axios reported Friday. The plan — which was pushed by Commerce Secretary Wilbur Ross and was supported by National Trade Council Peter Navarro, and policy adviser Stephen Miller — would potentially impose tariffs in the 20% range… During a ‘tense’ meeting Monday, the president made it clear he favors tariffs, yet the plan was met with heavy opposition by most officials in the room, with one telling Axios about 22 were against it and only three in favor, including Trump.”
June 29 – Financial Times (Stefan Wagstyl): “Angela Merkel threw down the gauntlet to Donald Trump as Germany’s chancellor pledged to fight at next week’s G20 summit for free trade, international co-operation and the Paris climate change accord. In a combative speech on Thursday in the German parliament, Ms Merkel also promised to focus on reinforcing the EU, in close co-operation with France, despite the pressing issue of Brexit. But in a sign that it may be difficult to maintain European unity around a tough approach to Mr Trump, Ms Merkel later softened her tone, as she prepares to host G20 leaders in Hamburg next Friday.”
June 27 – Bloomberg (Joe Light): “Two U.S. senators working on a bipartisan overhaul of Fannie Mae and Freddie Mac are seriously considering a plan that would break up the mortgage-finance giants, according to people with knowledge of the matter. The proposal by Tennessee Republican Bob Corker and Virginia Democrat Mark Warner would attempt to foster competition in the secondary mortgage market… Corker and Warner’s push to develop a plan marks Congress’ latest attempt to figure out what to do with Fannie and Freddie, an issue that has vexed lawmakers ever since the government took control of the companies in 2008 as the housing market cratered. The lawmakers’ plan is still being developed, and a Senate aide who asked not to be named cautioned that no decisions had been made on any issues.”
China Bubble Watch:
June 25 – Financial Times (Minxin Pei): “The Chinese government has just launched an apparent crackdown on a small number of large conglomerates known in the west chiefly for their aggressive dealmaking. The list includes Dalian Wanda, Anbang, Fosun and HNA Group. The news that Chinese banking regulators have asked lenders to examine their exposure to these companies has sent the stocks of groups wholly or partly owned by these conglomerates tumbling in Shanghai and Hong Kong. Obviously, the market was caught by surprise. But it should not be… The immediate trigger is Beijing’s growing alarm over the risks in China’s financial sector and attempt to cut capital outflows. In late April, President Xi Jinping convened a politburo meeting specifically focused on stability in the financial system. Foreshadowing the crackdown, he ordered that those ‘financial crocodiles’ that destabilise China’s financial system must be punished.”
June 26 – Wall Street Journal (Anjani Trivedi): “As Beijing looks to rein in companies that have splurged on overseas deals, it is talking up the systemic risks to its financial system. But just how serious is the problem? After all, for years Beijing has urged leading companies to ‘go global,’ and encouraged banks to support them with lending. Its words were taken to heart: Companies like sprawling conglomerate HNA Group and insurer Anbang pushed the country’s outbound acquisitions to more than $200 billion last year… Now… regulators are investigating leverage and risks at banks associated with China Inc.’s bulging overseas deals. It’s clear that Chinese banks are already heavily exposed to China’s big deal makers through basic lending. Chinese lenders had extended more than 500 billion yuan ($73.14bn) of loans to HNA alone as of last year…”
June 26 – Bloomberg: “China may finally be ready to cut the cord when it comes to the country’s troubled local government financing vehicles. Beijing’s deleveraging drive has seen rules impacting LGFV debt refinancing tightened, spurring a slump in issuance by the vehicles, which owe about 5.6 trillion yuan ($818bn) to bondholders and are seen by some as the poster children for China’s post-financial crisis debt woes. Signs the authorities may be taking a less sympathetic view of the sector has ratings companies flagging the possibility that 2017 could see the first ever default by a local financing vehicle.”
June 29 – Reuters (Yawen Chen and Thomas Peter): “The struggles of China's small and medium-sized firms have grown so acute that many are expected to become unprofitable or even go belly-up this year, boding ill for an economy running short on strong growth drivers. The companies - which account for over 60% of China's $11 trillion gross domestic product - have entered the most challenging funding environment in years as Beijing cracks down on easy credit to contain a dangerous debt build-up. Many of the firms - mostly in the industrial, transport, wholesale, retail, catering and accommodation sectors - are already grappling with soaring costs, fierce competition and thinning profits. The strains faced by small and medium-sized enterprises (SMEs) are expected to grow more visible as Beijing deflates a real estate bubble and eases infrastructure spending to dial back its fiscal stimulus.”
June 29 – Reuters (Leika Kihara and Stanley White): “One of Chinese banks’ favorite tools for increasing leverage has staged a remarkable but worrisome comeback just two months after a regulatory crackdown on leveraged investment… Chinese banks’ issuance of negotiable certificates of deposit in June nearly hit the high recorded in March… NCDs, a type of short-term loan, have become extremely popular in recent years with Chinese banks, especially smaller lenders due to their weaker ability to attract deposits. During a clampdown on runaway debt in April, Chinese regulators warned banks against abusing the tool for speculative, leveraged bets in capital markets. But after a deep but brief drop, NCD issuance has risen again as regulatory attention appeared to ease in recent weeks, hitting 1.96 trillion yuan ($287.73bn) this month, up sharply from 1.23 trillion yuan in May and just a touch below March’s record 2.02 trillion yuan."
June 28 – Financial Times (Gabriel Wildau): “Capital flight disguised as overseas tourism spending has artificially cut China’s reported trade surplus while masking the extent of investment outflows, according to research by the US Federal Reserve. A significant share of overseas spending classified in official data as travel-related shopping, entertainment and hospitality may over a 12-month period have instead been used for investment in financial assets and real estate, the Fed paper argued… Disguised capital outflows in the year to September may have amounted to $190bn, or 1.7% of gross domestic product… Chinese households have in recent years looked at ways to skirt government-imposed limitations on foreign investment as its economy slowed and the renminbi depreciated.”
June 28 – Bloomberg (Joe Ryan): “As Elon Musk races to finish building the world’s biggest battery factory in the Nevada desert, China is poised to leave him in the dust. Chinese companies have plans for additional factories with the capacity to pump out more than 120 gigawatt-hours a year by 2021, according to a report… by Bloomberg Intelligence. That’s enough to supply batteries for around 1.5 million Tesla Model S vehicles or 13.7 million Toyota Prius Plug-in Hybrids per year… By comparison, when completed in 2018, Tesla Inc.’s Gigafactory will crank out up to 35 gigawatt-hours of battery cells annually.”
June 28 – CNBC (Geoff Cutmore): “China's economic growth will accelerate because the country will finally get leaders who aren't scared, a former advisor to China's central bank said Wednesday. ‘The most important reason is that there is a new group of officials being appointed ... (who will emerge) around the 19th Party Congress which will be in mid to late October,’ said Li Daokui, who is now Dean of the Schwarzman College at Tsinghua University in Beijing. …Li said the Chinese economy will grow 6.9 to 7 percent by 2018 from 6.7 percent in 2017. China posted 6.7% GDP growth in 2016, the slowest in 26 years. ‘These (new) officials have been carefully, carefully scrutinized before they are appointed so they are clean. They are not worried about becoming targets of anti-corruption investigations,’ he added.”
Europe Watch:
June 26 – Bloomberg (Sonia Sirletti and Alexander Weber): Italy orchestrated its biggest bank rescue on record, committing as much as 17 billion euros ($19bn) to clean up two failed banks in one of its wealthiest regions, a deal that raises questions about the consistency of Europe’s bank regulations. The intervention at Banca Popolare di Vicenza SpA and Veneto Banca SpA includes state support for Intesa Sanpaolo SpA to acquire their good assets for a token amount… Milan-based Intesa can initially tap about 5.2 billion euros to take on some assets without hurting capital ratios, Padoan said. The European Commission approved the plan.”
June 28 – Reuters (Gernot Heller and Joseph Nasr): “Finance Minister Wolfgang Schaeuble… underscored Germany's concerns about what he called a regulatory loophole after the EU cleared Italy to wind up two failed banks at a hefty cost to local taxpayers. Schaeuble told reporters that Europe should abide by rules enacted after the 2008 collapse of U.S. financial services firm Lehman Brothers that were meant to protect taxpayers. Existing European Union guidelines for restructuring banks aimed to ensure ‘what all political groups wanted: that taxpayers will never again carry the risks of banks,’ he said. Italy is transferring the good assets of the two Veneto lenders to the nation's biggest retail bank, Intesa Sanpaolo (ISP.MI), as part of a transaction that could cost the state up to 17 billion euros ($19 billion).”
June 25 – Reuters (Balazs Koranyi and Erik Kirschbaum): “The time may be nearing for the European Central Bank to start discussing the end of unprecedented stimulus as growth and inflation are both moving in the right direction, Bundesbank president Jens Weidmann told German newspaper Welt am Sonntag. Weidmann, who sits on the ECB's rate-setting Governing Council, also said that the bank should not make any further changes to the key parameters of its bond purchase scheme, comments that signal opposition to an extension of asset buys since the ECB will soon hit its German bond purchase limits. Hoping to revive growth and inflation, the ECB is buying 2.3 trillion euros worth of bonds…, a scheme known as quantitative easing and long opposed by Germany… The purchases are set to run until December and the ECB will decide this fall whether to extend it… ‘As far as a possible extension of the bonds-buying program goes, this hasn't yet been discussed in the ECB Council,’ Weidmann told the newspaper…”
June 26 – Bloomberg (Carolynn Look): “It seems the sky is the limit for Germany’s economy. Business confidence -- logging its fifth consecutive increase -- jumped to the highest since 1991 this month, underpinning optimism by the Bundesbank that the upswing in Europe’s largest economy is set to continue. With domestic demand supported by a buoyant labor market, risks to growth stem almost exclusively from global forces. ‘Sentiment among German businesses is jubilant,’ Ifo President Clemens Fuest said… ‘Germany’s economy is performing very strongly.’”
June 29 – Reuters (Pete Schroeder and David Henry): “German inflation probably accelerated in June, regional data suggested on Thursday, suggesting a solid upswing in the economy is pushing up price pressures as euro zone inflation moves closer to the European Central Bank's target. The data comes only days after ECB head Mario Draghi hinted that the bank's asset-purchase program would become less accommodative going into 2018 as regional growth gains pace and inflation trends return following a period of falling prices. In another sign of rising price pressures in the 19-member single currency bloc, Spanish consumer prices rose more than expected in June… In the German state of Hesse, annual inflation rose to 1.9% in June from 1.7% in May…”
June 28 – Reuters (Gavin Jones and Steve Scherer): “He is an 80-year-old convicted criminal whose last government ended with Italy on the brink of bankruptcy - and he may well be kingmaker at the next election within a year. Mayoral elections on Sunday showed four-time Prime Minister Silvio Berlusconi's center-right Forza Italia party remains a force to be reckoned with... ‘Berlusconi sees this as the last challenge of his career,’ said Renato Brunetta, a close ally for over 20 years and Forza Italia's lower house leader. ‘He feels he has suffered many injustices and deserves one last shot. Who can deny him that?’ Matteo Renzi, leader of the ruling Democratic Party (PD), and Beppe Grillo's anti-establishment 5-Star Movement have dominated the national scene in recent years, relegating Forza Italia to a distant third or fourth in the polls. Yet in the mayoral ballots, Forza Italia and its anti-immigrant Northern League allies trounced the PD and 5-Star in cities all over the country, suggesting they have momentum behind them just as the national vote comes into view.”
Central Bank Watch:
June 27 – Wall Street Journal (Tom Fairless): “The euro soared to its biggest one-day gain against the dollar in a year and eurozone bond prices slumped after European Central Bank President Mario Draghi hinted the ECB might start winding down its stimulus in response to accelerating growth in Europe. Any move by the ECB toward reducing bond purchases would put it on a similar policy path as the Federal Reserve, which first signaled an intent to taper its own stimulus program in 2013. But the ECB is likely to remain far behind: The Fed has been raising interest rates gradually since December 2015, while the ECB’s key rate has been negative since June 2014. Mr. Draghi’s comments, made Tuesday at the ECB’s annual economic policy conference in Portugal, were laced with caution and caveats. But investors interpreted them as a cue to buy euros and sell eurozone bonds, a reversal of a long-term trade that has benefited from the central bank’s €60 billion ($67.15bn) of bond purchases each month. ‘All the signs now point to a strengthening and broadening recovery in the euro area,’ Mr. Draghi said.”
June 28 – Financial Times (Dan McCrum and Chris Giles in London and Claire Jones): “Bond and currency markets whipsawed on Wednesday as Europe’s two most influential central bankers struggled to communicate to investors how they would exit from years of crisis-era economic stimulus policies. The euro surged to a 52-week high against the dollar after investors characterised remarks by Mario Draghi as a signal he was preparing to taper the European Central Bank’s bond-buying scheme — only to drop almost a full cent after senior ECB figures made clear he had been misinterpreted. Similarly, the British pound jumped 1.2% to $1.2972 after Mark Carney, Bank of England governor, said he was prepared to raise interest rates if UK business activity increased — just a week after saying ‘now is not yet the time’ for an increase. The sharp moves and sudden reversals over two days of heavy trading highlight the acute sensitivity of financial markets to any suggestion of a withdrawal of stimulus measures after a prolonged period of monetary accommodation.”
June 25 – Reuters (Marc Jones): “Major central banks should press ahead with interest rate increases, the Bank for International Settlements said…, while recognizing that some turbulence in financial markets will have to be negotiated along the way. The BIS, an umbrella body for leading central banks, said in one of its most upbeat annual reports for years that global growth could soon be back at long-term average levels after a sharp improvement in sentiment over the past year. Though pockets of risk remain because of high debt levels, low productivity growth and dwindling policy firepower, the BIS said policymakers should take advantage of the improving economic outlook and its surprisingly negligible effect on inflation to accelerate the ‘great unwinding’ of quantitative easing programs and record low interest rates.”
Brexit Watch:
June 27 – Reuters (Guy Faulconbridge and Kate Holton): “Prime Minister Theresa May struck a deal on Monday to prop up her minority government by agreeing to at least 1 billion pounds ($1.3bn) in extra funding for Northern Ireland in return for the support of the province's biggest Protestant party. After over two weeks of talks and turmoil sparked by May's failure to win a majority in a June 8 snap election, she now has the parliamentary numbers to pass a budget and a better chance of passing laws to take Britain out of the European Union.”
Global Bubble Watch:
June 28 – Wall Street Journal (Richard Barley): “Sometimes financial markets are surprisingly bad at connecting the dots—until they can’t ignore the picture forming before their eyes. The screeching U-turn in bond markets is a good example. The world’s central banks are sending out a message that loose monetary policy can’t last forever. The shift is mainly rhetorical, and action may yet be some way off. But expectations matter, as they did when the Federal Reserve indicated in 2013 that its quantitative-easing program could be wound down. That caused global bond yields to surge, led by the U.S., and sparked extended turmoil in emerging markets. This time, the bond reversal has been centered on Europe. Ten-year German bund yields started Tuesday just below 0.25%, but by Wednesday afternoon stood at 0.37%. That helped lift bond yields elsewhere, since low German yields have been acting as an anchor. The selloff in the bund Tuesday was the worst in 22 months…”
June 28 – Reuters (Sujata Rao): “Global debt levels have climbed $500 billion in the past year to a record $217 trillion, a new study shows, just as major central banks prepare to end years of super-cheap credit policies. World markets were jarred this week by a chorus of central bankers warning about overpriced assets, excessive consumer borrowing and the need to begin the process of normalizing world interest rates from the extraordinarily low levels introduced to offset the fallout of the 2009 credit crash. This week, U.S. Federal Reserve chief Janet Yellen has warned of expensive asset price valuations, Bank of England Governor Mark Carney has tightened controls on bank credit and European Central Bank head Mario Draghi has opened the door to cutting back stimulus, possibly as soon as September. Years of cheap central bank cash has delivered a sugar rush to world equity markets, pushing them to successive record highs. But another side effect has been explosive credit growth as households, companies and governments rushed to take advantage of rock-bottom borrowing costs. Global debt, as a result, now amounts to 327% of the world's annual economic output, the Institute of International Finance (IIF) said in a report…”
June 26 – Bloomberg (Garfield Clinton Reynolds and Adam Haigh): “Greed seems to be running the show in global markets. Fear has fled, and that may be the biggest risk of all. Currency volatility just hit a 20-month low, Treasury yields are in their narrowest half-year trading range since the 1970s and the U.S. equities fear gauge, the VIX, is stuck near a two-decade nadir. While markets have signaled complacency in the face of Middle East tensions, the withdrawal of Federal Reserve stimulus and President Donald Trump’s tweetstorms, the Bank for International Settlements flagged on Sunday that low volatility can spur risk-taking with the potential to unwind quickly.”
June 27 – Bloomberg (Annie Massa and Elizabeth Dexheimer): “The growing market for exchange-traded funds hasn’t been fully put to the test, according to one of the top U.S. speed trading firms. Ari Rubenstein, chief executive officer and co-founder of Global Trading Systems LLC, told lawmakers… that while investment dollars have flooded the U.S. ETF market, the new order has not endured an extreme period of stress. Volatility, a measure of market uncertainty, has remained low. ‘In some ways the markets are a bit untested,’ Rubenstein said… ‘It’s definitely something we should talk about to make sure industry participants are prepared in those instruments.’”
June 29 – Financial Times (Javier Espinoza): “Private equity buyouts have enjoyed the strongest start to a year since before the financial crisis as fund managers have come under intense pressure from investors to deploy some of the record amount of capital they hold. The volume of deals involving private equity firms climbed 29% to $143.7bn in the first half of the year, the highest level since 2007, according to… Thomson Reuters.”
June 27 – Bloomberg (Enda Curran and Stephen Engle): “Investors aren’t sufficiently pricing in a growing threat to economic and financial market stability from geopolitical risks, and the latest global cyberattack is an example of the damage that can be wreaked on trade, Cornell University Professor Eswar Prasad said. His remarks came as a virus similar to WannaCry reached Asia after spreading from Europe to the U.S. overnight, hitting businesses, port operators and government systems.”
Fixed Income Bubble Watch:
June 27 – CNBC (Ann Saphir): “Bond investors may soon pay a hefty price for being too pessimistic about the economy, according to portfolio manager Joe Zidle. Zidle, who is with Richard Bernstein Advisors, believes the vast amount of money flowing into long-duration bonds is signaling a costly mistake. ‘Last week alone, there is a 20-year plus treasury bond ETF that in one week got more inflows than all domestic equity mutual funds, and all domestic equity ETFs combined year-to-date,’ he said… He added: ‘I think investors are going to be in a real painful trade.’”
June 26 – Bloomberg (Mary Williams Walsh): “The United States Virgin Islands is best known for its powdery beaches and turquoise bays, a constant draw for the tourists who frequent this tiny American territory. Yet away from the beaches the mood is ominous, as government officials scramble to stave off the same kind of fiscal collapse that has already engulfed its neighbor Puerto Rico. The public debts of the Virgin Islands are much smaller than those of Puerto Rico, which effectively declared bankruptcy in May. But so is its population, and therefore its ability to pay. This tropical territory of roughly 100,000 people owes some $6.5 billion to pensioners and creditors.”
Federal Reserve Watch:
June 28 – Bloomberg (Jill Ward, Lucy Meakin, and Christopher Condon): “Federal Reserve Chair Janet Yellen gave no indication her plans for continued monetary policy tightening had shifted while acknowledging that some asset prices had become ‘somewhat rich.’ ‘We’ve made very clear that we think it will be appropriate to the attainment of our goals to raise interest rates very gradually,’ she said… In her first public remarks since the U.S. central bank hiked rates on June 14, Yellen said that asset valuations, by some measures ‘look high, but there’s no certainty about that.’ ‘Asset valuations are somewhat rich if you use some traditional metrics like price earnings ratios, but I wouldn’t try to comment on appropriate valuations, and those ratios ought to depend on long-term interest rates,” she said.”
June 27 – Bloomberg (Christopher Condon): “Federal Reserve Vice Chairman Stanley Fischer pointed to higher asset prices as well as increased vulnerabilities for both household and corporate borrowers in warning against complacency when gauging the safety of the global financial system. ‘There is no doubt the soundness and resilience of our financial system has improved since the 2007-09 crisis,’ Fischer said… ‘However, it would be foolish to think we have eliminated all risks.’”
June 28 – Bloomberg (Luke Kawa): “When a trio of Federal Reserve officials delivered remarks on Tuesday, the state of U.S. financial markets came in for a little bit of criticism. When all was said and done, U.S. equities sank the most in six weeks, yields on 10-year Treasuries rose and the dollar weakened to the lowest level versus the euro in 10 months. Fed Chair Janet Yellen said that asset valuations, by some measures ‘look high, but there’s no certainty about that.’ Earlier, San Francisco Fed President John Williams said the stock market ‘seems to be running very much on fumes’ and that he was ‘somewhat concerned about the complacency in the market.’ Fed Vice-Chair Stanley Fischer suggested that there had been a ‘notable uptick’ in risk appetite that propelled valuation ratios to very elevated levels.”
June 27 – Reuters (Guy Faulconbridge and Kate Holton): “With the U.S. economy at full employment and inflation set to hit the Federal Reserve's 2% target next year, the U.S. central bank needs to keep raising rates gradually to keep the economy on an even keel, a Fed policymaker said… ‘If we delay too long, the economy will eventually overheat, causing inflation or some other problem,’ San Francisco Fed President John Williams said… ‘Gradually raising interest rates to bring monetary policy back to normal helps us keep the economy growing at a rate that can be sustained for a longer time.’”
June 29 – Financial Times (Alistair Gray and Barney Jopson): “Regulators have given US banks the go-ahead to pay out almost all their earnings to shareholders this year in a signal of their confidence in the health of the financial system. The Federal Reserve has given the green light to a record level of post-crisis distributions, including an estimated total of almost $100bn from the six largest banks. All 34 institutions passed the second part of its annual stress test, although the Fed did call out weaknesses in capital planning at Capital One… The big six US banks — Bank of America, Citigroup, Goldman Sachs, Morgan Stanley, JPMorgan Chase and Wells Fargo — are set to return to shareholders between $95bn and $97bn over the next four quarters, according to RBC Capital Markets analyst Gerard Cassidy. That is about 50% more than they were able to hand out after last year’s exam.”
U.S. Bubble Watch:
June 27 – Wall Street Journal (Shibani Mahtani and Douglas Belkin): “This is what happens when a major American state lets its bills stack up for two years. Hospitals, doctors and dentists don’t get paid for hundreds of millions of dollars of patient care. Social-service agencies help fewer people. Public universities and the towns that surround them suffer. The state’s bond rating falls to near junk status. People move out. A standoff in Illinois between Republican Governor Bruce Rauner and Democratic Speaker of the House Michael Madigan over spending and term limits has left Illinois without a budget for two years. State workers and some others are still getting paid because of court orders and other stopgap measures, but bills for many others are piling up. The unpaid backlog is now $14.6 billion and growing.”
June 28 – Bloomberg Business Week (Elizabeth Campbell and John McCormick): “Two years ago, Illinois’s budget impasse meant that the state’s lottery winners had to wait for months to get their winnings. Now, with $15 billion in unpaid bills, Illinois is on the brink of being unable to even sell Powerball tickets. For the third year in a row, the state is poised to begin its fiscal year on July 1 with no state budget and billions of dollars in the red. If that happens, S&P Global Ratings says Illinois will probably lose its investment-grade status and become the first U.S. state on record to have its general obligation debt rated as junk. Illinois is already the worst-rated state at BBB-, S&P’s lowest investment-grade rating. The state owes at least $800 million in interest and late fees on its unpaid bills.”
June 26 – Wall Street Journal (Lev Borodovsky): “Commercial real estate prices are starting to roll over after reaching record highs, capping a long postcrisis rally. While there is no sign that a decline would mean imminent danger for the economy, Federal Reserve Bank of Boston President Eric Rosengren recently warned that valuations represent a risk he ‘will continue to watch carefully.’ So far, prices have proven resilient, reflecting in part the unexpected 2017 decline of interest rates and the rising capital flows from diverse sources such as U.S. pensions and overseas investors.”
June 28 – Wall Street Journal (Chris Dieterich): “Booming demand for passive investments is making exchange-traded funds an increasingly crucial driver of share prices, helping to extend the long U.S. stock rally even as valuations become richer and other big buyers pare back. ETFs bought $98 billion in U.S. stocks during the first three months of this year, on pace to surpass their total purchases for 2015 and 2016 combined… These funds owned nearly 6% of the U.S. stock market in the first quarter—their highest level on record—according to an analysis of Fed data by Goldman Sachs… Surging demand for ETFs this year has to an unprecedented extent helped fuel the latest leg higher for the eight-year stock-market rally.”
June 27 – Reuters (Kimberly Chin): “U.S. single-family home prices rose in April due to tight inventory of houses on the market and low mortgage rates… and economists see no imminent change in the trend. The S&P CoreLogic Case-Shiller composite index of 20metropolitan areas rose 5.7% in April on a year-over-year basis after a 5.9% gain in March, which matched the fastest pace in nearly three years.”
June 27 – Bloomberg (Andrew Mayeda): “The International Monetary Fund cut its outlook for the U.S. economy, removing assumptions of President Donald Trump’s plans to cut taxes and boost infrastructure spending to spur growth. The IMF reduced its forecast for U.S. growth this year to 2.1%, from 2.3% in the fund’s April update to its world economic outlook. The… fund also cut its projection for U.S. growth next year to 2.1%, from 2.5% in April.”
Japan Watch:
June 29 – Reuters (Leika Kihara and Stanley White): “Japan's industrial output fell faster in May than at any time since the devastating earthquake of March 2011 while inventories hit their highest in almost a year, suggesting a nascent economic recovery may stall before it gets properly started. Household spending also fell in May, leaving the Bank of Japan's 2% target seemingly out of reach.”
EM Watch:
June 28 – Reuters (Brad Brooks and Silvio Cascione): “President Michel Temer called a corruption charge filed against him by Brazil's top prosecutor a ‘fiction’ on Tuesday, as the nation's political crisis deepened under the second president faced with possible removal from office in just over a year. Temer, who was charged Monday night with arranging to receive millions of dollars in bribes, said the move would hurt Brazil's economic recovery and possibly paralyze efforts at reform. The conservative leader said executives of the world's biggest meatpacker, JBS SA , who accused him in plea-bargain testimony of arranging to take 38 million reais ($11.47 million) in bribes in the coming months, did so only to escape jail for their own crimes.”
Geopolitical Watch:
June 29 – New York Times (Nicole Perlroth and David E. Sanger): “Twice in the past month, National Security Agency cyberweapons stolen from its arsenal have been turned against two very different partners of the United States — Britain and Ukraine. The N.S.A. has kept quiet, not acknowledging its role in developing the weapons. White House officials have deflected many questions, and responded to others by arguing that the focus should be on the attackers themselves, not the manufacturer of their weapons. But the silence is wearing thin for victims of the assaults, as a series of escalating attacks using N.S.A. cyberweapons have hit hospitals, a nuclear site and American businesses. Now there is growing concern that United States intelligence agencies have rushed to create digital weapons that they cannot keep safe from adversaries or disable once they fall into the wrong hands.”
June 28 – New York Times (Sheera Frenkel, Mark Scott and Paul Mozur): “As governments and organizations around the world grappled… with the impact of a cyberattack that froze computers and demanded a ransom for their release, victims received a clear warning from security experts not to pay a dime in the hopes of getting back their data. The hackers’ email address was shut down and they had lost the ability to communicate with their victims, and by extension, to restore access to computers. If the hackers had wanted to collect ransom money, said cybersecurity experts, their attack was an utter failure. That is, if that was actually their goal. Increasingly sophisticated ransomware assaults now have cybersecurity experts questioning what the attackers are truly after. Is it money? Mayhem? Delivering a political message?”
June 25 – Reuters: “Qatar is reviewing a list of demands presented by four Arab states imposing a boycott on the wealthy Gulf country, but said on Saturday the list was not reasonable or actionable. ‘We are reviewing these demands out of respect for ... regional security and there will be an official response from our ministry of foreign affairs,’ Sheikh Saif al-Thani, the director of Qatar's government communications office, said… Saudi Arabia, Egypt, Bahrain and the United Arab Emirates, which imposed a boycott on Qatar, issued an ultimatum to Doha to close Al Jazeera, curb ties with Iran, shut a Turkish military base and pay reparations among other demands.”
June 27 – Reuters (Foo Yun Chee): “EU antitrust regulators hit Alphabet unit Google with a record 2.42-billion-euro ($2.7bn) fine on Tuesday, taking a tough line in the first of three investigations into the company's dominance in searches and smartphones. It is the biggest fine the EU has ever imposed on a single company in an antitrust case, exceeding a 1.06-billion-euro sanction handed down to U.S. chipmaker Intel in 2009. The European Commission said the world's most popular internet search engine has 90 days to stop favoring its own shopping service or face a further penalty per day of up to 5% of Alphabet's average daily global turnover.”
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