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Thoughts on the Electronic Printing Press

May 10, 2013

Indicators of serious market excess abound.

The yen was hit for 2.6% this week, with the dollar/yen breaking above 100 to the highest level since 2008. Gold was down 1.5%, silver 1.5%, and platinum 2.0%. Japan’s Nikkei jumped 6.7%, increasing 2013 gains to 40.5%. Japan’s 10-year government bond (JGB) yield jumped 13 bps to the highest level since February, as sovereign yields generally moved higher across the globe. Global equities generally added to recent gains. Meanwhile, currency markets have turned increasingly unsettled. The dollar index gained 1.2%. So called “commodities currencies” came under pressure. The South African rand fell 2.3%. The Australian dollar dropped 2.9%, falling below parity to the U.S. dollar for the first time in almost a year. The New Zealand dollar sank 2.7%. Other notable currency declines this week included the Swiss franc down 2.2%, the Indian rupee down 1.6%, and the Russian ruble 1.2% lower.

May 9 – Bloomberg (Simon Kennedy and Jennifer Ryan): “Global central bankers are poised to ease monetary policy even further after a wave of interest-rate cuts from India to Poland. As Group of Seven finance chiefs gather in the U.K. tomorrow, economists at Morgan Stanley and Credit Suisse Group AG are among those predicting policy makers will keep deploying stimulus amid weak global growth, slowing inflation and the need to thwart currency gains. ‘Most central banks in our coverage universe still have a bias to ease,’ Morgan Stanley economists led by… Joachim Fels said… ‘South Korea’s rate cut today was the 511th reduction worldwide since June 2007… While the tide of liquidity has sent stock markets surging, it has yet to prove as effective in generating economic growth. ‘Central banks are our best friends not because they like markets, but because they can only get to their macro objectives by going through the markets,’ Mohamed El-Erian, chief executive officer at Pacific Investment Management… said.”

Global central banks around the world continue to push monetary easing like never before. The Fed and Bank of Japan currently combine for almost $180bn of monthly quantitative easing, an historic experiment in monetary inflation. And as economies respond little to unprecedented monetary stimulus, global central banks resort to only more dramatic measures. In the face of virtually unlimited global liquidity, commodities prices trade poorly. It seems an appropriate market juncture to take a little deeper dive into contemporary “money printing.”

To set the analytical backdrop, keep in mind core facets of my Global Credit Bubble thesis. First, the world is in the midst of a unique episode of unconstrained Credit on a global basis. There are today essentially no limits to either the quantity or the quality of debt issued, which I see as a multi-decade experiment in unanchored global electronic “money” and Credit.

Importantly, the evolution to non-bank marketable debt accelerated rapidly during the nineties. Facing an impaired banking system early in the decade, the Greenspan Fed accommodated an explosion of securitized lending, derivatives, securities finance and leveraged speculation. As financial Bubbles took root, Fed doctrine increasingly gravitated to backstopping vulnerable securities markets. In the process, monetary policy came to heavily incentivize financial speculation. As the world’s leading market – and the dominating central bank of the world’s “reserve currency” – U.S. financial and policy trends rapidly spread around the globe. Massive U.S. current account deficits, dollar devaluation and limitless liquidity for speculation helped export the U.S. Credit Bubble to financial and economic systems everywhere.

Predictably, a prolonged global Credit boom spurred epic imbalances and wreaked havoc on economic structures. Inflationary impacts have been uneven and notably disparate. Throughout Europe, years of maladjustment have created highly indebted, wealth-deficient economies dependent upon the ongoing expansion of non-productive Credit. In China and throughout Asia, unending Credit expansion and massive “hot money” flows have fueled an historic boom in manufacturing capacity (basic goods and technology). Especially since the post-2008 stimulus free-for-all, overheated “developing” Credit systems and economies have created acute vulnerabilities to any Credit slowdown, general tightening of finance or reversal of "hot money" flows.

In the U.S., many years of easy “money” and unstable Credit engendered an experimental consumption and services-based economic structure – along with an asset-inflation prone financial sector. As the U.S. deindustrialized and inflated Credit, massive global imbalances accumulated on an annual basis in the rapidly industrializing Chinese and “developing" economies. The Fed’s most recent QE measures ensured U.S. economic and financial systems develop an only more acute dependency on ultra-loose monetary conditions.  Aggressive QE also ensured yet another bout of destabilizing financial flows for our Bubble cohorts in China and “developing” Asia.

In Japan, decades of loose monetary policy have accommodated an astonishing buildup in government debt. While different countries and regions suffer divergent ill-effects, financial and economic systems everywhere are today dependent on uninterrupted aggressive monetary stimulus. One would have to go back to the 1920’s to see any comparable period with such extreme maladjustment and imbalances on a global basis.

Over the years, I’ve remained focused on that nature of monetary inflations. In particular, there is the powerful dynamic whereby policymakers fall prey to the inflationary expedient - and they invariably find it impossible to break free. History is replete with examples of how once the printing presses gets revved up there’s no turning them down: the presses inevitably run for more hours - and when there become insufficient hours in the day the presses seamlessly shift to cranking out currency with additional zeros.

Yet each monetary inflation has its own dynamics and nuances. These days, we’re dealing with central banks and their electronic “printing press” – injecting liquidity into the marketplace as these banks acquire marketable debt securities (monetization). After a number of years of quantitative easing, we’re beginning to gain a better understanding of how these electronic printing presses actually operate.

The traditional printing press inflation worked generally to disburse currency throughout the real economy. Such currency devaluations would work to inflate prices generally, in the process reducing real purchasing power (nominal currency units buy less). This inflation would work to raise interest rates and impinge investment, while also working to boost wage demands throughout the economy. Inflation’s myriad negative effects would devalue the currency, especially on the foreign exchange market.

The contemporary electronic “printing press” is an altogether different animal. It essentially feeds liquidity directly into the financial markets – first and foremost inflating securities prices. There is little generalized inflation in nominal purchasing power, hence in prices throughout the real economy. Indeed, abundant marketplace liquidity actually works (unevenly) to stimulate investment. And with consumer prices in aggregate seemingly well contained, most will find justification for quite elevated stock and bond prices. And as securities markets booming and traditional inflationary risks stay seemingly nonexistent, one is easily enamored with the central banks’ new electronic toys.

It’s my view that asset inflation and Bubbles potentially have significantly more pernicious effects than traditional consumer price inflation. I would definitely argue that consumer price inflation is easier for central banks to rectify. As such, the electronic version is proving itself a more dangerous tool than the traditional currency printing press. In the end, asset market Bubbles are vehicles for wealth redistribution, resource misallocation and wealth destruction, although these heavy burdens remain masked by the boom-time perception of wealth creation and abundance.

The traditional overheated printing press worked to devalue currencies. How about the electronic version? Notably, gold and many commodity prices have been under pressure in the face of recent unprecedented QE. In one sense, an argument could be made that contemporary central bank “money printing” inflates debt and equities prices and, in effect, seemingly inflates the value of some currencies. Indeed, QE has significantly inflated tens of Trillions of U.S. stocks and fixed-income securities. In somewhat of a replay of late-nineties “king dollar” dynamic, the Federal Reserve’s market support operations have provided a competitive advantage to U.S. markets and, hence, the U.S. dollar. Essentially, Fed monetary inflation coupled with a financial mania is currently inflating U.S. securities markets relative to gold and commodities. This speculative dynamic is increasingly pressuring the “global reflation trade” more generally.

Traditional printing press or the newfangled version, monetary inflations always have unintended consequences. Incentivizing speculation is a prominent flaw in current (inflationist) central bank doctrine. And the larger and longer that speculative Bubbles are nurtured, the more precarious they become. This is a major part of the trap that global central bankers have fallen into. And the more fragile maladjusted global economies become the more aggressively they resort to the electronic printing press. The upshot has been increasingly unstable market Bubbles on a globalized basis – which translates into only greater systemic fragilities.

Highly speculative markets become really unpredictable affairs. Greed, fear and gamesmanship take over. Short squeezes, dislocations and melt-ups wreak havoc with market stability. “Greater fool” dynamics take on a life of their own. And never has there been such a massive pool of highly sophisticated speculative finance seeking to extract wealth from an equally massive pool of unsophisticated “money” searching for markets returns - on a global basis. On the one hand, years of manipulated interest rates, markets backstops and interventions ensured that sophisticated market operators accumulated astronomical wealth and assets under management. And, going on five years now, Fed zero interest rate policy has pushed the unsuspecting saver out into the risk market jungle.

To attempt to return to some semblance of monetary stability, the Fed and global central banks should be moving forcefully to remove excess market liquidity and dampen speculation. But instead of removing accommodation, the electronic printing press is providing highly speculative and unstable global markets with incredible amounts of additional liquidity.

More recently, Bank of Japan policymaking has set loose a major yen devaluation. This has opened the flood gates to God only knows how much “money” from Japanese institutions and retail investors – not to mention hot “carry trades” which sell yen instruments to speculate in securities markets around the world.

The way things have been shaping up, the Abe yen devaluation play could provide one of history’s most bountiful speculative forays. Actually, 2013 has all the makings for a historic year in speculative finance – a proliferation of global market Bubbles providing opportunities to make fortunes – that is, if gains can be retained throughout the year. On CNBC and elsewhere the airwaves are filled with bullish analysis. What I don’t see is discussion of what I see on my Bloomberg screens: wild and increasingly unstable markets dominated by speculation.

I see heightened instability in the currency and commodities markets, where yen weakness and dollar strength are feeding extraordinary marketplace uncertainties. In unsettled commodities markets, general weakness coupled with the potential for a dollar upside lurch has created uncertainty and instability. In bonds and throughout global fixed income, a historic issuance boom at record low yields - especially in the riskiest segments of the marketplace - is indicative of late-cycle froth now conspicuous throughout global Credit markets.

In equities markets, well, speculative dynamics have taken full command. The bears have been squeezed into oblivion, with a dearth of selling pressure now allowing speculators to easily push prices higher. Bringing back memories of 1999, heavily shorted Tesla Motors was up 41% this week and Green Mountain Coffee jumped 33%. It was a week where I was again contemplating “how crazy could things get?”

The Fed and global bankers should never have become such active players in the financial markets. Asset inflation is indeed more dangerous than consumer price inflation. Central banks will actively support asset prices, while refusing to remove the punchbowl. At all costs, Chairman Bernanke will avoid being a Bubble Popper. And when you read his comments from Friday morning (below), keep in mind that as Bubbles become more systemic they actually become less conspicuous. Today, Bubbles proliferate throughout the securities and asset markets. It’s all become one big historic global Bubble. Yet the Bernanke Fed won’t even begin tapering its $85bn monthly “money printing” operation in the midst of increasingly conspicuous market excesses.

Federal Reserve Bank of Chicago President Charles Evans: “You talked about monitoring markets at great length. A major cause of the recent financial crisis was the failure to identify the housing bubble, and you spoke on that. Could you expand a little bit more on what's being done to identify current and future asset bubbles, and are you optimistic that we've identified them and nothing like that is going on at the moment?”

Chairman Bernanke: “Well, our monitoring -- there's really two parts to it. So the first is that we do, in fact, do what we can to try -- I would say the word ‘bubbles’ is a freighted word. And let me just say we try to identify situations where asset valuations relative to fundamentals are historically anomalous, where, for example, in the case of housing, we would have seen house prices relative to rents as being much higher than historically normal.

So we have an extensive program to try to assess whether major asset classes are in fact within historically normal ranges… In the stocks and equities, we look at dividend rates and earnings and the equity premium, those various kinds of standard finance indicators. In corporate debt, we look at measures that would help us assess the amount of default risk and therefore to assess whether spreads are appropriate or not. In more complex instruments like structured credit products, we look at a variety of things, including the terms and conditions. Are we seeing, for example, as we are in some cases, covenant-lite types of agreements in certain kinds of structured credit products. So we do try to identify, much more so than in the past, whether major asset classes are deviating in terms of their price or valuation from historical norms.

Now, that being said, two comments. One is that I think it would be hubristic to believe that we could always identify such deviations. On the one hand, sometimes changes in price-to-earnings ratios are justified by some fundamentals. You know, Microsoft stock is worth more than it was some time ago, and this may still yet prove to be a bubble. But so far so good, right? At the same time -- it’s not evident that having a misalignment or historically unusual relationship is a problem, though it may be. But of course, we can also miss changes in valuation that are, in some sense, not fundamentally justified.”


For the Week:

The S&P500 gained 1.2% (up 14.6% y-t-d), and the Dow added 1.0% (up 15.4%). The broader market outperformed. The S&P 400 MidCaps advanced 2.1% (up 16.6%), and the small cap Russell 2000 rose 2.2% (up 14.8%). The Morgan Stanley Consumer index increased 0.4% (up 21.0%), while the Utilities were hit for 2.8% (up 13.4%). The Banks jumped 2.8% (up 14.1%), and the Broker/Dealers surged 3.0% (up 26.9%). The Morgan Stanley Cyclicals rose 3.5% (up 15.9%), and the Transports gained 2.5% (up 20.1%). The Nasdaq100 gained 1.2% (up 12.0%), and the Morgan Stanley High Tech index jumped 1.9% (up 10.3%). The Semiconductors surged 3.3% (up 21.3%). The InteractiveWeek Internet index gained 2.2% (up 15.4%). The Biotechs jumped 2.5% (up 29.2%). Although bullion fell $23, the HUI gold index was able to recover 1.0% (down 37.0%).

One-month Treasury bill rates ended the week at one basis point and 3-month rates closed at four bps. Two-year government yields were up two bps to 0.24%. Five-year T-note yields ended the week nine bps higher to 0.82%. Ten-year yields jumped 16 bps to 1.90%. Long bond yields were up 14 bps to 3.10%. Benchmark Fannie MBS yields jumped 17 bps to 2.56%. The spread between benchmark MBS and 10-year Treasury yields widened one to 66 bps. The implied yield on December 2014 eurodollar futures was up 2.5 bps to 0.47%. The two-year dollar swap spread was little changed at 13 bps, while the 10-year swap spread was down three to 14 bps. Corporate bond spreads were mixed. An index of investment grade bond risk increased one to 72 bps. An index of junk bond risk declined 2 to 350 bps. An index of emerging market debt risk fell 5 to 264 bps.

Debt issuance was huge.  Investment grade issuers included JPMorgan $2.0bn, State Street $1.5bn, Berkshire Hathaway $1.0bn, Northeast Utilities $750 million, General Motors Finance $2.5bn, Brinker International $600 million, Perrigo $600 million, Bank of New York Mellon $500 million, Public Service Electric & Gas $500 million, XL Energy $450 million, Toll Brothers $400 million, PACCAR $400 million, Johnson & Son $400 million, Caterpillar $350 million, Hyatt Hotels $350 million, Piedmont $350 million, Alpha Natural Resources $345 million, Oklahoma Gas & Electric $250 million, University of Chicago $205 million and Oncor Electric Delivery $100 million.

Junk bond funds saw inflows increase to $789 million (from Lipper). Junk issuers included Ford Motor Credit $1.5bn, Ball Corp $1.0bn, First Quality Finance $600 million, Atlas Pipeline $400 million, Penn Virginio Resource $400 million, Commercial Metals $330 million, Claire's Stores $320 million, Cash America International $300 million, Istar Financial $565 million, Sonic Automotive $300 million, Harron Communications $290 million, BOE Intermediate $285 million, Federal Realty Investment Trust $275 million, Rolta $200 million, Gastar Exploration $200 million, Ion Geophysical $175 million, Tops Holding $150 million, Brunswick $150 million, Penta Aircraft Leasing $140 million, and Iracore International $125 million.

Convertible debt issuers included Dana Gas Sukuk $425 million.

The long list of international dollar debt issuers included European Investment Bank $5.0bn, BP Capital $3.0bn, Statoil $3.0bn, Australia & New Zealand Bank $2.5bn, Nordea Bank $2.5bn, HSBC Bank $2.0bn, Network Rail $1.75bn, Neder Waterschapsbank $1.5bn, Femsa $1.0bn, Leaseplan $750 million, NXP $750 million, Banco Del Estado $750 million, Want Want China Finance $600 million, Harvest Operations $600 million, Instituto Costarricense $500 million, Inversiones $500 million, Dana Gas Sukuk $425 million, Seven Generations Energy $400 million, LBC Tank Terminal $350 million, CHC Helicopter $300 million and VCH Lease $155 million.

Italian 10-yr yields increased 7 bps to 3.89% (down 61bps y-t-d). Spain's 10-year yields rose 16 bps to 4.18% (down 109bps). German bund yields jumped 14 bps to 1.38% (up 6bps), and French yields rose 13 bps to 1.95% (down 5bps). The French to German 10-year bond spread narrowed one to 57 bps. Ten-year Portuguese yields declined 3 bps to 5.38% (down 13bps). Greek 10-year note yields fell 19 bps to 9.36% (down 111bps). U.K. 10-year gilt yields were 17 bps higher at 1.89% (up 7bps).

The German DAX equities index jumped 1.9% for the week (up 8.8% y-t-d). Spain's IBEX 35 equities index was unchanged (up 4.6%). Italy's FTSE MIB gained 2.1% (up 6.2%). Japanese 10-year "JGB" yields ended the week up a notable 13 bps to 0.686% (down 9bps). Japan's Nikkei surged 6.7% (up 40.5%). Emerging markets were mixed. Brazil's Bovespa equities index declined 0.7% (down 9.6%), and Mexico's Bolsa fell 2.0% (down 4.5%). South Korea's Kospi index declined 1.1% (down 2.6%). India’s Sensex equities index jumped 2.6% (up 3.4%). China’s Shanghai Exchange rose 1.9% (down 1.0%).

Freddie Mac 30-year fixed mortgage rates jumped 7 bps to 3.42% (down 41bps y-o-y). Fifteen-year fixed rates were up 5 bps to 2.61% (down 44bps). One-year ARM rates fell 3 bps to a 13-week low 2.53% (down 20bps). Bankrate's survey of jumbo mortgage borrowing costs had 30-yr fixed rates up one basis point to 3.91% (down 47bps).

Federal Reserve Credit jumped $10.4bn to a record $3.276 TN. Fed Credit expanded $491bn over the past 31 weeks. Over the past year, Fed Credit expanded $431bn, or 15.2%.

Global central bank "international reserve assets" (excluding gold) - as tallied by Bloomberg – were up $629bn y-o-y, or 6.0%, to a record $11.102 TN. Over two years, reserves were $1.282 TN higher, for 13% growth.

M2 (narrow) "money" supply jumped $33.6bn to a record $10.535 TN. "Narrow money" expanded 6.5% ($645bn) over the past year. For the week, Currency increased $2.5bn. Demand and Checkable Deposits rose $21.5bn, and Savings Deposits gained $9.4bn. Small Denominated Deposits declined $2.1bn. Retail Money Funds increased $2.5bn.

Money market fund assets rose $19.6bn to $2.583 TN. Money Fund assets were up $14.1bn from a year ago.

Total Commercial Paper outstanding fell $4.9bn this week to a six-month low $993bn. CP has declined $73bn y-t-d, while having expanded $26bn, or 2.7%, over the past year.

Currency and 'Currency War' Watch:

May 8 – Bloomberg: “China’s central bank will resume bill sales for the first time in 17 months as overseas investors pump money into the country to take advantage of the yuan’s rise. The People’s Bank of China said it will issue 10 billion yuan ($1.6bn) of three-month notes… ‘Foreign capital inflows are too big,’ said Shi Lei… head of fixed-income research at Ping An Securities… ‘The central bank needs more tools to mop up excess liquidity.’”

May 7 – Bloomberg (Michael Heath): “The Reserve Bank of Australia cut its benchmark interest rate to a record low, driving down a currency that has damaged manufacturing and boosted unemployment. Governor Glenn Stevens reduced the overnight cash-rate target by a quarter percentage point to 2.75%, saying in a statement that the Aussie’s record strength ‘is unusual given the decline in export prices and interest rates.’”

May 9 – Wall Street Journal (Alex Frangos): “Central banks in Asia, Australia and New Zealand are ratcheting up moves to deal with an influx of capital that is keeping currencies strong and complicating efforts to manage growth. New Zealand's central bank said Wednesday it intervened in foreign-exchange markets to blunt the rise of its currency and would continue to do so, a day after Australia's central bank cut interest rates to a record low and noted the stubborn strength of the Australian dollar. Elsewhere, China is moving to curb bets on the rising yuan, while Thailand is considering efforts to curb the strongest baht since the 1997 Asian financial crisis.”

May 9 – Bloomberg (Eunkyung Seo and Cynthia Kim): “The Bank of Korea cut interest rates, following the lead of policy makers in Australia, Europe and India this month, as strength in the won and weakness in the yen dim the outlook for the nation’s exports. Governor Kim Choong Soo and his board lowered the benchmark seven-day repurchase rate to 2.5% from 2.75%… As central banks around the world move to counter currency appreciation, the won’s 24% jump against the yen in six months is hampering South Korean exporters of autos and electronics and aiding their Japanese rivals. In Seoul, ruling New Frontier Party floor leader Lee Hahn Koo yesterday urged a ‘more active role’ for the BOK, adding to political pressure that the central bank resisted last month.”

The U.S. dollar index jumped 1.2% to 83.14 (up 4.2% y-t-d). For the week on the upside, the Norwegian krone increased 0.2%. For the week on the downside, the Australian dollar declined 2.9%, the New Zealand dollar 2.7%, the Japanese yen 2.6%, the South African rand 2.3%, the Swiss franc 2.2%, the Swedish krona 1.4%, the British pound 1.4%, the Danish krone 1.0%, the euro 1.0%, the South Korean won 0.8%, the Brazilian real 0.6%, the Taiwanese dollar 0.4%, the Singapore dollar 0.4%, the Canadian dollar 0.2%, and the Mexican peso 0.1%.

Commodities Watch:

May 7 – Bloomberg: “Gold imports by China from Hong Kong more than doubled to an all-time high in March as buyers in the biggest consumer after India boosted purchases, underscoring increased bullion demand in the world’s second-largest economy. Mainland buyers purchased 223,519 kilograms (223.52 metric tons), including scrap, compared with 97,106 kilograms in February…”

The CRB index declined 0.5% this week (down 2.1% y-t-d). The Goldman Sachs Commodities Index slipped 0.3% (down 2.7%). Spot Gold fell 1.5% to $1,448 (down 13.6%). Silver was 1.5% lower to $23.66 (down 22%). June Crude dipped 43 cents to $96.04 (up 5%). June Gasoline was up 1.2% (up 4%), while June Natural Gas fell 3.2% (up 17%). July Copper gained 1.2% (down 8%). May Wheat fell 2.0% (down 10%), and May Corn declined 1.7% (down 1.5%).

U.S. Bubble Economy Watch:

May 9 – Bloomberg (Prashant Gopal): “Prices for single-family homes increased in 89% of U.S. cities in the first quarter as the housing market extends a recovery from a five-year slump. The median sales price rose from a year earlier in 133 of 150 metropolitan areas measured… A year earlier, 74 areas had gains… The national median price for an existing single-family home was $176,600 in the first quarter, up 11.3% from the same period last year. That was the biggest gain since the fourth quarter of 2005… ‘Some of the previously hard-hit markets like Phoenix, Sacramento and Miami continue to experience a dramatic turnaround, while a new set of areas like Atlanta, Minneapolis and Seattle have begun to show strong signs of upward momentum,’ Lawrence Yun, chief economist for the National Association of Realtors, said… At the end of the first quarter, 1.93 million previously owned homes were available for sale, 16.8% fewer than a year earlier…”

May 6 – Bloomberg (Joshua Zumbrun): “U.S. banks eased standards and terms on loans to businesses as commercial lending led a credit thaw, according to a Federal Reserve survey. ‘Domestic banks, on balance, reported having eased their lending standards and having experienced stronger demand in several loan categories over the past three months,’ the central bank said… The fraction of banks easing standards for business loans was described as ‘relatively large.’”

Federal Reserve Watch: 

May 9 – Reuters (Luciana Lopez and Rodrigo Campos): “Wealthy money managers bashed Federal Reserve Chairman Ben Bernanke's easy money policies at a closely watched annual investment conference… The Sohn Investment Conference, which raises money for pediatric cancer research, gets big name hedge fund managers to share their ‘best ideas’ with other wealthy investors. This year's conference was sprinkled with criticisms of the Fed's $85 billion in monthly purchases of Treasuries and mortgage securities… ‘Ben Bernanke is running the most inappropriate monetary policy in the history’ of the developed world, said Stanley Druckenmiller, the retired head of Duquesne Capital Management… Bernanke took a drubbing from the start, with the first speaker, Paul Singer, setting the tone. Singer… said the Fed's monetary policies are distorting the prices of long-term bonds and the global recovery. ‘Everyone wants a safe haven… There is no such thing in today's markets and that's one of the elements of the distortion.’”

May 7 – Bloomberg (Joshua Zumbrun and Craig Torres): “A group of bankers that advises the Federal Reserve’s Board of Governors has warned that farmland prices are inflating ‘a bubble’ and growth in student-loan debt has ‘parallels to the housing crisis.’ …Their alarm adds to a debate on the Federal Open Market Committee about whether the benefits from their monthly purchases of $85 billion in bonds outweigh the risk of financial instability. While Chairman Ben S. Bernanke has argued the program is worth pursuing, Fed Governor Jeremy Stein and Kansas City Fed President Esther George are among those who have voiced concerns that an extended period of low interest rates is heightening the risk of asset bubbles. ‘Agricultural land prices are veering further from what makes sense,’ according to minutes of the council’s Feb. 8 gathering. ‘Members believe the run-up in agriculture land prices is a bubble resulting from persistently low interest rates.’”

May 8 – Bloomberg (Jeff Kearns and Aki Ito): “Federal Reserve Bank of Dallas President Richard Fisher said the Fed needs to set a limit on the size of its assets, and that he favors reducing purchases of mortgage-backed securities in any tapering of bond-buying. ‘There somewhere have to be practicable limits in terms of how far we build our balance sheet,’ Fisher said… ‘We’re moving in the direction of having a $4 trillion balance sheet so we know we can’t go on forever… ‘We’ve had a rebound in housing,’ Fisher… said of the impact from Fed purchases of mortgage bonds. ‘It’s done its job and we’re at risk of overkill. And we’re accumulating so much, the question is what do we do with it?’”

Fiscal Watch:

May 9 – Bloomberg (Gregory Mott): “Fannie Mae, the mortgage-financier seized by U.S. regulators in 2008, will pay the Treasury Department $59.4 billion after reporting a first-quarter profit driven by rising home prices and declining delinquencies. The government-sponsored enterprise, which is operating under U.S. conservatorship, had net income of $8.1 billion for the three-month period that ended March 31… The… company had net worth of $62.4 billion, and is required to turn over to Treasury everything above $3 billion. Fannie Mae’s net worth was boosted by release of a valuation allowance on deferred-tax assets…”

Central Bank Watch:

May 6 – Bloomberg (Jana Randow and Lorenzo Totaro): “European Central Bank President Mario Draghi said policy makers are ready to cut interest rates again if needed after reducing them to a record low last week. ‘We will be looking at all the data that arrives from the euro-area economy in the coming weeks and if necessary, we are ready to act again,’ Draghi said… ‘Monetary policy will remain accommodative.”

May 8 – Bloomberg (Jeff Black and Jana Randow): “European Central Bank Executive Board member Yves Mersch said interest-rate reductions become more ineffective as they approach zero. ‘The closer we get to zero, the bigger the inefficiency of a further rate cut,’ Mersch said… The ECB isn’t a ‘toothless tiger’ and will use ‘tools that are appropriate to the situation… We will perhaps securitize these loans so that banks in countries with surpluses can lend without fear that it won’t be paid back,’ Mersch said. ‘This is something we can’t do from one day to the next, at the push of a button.’”

Global Bubble Watch: 

May 9 – Bloomberg (Simon Kennedy and Jennifer Ryan): “Global central bankers are poised to ease monetary policy even further after a wave of interest-rate cuts from India to Poland. As Group of Seven finance chiefs gather in the U.K. tomorrow, economists at Morgan Stanley and Credit Suisse Group AG are among those predicting policy makers will keep deploying stimulus amid weak global growth, slowing inflation and the need to thwart currency gains. ‘Most central banks in our coverage universe still have a bias to ease,’ Morgan Stanley economists led by… Joachim Fels said… ‘Given this disposition, it doesn’t take much in terms of downside surprises in growth or inflation to tip the balance for more central banks to pull the trigger for more easing.’ South Korea’s rate cut today was the 511th reduction worldwide since June 2007, according to Bank of America Corp.’s tally. While the tide of liquidity has sent stock markets surging, it has yet to prove as effective in generating economic growth.”

May 7 – Bloomberg (Sarika Gangar and Sridhar Natarajan): “JPMorgan… increased its forecast for issuance of junk bonds and leveraged loans by $250 billion… Companies will raise a record $500 billion this year in the loan market, up from a previous estimate of $300 billion, the bank’s top-ranked strategists led by Peter Acciavatti… wrote… High-yield bond offerings will total $325 billion, versus an earlier forecast of $275 billion. Investors are embracing riskier assets as the Federal Reserve holds benchmark interest rates near zero for a fifth year, sending junk-bond yields to a record low 6.04%... ‘You have got an imbalance in the market,’ Alex Jackson… of the bank loan group at Cutwater Asset Management, said… ‘There is a lack of new supply and tremendous demand that is driving issuers’ ability to refinance everything.’”

May 9 – Financial Times (Vivianne Rodrigues and Stephen Foley): “Global investors are venturing to the riskiest corners of the US corporate debt markets in greater numbers in a so-called dash for trash as the relentless search for higher yields shows no signs of abating. Bonds sold by companies with the lowest possible credit ratings have soared in popularity with investors, who have been diverted from top tier government and corporate debt where central banks are suppressing interest rates… Heavy buying has pushed down the average yield on CCC-rated bonds to 6.77% from 10.13% a year ago… ‘It’s a frenzy out there with these high yield bonds,’ said Jason Brady, a portfolio manager at Thornburg Investment Management. ‘We’ve been spending a lot of time trying to sort through an avalanche of new issuance which is, by and large, of terrible quality.”

May 8 – Bloomberg (Lisa Abramowicz, Miles Weiss and Christine Harper): “Hedge funds using debt-trading strategies honed on Wall Street are expanding at a record pace as they profit from risks big banks are no longer taking… Hedge-fund firms are hiring from companies such as Deutsche Bank AG, Barclays Plc and Bank of America Corp. as their credit funds have attracted $108 billion since 2009, data compiled by… Hedge Fund Research Inc. show. The flow of funds and people is taking place as regulators demand banks curb proprietary trading and back riskier wagers with more capital to prevent another financial crisis. That has allowed so-called shadow-banking firms to expand in businesses contracting at the largest lenders… ‘The regulatory posture in the U.S. and in Europe is unequivocal: They want to transfer risk to the shadow-banking system,’ said Roy Smith, a finance professor at New York University’s Stern School of Business and former Goldman Sachs Group Inc. partner.”

May 10 – Bloomberg (Mary Childs): “Bearish investors are retreating from derivatives used to protect against corporate-bond losses, sending the cost of insurance to the lowest since 2007 as a central bank-fueled rally extends into a fifth year. The Markit CDX North American Investment Grade Index fell this week to as low as 68.3 bps, the least since Nov. 1, 2007… The credit- default swaps benchmark has dropped 19.9 bps since the end of March and is down from a peak of 280 in 2008. Rather than a referendum on credit quality, the drop is a byproduct of the $2.3 trillion that the Federal Reserve has pumped into the financial system since 2008, allowing even the riskiest borrowers to obtain financing. With easy access to capital, Moody’s… is projecting the global default rate for speculative-grade companies will fall to 2.5% by April 2014.”

May 9 – Bloomberg (Cordell Eddings): “Central banks and commercial lenders are crowding investors out of bond markets, pushing yields to record lows even as the amount of debt worldwide grows. Investors from pension funds to insurers hold 45% of the debt in Barclays Plc’s Multiverse Bond Index, below the average of 60% since 2002… At the same time, the share held by central banks and commercial lenders climbed to 55%. The value of debt in the index has soared 52% to $44.6 trillion since 2008. Unprecedented stimulus from the Federal Reserve to the Bank of Japan to boost the world’s economy and purchases by lenders complying with toughened capital rules are leaving investors with a smaller slice of the market.”

May 9 – Bloomberg (Julie Miecamp): “Less than a year after Eircom Group wrote down 1.8 billion euros ($2.37bn) of debt, the Irish phone company is back in the bond market seeking to borrow. Fundraising by Europe’s riskiest companies is accelerating as issuers take advantage of record-low borrowing costs and investor appetite for high-yielding assets… Kloeckner and KCA are among 12 borrowers that sold almost 6 billion euros of bonds ranked B or below last week, the busiest period of issuance for notes with those ratings since at least the start of 2011… The average yield on the securities has dropped to a record 6.46% from an all-time high of 30.7% in November 2008… ‘Issuers are refinancing their loans with cheap bonds,’ said Steven Mitra… at LNG Capital LLP. ‘The quality of deal issuance has deteriorated significantly across the board in this last flurry of issuers that have come to the market.’”

May 9 – Dow Jones (Chris Dieterich): “Investors continued to pour money into stocks last week, but piled even more cash into bonds, as exchange-traded funds made up of bonds saw their biggest weekly fund inflow on record. Even as the stock market rallied, taxable bond ETFs drew in a one-week record of $4.49 billion…”

May 10 – Dow Jones (Alexandra Scaggs and Steven Russolillo): “Small investors are borrowing against their portfolios at a rapid clip, reaching levels of debt not seen since the financial crisis. The trend—driven by a combination of rising stock values and rock-bottom interest rates—is sparking a growing debate among market watchers… As of the end of March… investors had $379.5 billion of margin debt at New York Stock Exchange member firms… That is just shy of the record $381.4 billion in margin debt set in July 2007. In March, the level of margin debt stood 28% higher than one year earlier..."

Global Credit Watch: 


May 8 – Bloomberg (Sridhar Natarajan): “Yields on junk-rated corporate bonds have fallen below loans that rank higher in the capital structure by the most ever, underscoring the anomalies being created by the Federal Reserve’s unprecedented monetary policies. At about 5.08%, yields on speculative-grade bonds are 51 bps less than rates on U.S. leveraged loans… Before this year, creditors had almost never accepted lower payments on junk bonds over loans, which get repaid first in a bankruptcy. Concerns that credit markets are overheating are rising as the Fed, which has pumped about $2.5 trillion into the financial system since the financial crisis, keeps its benchmark rate at about zero for a fifth year… ‘Junk-bond yields are in freefall, and every time that is pointed out, you look like an alarmist,’ Martin Fridson, chief executive officer of… FridsonVision LLC, said… ‘People think it’s okay as long as they are the first ones out when things change direction. Of course, everybody is not going to be the first one out.’”

May 7 – Bloomberg (Jim Brunsden): “Finance ministers will hold talks next week on proposed European Union rules for writing down failing banks’ creditors, amid splits over the status of insured depositors and the powers that should be handed to national regulators. ‘The treatment of uninsured depositors remains a key issue particularly after recent events,’ according to a document prepared by Ireland, which holds the rotating presidency of the EU… In the absence of such a system, nations have injected 1.7 trillion euros ($2.2 trillion) into their banking systems since the 2008 collapse of Lehman Brothers Holdings Inc., according to European Commission data.”

May 7 – Bloomberg (Benjamin Purvis): “JPMorgan… is seeking to pay its lowest premium in almost six years on a sale of bonds in Australia… A global rally in credit fueled by unprecedented easing from the world’s biggest central banks has driven spreads on financial debt in Australia to levels unseen since March 2008…”

China Bubble Watch: 

May 10 – Bloomberg: “China’s new local-currency loans exceeded estimates last month while money supply expanded at a faster pace, as policy makers maintained credit support for the economy after first-quarter growth unexpectedly slowed. Lending was 792.9 billion yuan ($129bn) in April… That compares with the median estimate of 755 billion yuan… and 1.06 trillion yuan in March. M2 money supply rose 16.1% from a year earlier. Aggregate financing, a broader measure of credit, was 1.75 trillion yuan compared with a record 2.54 trillion yuan in March.”

May 7 – Bloomberg: “China has ordered greater scrutiny of bond sales by local government finance vehicles with higher levels of debt, three people with knowledge of the matter said. The National Development and Reform Commission, which approves bond sales by companies that local governments set up to finance projects, will more strictly review applications for debt with credit ratings below AA+ sold by issuers with debt-to- asset ratios exceeding 65%... China’s central government has sought to rein in borrowing by local governments on concerns that slowing economic growth could result in some financing vehicles being unable to repay debt, saddling banks with bad loans.”

May 10 – Reuters (Yong Xu and Pete Sweeney): “China’s bond market regulator closed off a loophole on Friday that allowed banks that sell high-yielding wealth management products (WMPs) to evade regulatory requirements by moving money between the WMP accounts they manage and their own proprietary accounts… The four traders, who spoke on condition of anonymity…, told Reuters the China Government Securities Depository Trust & Clearing Co Ltd (CDC) and the Shanghai Clearing House had jointly notified commercial banks they could no longer trade bonds between their own proprietary accounts and the WMPs they manage for clients… ‘Yesterday we could do it, today everybody has to undo it; it’s new regulation after new regulation,’ said one of the traders… The traders said the new rule would prevent a common practice in which banks shift bonds back and forth between their own balance sheets and the WMP accounts they manage for clients, allowing them to deliver promised payouts to WMP investors, even if the underlying bonds have not yet matured or have declined in value. Such transactions have also enabled banks to temporarily shift WMP funds back onto bank balance sheets at quarter-end, as a way to window dress their financial statements by boosting the customer deposits they report."

May 8 – Bloomberg: “China’s export growth unexpectedly accelerated in April even as shipments to the U.S. and Europe fell, spurring Bank of America Corp. and Mizuho Securities Co. analysts to say the figures were inflated by fake reports. The 14.7% increase… was led by a 57.2% jump in shipments to Hong Kong that highlighted suspicions of false transactions used to mask capital flows into China… Today’s report showed a 0.1% drop in U.S. shipments and 6.4% decline in exports to the European Union.”

May 9 – Bloomberg: “China’s passenger-vehicle sales rose 13% in April on rising demand for new models in the world’s biggest vehicle market. Wholesale deliveries of cars, multipurpose and sport-utility vehicles climbed to 1.44 million units in April…”

May 8 – Bloomberg: “China refused to confirm that Okinawa belongs to Japan after two Chinese scholars suggested re-examining the ownership of the archipelago that includes the island, adding to tensions over a separate territorial dispute. Agreements between allied forces during World War II mean the ownership of the Ryukyu Islands may be in question, the researchers said… Asked if China considers Okinawa part of Japan, Foreign Ministry spokeswoman Hua Chunying said scholars have long studied the history of the Ryukyus and Okinawa. ‘It may be time to revisit the unresolved historical issue of the Ryukyu Islands,’ Zhang Haipeng and Li Guoqiang of the China Academy of Social Sciences wrote…”

May 7 – AFP: “China has sent one of its largest recorded fishing fleets to disputed islands in the South China Sea, state-run media said… amid tensions over Beijing's assertion of its claims in the region. A flotilla including 30 fishing vessels set sail for the Spratly Islands, an archipelago claimed by China and other countries including Vietnam and the Philippines… The fleet left China’s southern province of Hainan for a 40-day trip to the region and includes two large transport and supply ships… China will make ‘every effort to guarantee the fleet’s safety,’ the report quoted an official from the department of ocean and fisheries as saying.”

May 10 – Bloomberg (Stephanie Tong): “Hong Kong’s economy grew a less-than- estimated 0.2% in the first three months of this year, the slowest pace in three quarters… The increase from the previous three months compared with a revised 1.4% gain in the fourth quarter…”


Asia Bubble Watch:

May 6 – Bloomberg (Rachel Evans, Foster Wong and Kristine Aquino): “Cnooc Ltd.’s $4 billion bond sale marks the biggest defeat for the Chinese corporate dollar loan market as companies sell six times more notes in the U.S. currency this year to refinance debt… Chinese and Hong Kong issuers sold $18.8 billion of dollar- denominated bonds to refinance debt this year, more than six times similar issuance for the same period last year…”

Latin America Watch:

May 7 – Bloomberg (Julia Leite, Michael Patterson and Juan Pablo Spinetto): “Speculating on Eike Batista’s ability to revive the fortunes of OGX Petroleo & Gas Participacoes SA has become the most popular bet in Brazil’s equity market as price swings in the stock surge to a four-year high. A record 130 million shares of OGX changed hands each day on average in the past three months, the most among Sao Paulo- listed equities, versus 18 million a year ago when it was the third-most traded company…”

Europe Watch:

May 6 – Bloomberg James Hertling): “French Finance Minister Pierre Moscovici declared the era of austerity over after his German counterpart offered flexibility on deficit cutting amid renewed bickering between Europe’s two biggest economies. ‘We’re witnessing the end of the dogma of austerity’ as the only tool to fight the euro debt crisis, Moscovici said… ‘We’ve been pleading for a growth policy for a year. Austerity on its own impedes growth.’”

May 7 – Bloomberg (Mark Deen): “French industrial output fell in March as President Francois Hollande struggled to keep Europe’s second-largest economy from falling into recession for the third time in four years. Production dropped 0.9% after climbing a revised 0.8% in February… ‘Business surveys continue to point to a contraction in industrial activity,’ said Pierre-Olivier Beffy, chief economist at Exane BNP Paribas… ‘Investment is due to decline further given poor confidence and low corporate margins.’”

May 6 – Bloomberg (Jones Hayden): “European services output shrank for a 15th month in April as the 17-nation currency bloc struggles to emerge from a recession.”

Italy Watch:

May 6 – Bloomberg (Lorenzo Totaro): “Italy’s economy will shrink this year more than the European Commission estimates as weak domestic demand and investment extend the country’s longest recession in more than two decades… Gross domestic product will decline 1.4% in 2013 before rising 0.7% next year, Rome-based Istat said… Household consumption and corporate investments will both decline this year.”

May 7 – Bloomberg (Alessandra Migliaccio, Chiara Vasarri and Dalia Fahmy): “Yasemin Rosenmaier has been selling homes in northern Italy since 2005 and she’s finding that there’s never been a better time to work for a German broker. ‘I’d say 60% of our closings are with Germans, which is much higher than in previous years,’ Rosenmaier said… from her Engel & Voelkers office in Cernobbio on Lake Como. ‘Why? Fear of inflation, the uncertainty on the financial markets, fear of what happened in Cyprus,’ the latest European country to get an international bailout. Foreign investment in Italian holiday properties is rising as Germans, Britons and Russians take advantage of a market where locals are struggling to purchase even a first home.”

Germany Watch:

May 10 – Bloomberg (Simon Kennedy and Rainer Buergin): “German Finance Minister Wolfgang Schaeuble signaled support for an easing of Europe’s austerity drive as he prepared to face pressure from global counterparts to do more to spur growth. On the eve of a meeting of Group of Seven finance ministers and central bankers in the U.K., Schaeuble told a conference… there’s ‘enough room to maneuver’ for euro-area governments to respond to the currency bloc’s recession. Such comments reflect the recent shift in stance from Europe’s powerhouse economy, which had previously hailed austerity as the main route to prosperity for the debt-strapped region.”

May 6 – Bloomberg (Jeff Black and Jana Randow): “German Finance Minister Wolfgang Schaeuble said the money to pay for the resolution of troubled European Union banks won’t come from a single pool until decision-making powers in the bloc are more centralized. Germany instead seeks a ‘network’ of national resolution authorities and backstop funds to deal with crisis-hit banks in the euro area, Schaeuble said… The resolution facility ‘can’t just be a European fund,’ Schaeuble said. ‘Because the European fund has to be fed by someone. And if we mutualize liability without fully mutualizing the decision-making power, we create the wrong incentive again. Therefore we’ll have to get by with a network in the first stage, or focus on a network, as long as we haven’t created further institutional improvements.’”

May 7 – Bloomberg (Rainer Buergin): “German Finance Minister Wolfgang Schaeuble said he’s worried about Germany’s image in Europe, as he signaled a readiness to listen to others on efforts to overcome the region’s economic troubles. Schaeuble, addressing students in Berlin today alongside French Finance Minister Pierre Moscovici, said they both agree on the need to hasten banking union and that no one country has a monopoly on how to resolve Europe’s woes. It’s ‘good’ that Germans show compassion for countries in southern Europe that are shouldering record youth unemployment, Schaeuble said. ‘It’s not the case in Europe, never, that some know it all and the others don’t,’ Schaeuble said.”


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