Equities are right back to near record highs - yet something just doesn't feel right.
February 17 – Bloomberg: “Record new credit in China in January will help the economy maintain momentum while highlighting challenges for officials trying to limit the risk of financial turbulence from defaults and bad loans. Aggregate financing, the broadest measure of credit, was 2.58 trillion yuan ($425bn), the People’s Bank of China said… New local-currency lending was 1.32 trillion yuan, the highest level since 2010. Trust loans, under scrutiny because of default risks, were about half the level of a year earlier. The data add to better-than-forecast trade numbers, suggesting that China can limit the scale of any slowdown from last year’s 7.7% expansion in gross domestic product. At the same time, the figures contrast with a central bank call in mid-January for lenders to control surging loans and highlight diminishing economic returns from credit growth.”
A one-month $425 billion increase in system Credit (“social financing”) is something to mull over. For one, it was an all-time record for a month (in China as well as the solar system), surpassing last January’s record (January is traditionally a big lending month in China). Secondly, China’s January Credit growth was 35% above estimates. It placed year-on-year Credit growth at 17.5%, significantly above slowing GDP expansion. And it was said that January’s record Credit would have been even stronger had the major banks not pulled back from lending during the final week of the month.
Bill Gross has called China “the mystery meat of emerging-markets.” I would tend to view Chinese finance and their policy regime attempting to manage system Credit the proverbial mystery wrapped in an enigma. From Bloomberg: “The jump in loans contrasts with the central bank’s January warning that bank credit was increasing rapidly and also its statement in November that the economy may face long-term deleveraging. Each $1 of credit added the equivalent of 17 cents in GDP in the first quarter of 2013, down from 29 cents the previous year and 83 cents in 2007…”
Rampant Credit expansion is inevitably damaging to the underlying currency. Early in the boom, Credit growth generally supports strong capital investment, favorable economic dynamics, rising asset prices and financial inflows. Trouble mounts as the Credit Cycle ages. At some point, Credit excesses shift from predominantly financing productive investment to various non-productive endeavors. Late-cycle non-productive purposes would certainly include funding speculation, along with lending in support of troubled borrowers struggling to service mounting debt loads. Chinese Credit dynamics do these days bring to mind the great Hyman Minky’s “Ponzi Finance” stage of financial development.
Especially in the emerging markets, the non-productive “terminal phase” will more conspicuously expose Credit inflation’s myriad consequences. These would likely include traditional consumer price inflation, along with problematic Bubbles, inequitable wealth distribution, corruption, and attendant social stress. An increasingly maladjusted economic structure will require ever-increasing amounts of (non-productive) Credit, at great cost to financial and economic stability. Growth will slow even in the face of ongoing Credit excess. Traditionally – and we’ve witnessed this dynamic over the past year in the likes of Brazil, India, Turkey, Russia, Argentina, etc. – the deteriorating macro backdrop will see a problematic reversal of “hot money” flows. A weakening currency will tend to exacerbate inflationary pressures, while fostering ongoing destabilizing excesses within the domestic Credit system.
Let’s return to the Chinese enigma. With ongoing trade surpluses and an incredible $3.8 Trillion international reserves position, the Chinese currency would on the surface appear a juggernaut in comparison to its weak rivals. A strong consensus view holds that the Chinese currency is sound. As I see it, the unprecedented inflation of non-productive Chinese Credit would seem to ensure an eventual currency crisis.
Pegged currency regimes played prominently in ‘97/98 global crises (Thailand to SE Asia to Russia to hedge funds to Wall Street). Currency values tied closely to the dollar were fundamental to huge boom-time speculative “hot money” inflows and leverage that were instrumental in fueling the “Asian Tiger” “miracle” economies. Yet booms never last forever – so be ever suspicious of economic miracles. The reversal of EM “hot money” found the pegged currency regimes unsound and acutely fragile. And the rapid-fire disintegration of currency pegs unleashed contagious deleveraging, financial meltdown and economic collapse.
I’ve for some time viewed China’s currency regime as a virulent “peg on steroids”. Chinese officials have essentially tied the yuan value to the dollar while employing gradual yuan appreciation versus the U.S. currency. If currency pegs invite speculative inflows, then there’s a strong case that China’s newfangled currency controls have over recent years provided the strongest “hot money” magnetic pull in financial history. A powerful “money” magnet in a world awash in cheap “money” provided a most portentous elixir.
February 21 – Bloomberg (Fion Li): “The yuan had its biggest weekly slide since September 2011 in offshore trading after China manufacturing data added to signs of a slowdown in the world’s second-largest economy. The yuan dropped 0.27% today to 6.0847 per dollar…, extending this week’s loss to 0.81%... The offshore yuan is the worst performer in February among 12 Asian exchange rates tracked by Bloomberg. Global yuan trading volume surged to $120 billion a day on average in April 2013, from $34 billion in 2010… Daily average turnover in offshore yuan spot, forwards and options could reach $20 billion in 2014, based on a December estimate by Deutsche Bank AG, the world’s biggest currency trader.”
Early in the week, sanguine analysts were generally viewing China’s January Credit data in positive light. Many saw strong lending as confirmation that the People’s Bank of China (PBOC) had adopted a more accommodative posture. Huge Credit growth was certainly viewed as supportive of 2014 growth – for China as well as globally. And with the PBOC not forcefully responding to declining interbank lending rates, some were even tempted to celebrate the apparent end to Chinese “tightening” measures. Chinese equities enjoyed an almost 3% gain for the week as of Thursday morning, before selling saw stocks end the week little changed.
By Friday analysts were generally scratching their heads. Even as lending surged, January’s preliminary reading on Chinese manufacturing (48.3) surprised on the downside. And from MarketNews International: “The Chinese yuan became the focus of the market this week after it lost 300 pips in four trading days, giving up all of its gains against the U.S. dollar since early December. Traders said the drastic decline of the yuan was a result of the PBOC’s efforts to deter hot money inflows and on expectations of further reform moves by Beijing, such as widening the yuan trading band.”
Maybe Chinese officials haven’t backed away at all from tightening measures. Perhaps it’s just a change of tack; perhaps even an important one. Have the Chinese turned their focus to countering “hot money” speculative inflows? It would make sense. After all, multiyear efforts to tighten domestic Credit conditions (including through interest-rates) have to this point been negated by enormous speculative (“carry trade”) inflows keen to capitalize on widening rate differentials.
February 18 – Bloomberg (Fion Li): “Emerging-market assets are at risk as the tapering of the Federal Reserve’s stimulus program will probably trigger a reversal of $2 trillion in carry trades, according to strategists at Bank of America Merrill Lynch. Carry trades, where investors borrow in a country with low interest rates to fund purchases of higher-yielding assets elsewhere, helped developing nations raise foreign-exchange reserves by $2.7 trillion since the end of the third quarter of 2008, Hong Kong-based Ajay Singh Kapur and Ritesh Samadhiya at BofA wrote… The capital inflows spurred economic growth and inflated prices, particularly those of bonds and property, they said… The U.S. central bank has kept its benchmark interest rate in a range of near zero to 0.25% since 2008 and boosted the supply of dollars via its stimulus policy. That compares with borrowing costs of more than 13% in Argentina, 7.5% in Indonesia and 2.5% in Poland. ‘As the Fed continues to taper its heterodox policy, we believe these large carry trades are likely to diminish, or be unwound… We believe carry-trade driven emerging-market asset prices remain at risk, are a global deflationary threat, could drive defensive asset bids, and competitive devaluations.”
Only on the rare occasion have I responded to a research report with a “Wow, they nailed it!” I did just that Tuesday when I carefully studied Ajay Kapur, Ritesh Samadhiya and Umesha de Silva’s report “Pig in the Python – the EM Carry Trade Unwind.”
From their introductory synopsis: “The US Fed’s modus operandi worked through asset prices, and animal spirits. This involved getting stock prices up, getting corporate animal spirits up by issuing cheap debt, buying back stock with cash or cheap debt to raise EPS, lowering government borrowing and mortgage costs, and raising consumer net worth/income ratios. Also, asset bubbles were generated in emerging markets, raising their growth, labor costs and currencies. These policies made plutonomists (rich folks) richer and exacerbated income and wealth inequality. If QE is coming to an end, ideas that worked since end-2008 should be questioned.
The QE channel worked through Emerging Markets too. By lowering the US government bond yields to a bare minimum, and zero–ish at the short end, a search for yield ensued globally. Emerging market banks and corporates have gone on an international leverage binge, yet another carry trade, the third in 20 years. The first one was driven by European banks, financing East Asian capex – that ended in 1997. The second one was global banks and equity-FDI supporting mainly capex in the BRICs. That ended in 2008. This time, it is increasingly non-equity flows: commercial banks and, more importantly, the bond market – undercounted in the [balance of payments] and external debt statistics that conventional analysis looks at. Since 3Q2008, the US Federal Reserve QE has unleashed a massive $2 TN debt-driven carry trade into emerging markets, disproportionately increasing their forex reserves (by $2.7 TN from end-3Q2008), their monetary bases (by $3.2 TN), their credit and monetary aggregates (M2 up by $14.9 TN), consequently boosting economic growth and asset prices (mainly property and bonds). As the Fed continues to taper its heterodox policy, we believe these large carry trades are likely to diminish, or be unwound.”
And under the apt headline, “Confidence is a Fragile Membrane: Not only does the Fed’s balance sheet matter as a source of funds, but so does the attractiveness of the recipient of the carry trade – and trust in its collateral. China is a case in point. We believe carry-trade driven EM asset prices remain at risk, are a global deflationary threat, could drive defensive asset bids, and competitive devaluations.”
While on the subject of “the Fed’s balance sheet matters as a source of funds,” I’ll briefly touch upon the minutes from the Fed’s January 28/29 meeting released Wednesday. First of all, I found the general Wall Street response curious. From Goldman Sachs: “Little News From January FOMC Minutes” followed later by “…Minutes are Not Hawkish.” A rival firm saw things similarly: “The minutes Wednesday reinforced many of the same themes that Yellen touched on during her recent testimony… in reality the narrative around monetary policy shouldn’t change much.” And, my favorite, “…A few participants’ raised the possibility that it might be appropriate to raise rates ‘relatively soon.’ We discount that sentence pretty heavily; this view likely came from the Plosser/Lacker/Fisher/George group, which will not drive policy decisions.”
Some in the media saw things more as I did: From the Wall Street Journal’s Jon Hilsenrath and Victoria McGrane: “Fed Puts Rate Increase on the Radar: Conversations at the Federal Reserve’s most recent policy meeting turned to something that hasn’t been as serious topic for years: the possibility of interest-rate increases in the near future… The fact that the subject came up at all in January shows how the central bank’s policy debate is slowly and subtly evolving…” And from MarketWatch’s Greg Robb: “Yellen Inherits Fractious Fed, Minutes Show: New Federal Reserve Chairwoman Janet Yellen inherits a central bank at war with itself over key issues of monetary policy and possessing no clear consensus on how to guide markets about its next steps…”
From my perspective, the minutes confirm a not all that subtle evolution unfolding at our central bank. Not surprisingly, Wall Street remains complacent. I actually believe the Plosser/Lacker/Fisher/George/Mester group - perhaps even joined by Stein/Fischer/Brainard/others - will indeed drive policy back in the direction of more traditional monetary doctrine.
For the Week:
The S&P500 gained 0.4% (down 0.7% y-t-d), and the Dow rose 0.5% (down 2.9%). The Utilities advanced 1.4% (up 6.5%). The Banks fell 1.0% (down 2.0%), while the Broker/Dealers increased 0.7% (down 1.3%). The Morgan Stanley Cyclicals were up 0.4% (down 1.2%), and the Transports gained 0.4% (down 1.2%). The broader market was strong. The S&P 400 Midcaps gained 1.1% (up 1.1%), and the small cap Russell 2000 jumped 1.5% (up 0.1%). The Nasdaq100 was little changed (up 2.0%), and the Morgan Stanley High Tech index added 0.4% (up 2.2%). The Semiconductors advanced 0.9% (up 4.9%). The white-hot Biotechs surged another 3.8% (up 18.4%). With bullion adding $6, the HUI gold index was up 3.7% (up 24.2%).
One-month Treasury bill rates ended the week at 2 bps and three-month bills closed at 4 bps. Two-year government yields were unchanged at 0.32% (down 7bps y-t-d). Five-year T-note yields added a basis point to 1.53% (down 21bps). Ten-year yields slipped one basis point to 2.73% (down 30bps). Long bond yields were about unchanged at 3.69% (down 28bps). Benchmark Fannie MBS yields were little changed at 3.42% (down 18bps). The spread between benchmark MBS and 10-year Treasury yields increased one to 69 bps. The implied yield on December 2014 eurodollar futures was unchanged at 0.32%. The two-year dollar swap spread was little changed at 14 bps, while the 10-year swap spread declined one to 10 bps. Corporate bond spreads were mixed. An index of investment grade bond risk rose one to 65 bps. An index of junk bond risk gained 6 bps to 323 bps. An index of emerging market (EM) debt risk declined 4 bps to 333 bps.
US corporate debt issuance remained on the slower side. Investment-grade issuers included Novartis $4.0bn, Comcast $2.2bn, Illinois Tool Works $2.0bn, Medtronic $2.0bn, Kinder Morgan Energy Partners $1.5bn, Google $1.0bn, American Energy $750 million, Whirlpool $800 million, Pacific Gas & Electric $900 million, Eli Lilly $600 million, Ryder System $350 million, and Principal Life $250 million.
Junk bond funds saw inflows slow to $804 million (from Lipper). Junk issuers included Advanced Micro Devices $600 million, D.R. Horton $500 million, Covanta $400 million and Modular Space Corp $375 million.
I saw no convertible debt issued.
International dollar debt issuers included KFW $4.0bn, Ukraine $3.0bn, Canada $3.0bn, European Bank of Reconstruction & Development $1.75bn, Russian Agriculture Bank $1.3bn, Sberbank of Russia $1.0bn, Swedbank $1.0bn, ANZ National $1.0bn, Odebrecht Offshore Drilling $580 million, Neder Waterschapsbank $500 million, Asian Development Bank $500 million and Export Development Canada $350 million.
Ten-year Portuguese yields slipped a basis point to 4.93% (down 120bps y-t-d). Italian 10-yr yields were down 9 bps to 3.60% (down 53bps). Spain's 10-year yields declined 4 bps to 3.55% (down 60bps). German bund yields slipped 2 bps to 1.66% (down 27bps). French yields declined 2 bps to 2.26% (down 30bps). The French to German 10-year bond spread was little changed at 60 bps. Greek 10-year note yields gained 4 bps to 7.62% (down 80bps). U.K. 10-year gilt yields slipped one basis point to 2.78% (down 24bps).
Japan's Nikkei equities index rallied 3.9% (down 8.8% y-t-d). Japanese 10-year "JGB" yields added a basis point to 0.60% (down 12bps). The German DAX equities index was little changed (up 1.1% y-t-d). Spain's IBEX 35 equities index slipped 0.6% (up 1.6%). Italy's FTSE MIB index dipped 0.2% (up 7.5%). Emerging equities markets were mixed. Brazil's Bovespa index fell 1.7% (down 8.0%), and Mexico's Bolsa sank 2.4% (down 7.0%). South Korea's Kospi index was up 0.9% (down 2.7%). India’s Sensex equities index rallied 1.6% (down 2.2%). China’s Shanghai Exchange ended the week little changed (down 0.1%). Turkey's Borsa Istanbul National 100 index fell 1.5% (down 5.8%)
Freddie Mac 30-year fixed mortgage rates rose 5 bps to 4.33% (up 77bps y-o-y). Fifteen-year fixed rates were up two bps to 3.35% (up 56bps). One-year ARM rates added 2 bps to 2.57% (down 6 bps). Bankrate's survey of jumbo mortgage borrowing costs had 30-yr fixed rates down 3 bps to 4.35% (up 24bps).
Federal Reserve Credit jumped $35.5bn last week to a record $4.109 TN. During the past year, Fed Credit expanded $1.045 TN, or 34.1%. Fed Credit inflated $1.298 TN, or 46%, over the past 67 weeks.
Global central bank "international reserve assets" (excluding gold) - as tallied by Bloomberg – were up $751bn y-o-y, or 6.9%, to $11.705 TN. Over two years, reserves were $1.452 TN higher for 14% growth.
M2 (narrow) "money" supply surged $41.3bn to a record $11.099 TN. "Narrow money" expanded $651bn, or 6.2%, over the past year. For the week, Currency slipped $0.8bn. Total Checkable Deposits sank $78.9bn, while Savings Deposits jumped $118.6bn. Small Time Deposits were little changed. Retail Money Funds increased $2.8bn.
Money market fund assets dropped $49.2bn to $2.664 TN. Money Fund assets were up $7bn, or 0.3%, from a year ago.
Total Commercial Paper jumped $37.1bn to $1.028 TN. CP was down $18bn year-to-date and declined $35bn over the past year, or 3.3%.
The U.S. dollar index was little changed at 80.237 (up 0.3% y-t-d). For the week on the upside, the Brazilian real increased 1.8%, the Swiss franc 0.5%, the euro 0.4%, and the Danish krone 0.3%. For the week on the downside, the Swedish krona declined 1.9%, the Canadian dollar 1.2%, the New Zealand dollar 1.0%, the South Korean won 0.8%, the British pound 0.8%, the Japanese yen 0.7%, the Singapore dollar 0.7%, the Australian dollar 0.6%, the South African rand 0.6%, the Mexican peso 0.2% and the Taiwanese dollar 0.1%.
February 17 – Bloomberg: “Iron ore stockpiles in China, the world’s biggest buyer, climbed to a record as traders increased imports to use the steel-making raw material as collateral for credit and domestic demand remained weak. Inventories at ports were 100.25 million metric tons last week, exceeding 100 million tons for the first time since July 2012… Reserves increased 16% in 2014… ‘Imports kept piling up at ports as more cargoes are being hauled in for trade-financing deals,’ Gao Bo, chief iron ore analyst at Mysteel.com, a researcher in Shanghai, said…”
February 21 – Bloomberg: “China’s record imports of iron ore and copper, driven by traders who use them as loan collateral, risk repeating the vicious cycle of repayment difficulties and falling prices already seen in the steel-trading market. Xiao Jiashou, known as the ‘steel-trading king’ in Shanghai, had his assets frozen as China Minsheng Banking Corp. sues for money owed. Lenders seeking repayment are finding irregularities, including the same pile of materials used as collateral for multiple borrowings, China International Capital Corp. said. Money-market costs have surged, with the benchmark three-month Shanghai Interbank Borrowing rate jumping to 5.6% yesterday from 3.89% in June 2013.”
The CRB index jumped 2.8% this week (up 7.6% y-t-d). The Goldman Sachs Commodities Index rose 1.7% (up 2.9%). Spot Gold added 0.4% to $1,324 (up 9.8%). March Silver jumped 1.7% to $21.82 (up 12.6%). April Crude gained $2.07 to $102.0 (up 4%). March Gasoline increased 1.0% (up 2%), and March Natural Gas surged 17.7% (up 45%). May Copper was unchanged (down 4%). March Wheat rose 1.9% (up 1%). March Corn jumped 1.7% (up 7%).
U.S. Fixed Income Bubble Watch:
February 19 – Bloomberg (Michelle Kaske): “Puerto Rico is planning to offer about $2.86 billion of general-obligation bonds next month, providing the island with sufficient liquidity through June 2015, Government Development Bank officials said… Puerto Rico’s first debt sale since August will gauge investor demand for its debt after the three largest ratings firms cut the island’s credit grade to junk this month. Hedge funds and other alternative investors have been buying the Caribbean getaway’s securities since at least September as yields soared to speculative-grade levels.”
February 20 – Bloomberg (Christine Idzelis): “The market for speculative-grade loans in the U.S. is delivering its first loss since August as borrowers… refinance the debt at lower interest rates, reducing income for investors. Leveraged loans have lost 0.02% this month after gaining 0.62 percent in January… For investors who deposited a record $63 billion last year into funds that buy debt with rates that rise with benchmarks, the losses highlight the downside of loans that can be refinanced with limited restrictions.”
February 21 – Bloomberg (Clea Benson): “Fannie Mae will pay the Treasury Department $7.2 billion after reporting an eighth consecutive quarterly profit, pushing its total dividend payments above the amount of government aid it received after the financial crisis. The mortgage-finance company, which is operating under federal conservatorship, had net income of $6.5 billion for the three months ended Dec. 31… That brought earnings for 2013 to $84 billion, the highest ever for the 80-year-old firm.”
Federal Reserve Watch:
February 21 – Bloomberg (Joshua Zumbrun): “The day after Lehman Brothers Holdings Inc. declared the largest bankruptcy in U.S. history in 2008, Federal Reserve officials remained unsure whether the financial crisis would do lasting damage to the U.S. economy. ‘I don’t think we’ve seen a significant change in the basic outlook,’ Dave Stockton, the Fed’s top forecaster, said on Sept. 16, 2008 according to transcripts… ‘We’re still expecting a very gradual pickup in GDP growth over the next year.’ The records show Fed officials struggling to understand the magnitude of the financial crisis that was underway, and the potential fallout for the economy.”
U.S. Bubble Watch:
February 18 – Bloomberg (Kasia Klimasinska): “A measure of capital flowing in and out of the U.S. showed the biggest net selling since February 2009 as the Federal Reserve prepared to scale back its bond buying… Investors sold a net $15.4 billion of long-term agency debt in December, the biggest monthly drop in those securities since September 2010 amid selling in Caribbean banking centers often used by hedge funds… They also sold U.S. stocks and corporate bonds… ‘You saw corporates and agencies and equities being sold off, and I think that was more a function of the market reaction to the December tapering announcement,’ said Gennadiy Goldberg, a U.S. strategist at TD Securities…”
February 18 – Bloomberg (Caroline Salas Gage): “Consumer debt in the U.S. rose last quarter by the most in more than six years as Americans borrowed to buy homes and cars and to pay for education, according to a survey by the Federal Reserve Bank of New York. Household debt increased 2.1%, or $241 billion, to $11.52 trillion, the biggest gain since the third quarter of 2007… ‘After a long period of deleveraging, households are borrowing again,’ Wilbert van der Klaauw, senior vice president and economist at the New York Fed, said…”
February 18 – Reuters: “A plunge in U.S. homebuilder confidence… reflects a range of problems facing the construction industry seven years after the housing crash, challenges that go deeper than the severe winter weather blamed for much of the gloom. The National Association of Home Builders said on Tuesday that builder confidence dropped 10 points between January and February, from 56 to 46, the largest drop since the survey began in 1985. Readings below 50 mean more builders view market conditions as poor than favorable… The industry faces a chronic shortage of laborers, difficulty in obtaining credit and a skittishness among developers to invest in new sites.”
February 21 – Bloomberg (Alan Bjerga): “The five-year boom in U.S. farmland values probably will end this year amid a decline in profits and crop prices that may disrupt the rural economy. Higher interest rates and falling income stalled gains in prices last year, Jason Henderson, an agricultural economist at Purdue University… said… Land values had soared 37% since 2009. ‘I’ve seen more stories about failed sales’ when farms don’t sell for the asking price, suggesting a sluggish market, Henderson said. ‘A plateau in farmland values is what we’re seeing going forward.’ A projected drop in crop prices may cut annual farm profits 27% to $95.8 billion from last year’s record…”
Global Bubble Watch:
February 21 – Bloomberg (Matthew Brockett): “The Group of 20 will take ‘concrete actions’ to bolster growth while backing the normalization of monetary policy in advanced economies, according to a draft communique seen by Bloomberg… ‘We commit to developing new measures to significantly raise global growth, while maintaining fiscal sustainability,’ the draft for this weekend’s meeting of G-20 finance ministers and central bankers in Sydney says. ‘We recognize accommodative monetary policy settings in advanced economies will need to normalize in due course, in line with stronger growth.’”
February 21 – Bloomberg (Simon Kennedy, Shamim Adam and Jeff Kearns): “Janet Yellen is discovering that when it comes to providing monetary stimulus, the Federal Reserve is damned by emerging markets when it does and damned when it doesn’t. Sixteen months after she used a Tokyo gathering of global policy makers to defend her institution against criticism it was purchasing too many assets, Fed Chair Yellen attends this week’s Group of 20 meeting in Sydney being lobbied to pay greater attention to foreign fallout as the U.S. slows its bond-buying.”
February 19 – Financial Times (Christopher Thompson): “Buoyed hopes of a eurozone economic rebound helped precipitate a splurge in bond issuance from companies in peripheral countries last year. Overall corporate bond issuance from peripheral eurozone countries rose 22% year on year in 2013. Spanish companies’ issuance saw the biggest jump, increasing 45%, although Italy saw a 9% decline according to Fitch…”
February 18 – Bloomberg (Bei Hu): “Investors may almost triple the amount of capital they put into hedge funds this year, boosting industry assets to a record, an annual survey by Deutsche Bank AG showed. Hedge funds may attract $171 billion of net inflows and generate $191 billion in performance-related gains, according to 413 investors globally with $1.8 trillion of industry assets polled by the German bank… The combined effect will help boost assets by 14% to $3 trillion by year-end… Last year, the industry drew $63.7 billion of net deposits, according to Hedge Fund Research Inc. The increase in allocations predicted would be the largest into hedge funds since 2007…”
February 19 – Bloomberg (Chris Larson): “Investors are losing patience with hedge-fund managers who rely on computers to follow global market trends after three years of underperformance. Quantitative hedge funds… saw investors pull $4.9 billion in the last three months of 2013, the most in five years, according to… Hedge Fund Research Inc. That followed outflows of $1.1 billion in the second quarter and $668 million in the third… It was the largest quarterly outflows for the quant funds since the first three months of 2009, when investors desperate to get their hands on cash amid the financial crisis pulled $5.7 billion… In all, the funds had $1.7 billion of outflows last year compared with $9.5 billion of inflows in 2012 and a record $25 billion in 2011… HFR estimates quant funds now manage about $224 billion worldwide.”
February 20 – Bloomberg (Matthew Campbell): “Dan Stiller isn’t using Facebook much anymore. Mark Zuckerberg is paying $42 to get him back. That $21 per eyeball is what the Facebook… will shell out for each user of WhatsApp Inc., the instant-messaging platform he’s acquiring for $19 billion. The goal: to ensure Facebook, and not another mobile application, stays at the center of the digital lives of people like Stiller… ‘Everybody’s gravitating to WhatsApp,’ said Stiller, who uses the service to co-ordinate evening plans with friends and keep in touch with relatives in England and Canada. ‘I use it pretty much all day,’ he said. ‘I don’t really use Facebook that much and it’s pretty rare for me to even send a normal text message.’”
February 18 – Bloomberg (Chris Strohm): “U.S. technology companies making cars that communicate with each other, drones and Internet- enabled devices are top hacker targets, said David DeWalt, chairman and chief executive officer of FireEye Inc. Hackers primarily from Asia are using computer botnets and malware to steal trade secrets from U.S. companies making automobiles, unmanned aerial systems and satellite components, DeWalt said… ‘The No. 1 sector in industry that’s being attacked right now is high-tech and information technology,” DeWalt said ‘Anything that’s innovative tends to be very under duress.’”
EM Bubble Watch:
February 21 – Bloomberg (Olga Tanas): “Ukraine’s political crisis has raised ‘many questions’ about its ability to repay debt, pushing Russia to suspend a bailout and threatening the central bank’s ability to defend the currency, according to Russian Finance Minister Anton Siluanov. The situation in Ukraine must stabilize before Russia will provide further aid from the $15 billion aid package agreed on last year, Siluanov said… Russia had planned to buy $2 billion of its neighbor’s bonds this week, while Standard & Poor’s cut Ukraine to CCC, eight grades below an investment rating.”
February 20 – Bloomberg (Andras Gergely and Lyubov Pronina): “Markets from Hungary to Poland and Russia are suffering contagion from the violence rocking Ukraine’s capital, sending bond yields higher and currencies lower as the turbulence afflicting developing nations deepens. Hungary’s forint weakened for a third day today, while Russia’s ruble rebounded from an all-time low… Ukraine’s debt due in June gained, sending the rate to 33%... after it jumped 19 percentage points to a record 42% yesterday… Russia canceled a bond auction for the third time in less than a month as the ruble slid and yields climbed. ‘We are already seeing spillover from Ukraine to Russia and Poland in currencies and bonds,’ Richard Segal, a strategist at Jefferies… ‘If Ukraine truly collapses, Russia could feel forced to pick up the pieces, which would be expensive.’”
February 21 – Bloomberg (Ye Xie and Ksenia Galouchko): “For Russian President Vladimir Putin, the deadly clashes in neighboring Ukraine couldn’t have come at a worse time. The violence that threatens to topple a government propped up by his financial aid is taking investors’ attention away from the Olympic games in Sochi that he sought to use as a showcase for how far Russia has come since its 1998 default. The ruble sank 1.7% this week, the worst rout in emerging markets, while demand for local bonds dried up, pushing benchmark yields to a record high and prompting the government to cancel its third debt auction in four weeks.”
February 17 – Bloomberg (Matthew Malinowski): “Economists covering Brazil cut their growth forecasts for both 2014 and 2015 to the lowest levels ever, as above-target inflation undermines demand in the world’s second-largest emerging market. Brazil’s gross domestic product will expand 1.79% this year and 2.10% next year, down from the previous week’s forecast of 1.90% and 2.20%... Latin America’s biggest economy is showing signs of slower growth in the face of persistent inflation. Economic activity shrank in December as both retail sales and industrial production contracted.”
February 20 – Bloomberg (Carla Simoes and Matthew Malinowski): “Brazil will cut 44 billion reais ($18.5bn) from this year’s budget, as policy makers seek to rein in inflation and shore up fiscal management that has sparked warnings of a rating downgrade… The cuts will allow Brazil to meet a primary surplus target of 1.9% of gross domestic product, the Finance Ministry said… The budget is based on estimates the economy will grow 2.5% this year and inflation will slow to 5.3%. President Dilma Rousseff’s efforts to spark economic growth by increasing public spending led to a wider budget deficit and fueled inflation last year…”
China Bubble Watch:
February 19 – Bloomberg (Cordell Eddings and Daniel Kruger): “China, the largest foreign U.S. creditor, reduced holdings of U.S. Treasury debt in December by the most in two years as the Federal Reserve announced plans to slow asset purchases. The nation pared its position in U.S. government bonds by $47.8 billion, or 3.6%, to $1.27 trillion… At the same time, international investors increased holdings by 1.4%, or by $78 billion, in December, pushing foreign holdings to a record $5.79 trillion.”
February 19 – Bloomberg: “The number of trust products tied to China’s flagging coal miners maturing this year will almost quadruple, as rising borrowing costs for the industry make it harder to avoid defaults. The number of such redemptions will jump to 19 this year from five in 2013, according to Cnbenefit, a consulting firm based in… Chengdu. The yield premium on the June 2014 securities of China Shenhua Energy Co., the country’s largest coal producer, over similar-maturity government notes surged to a record 231 bps on Feb. 8… Repayment difficulties among miners including Shanxi Liansheng Energy Co. and the failed Shanxi Zhenfu Energy Group have already emerged this year… Thirteen of China’s 50 publicly traded coal companies have a debt-to-equity ratio exceeding 100%. ‘Trust products have a very high probability of default this year,’ said Shi Lei… head of fixed-income research at Ping An Securities… ‘Coal mines’ trust products are the weakest link.’”
February 18 – Bloomberg: “Chinese investors in a troubled high-yield trust product who were bailed out last month gathered at Industrial & Commercial Bank of China Ltd.’s Shanghai branch to demand more interest payments. About 20 investors from Shanghai, Zhejiang, Beijing and Guangdong plan to ask ICBC for at least 256,600 yuan ($42,300) in interest owed to each of them, according to… Chang Feng, a spokesman for the group. China’s largest bank, which distributed the $495 million product to its wealthy clients, and the trust company that issued it, are responsible for the payments, Chang said. The discontent with the bailout -- which averted what would have been the biggest default in a decade in China’s $1.8 trillion market for trust products -- underscores the risks associated with their implicit guarantees and the government’s backing of such investments… ‘The regulators are faced with a very difficult and challenging situation because the final solution will set a precedent for future cases,’ Chen Xingyu, a Shanghai-based analyst at Phillip Securities Group, said… ‘Allowing the issue to drag on indefinitely is probably not an option as the case is having a huge impact.’”
February 17 – Bloomberg: “China Development Bank Corp., the nation’s largest policy lender, is proposing to become the sole financier to local governments as mounting debt threatens efforts to promote urbanization. The evaluation of loans, extension of credit and debt servicing to the nation’s towns and cities should be centralized under CDB or another bank chosen through bidding, Hu Huaibang, chairman of the policy lender, wrote… Tackling the problem of local-government debt is necessary to help promote urbanization, he wrote… Concern about local liabilities that have swelled to 17.9 trillion yuan ($2.95 trillion) has added to record borrowing costs as investors speculate defaults may spread.”
February 19 – Bloomberg (Tanya Angerer): “China Properties Group Ltd. has abandoned plans to sell yuan-denominated bonds in favor of dollar notes as the country’s developers return to U.S. currency debt markets. Hong Kong-based China Properties is marketing three-year notes to yield about 12.75%... New World Development Co., which operates hotels and restaurants in China, is marketing seven-year dollar debentures at a spread of 320 to 325 bps.”
February 19 – Bloomberg (Richard Frost and Natasha Khan): “Surging numbers of private cars bought by Hong Kong’s elite are jamming the city’s streets and hampering efforts to cut pollution levels… The… number of registered private vehicles reached about 516,000 last year, a 35% jump over the past decade… The… annual average concentration of nitrogen dioxide in the Central district at street level was a record 126 micrograms per cubic meter in 2013… Auto sales climbed as rising home prices minted millionaires. Mercedes-Benz’s E-Class, which starts at HK$497,500 ($64,000), was the best-selling car model in 2012, said Namrita Chow, an IHS Automotive analyst.”
February 21 – Reuters: “Bank of Japan Governor Haruhiko Kuroda said on Friday that a weak yen and high energy prices are contributing a lot to gains in consumer prices. Kuroda, speaking in the lower house financial affairs committee, also said that gains in consumer prices are spreading to a broader range of goods, indicating that domestic demand is expanding.
February 17 – Bloomberg (Keiko Ujikane): “Japan’s economy grew at less than half the forecast pace in the fourth quarter, underscoring risks to the nation’s recovery as a sales-tax increase looms in April. Gross domestic product expanded an annualized 1% from the previous quarter…, less than the median projection of 2.8% in a Bloomberg News survey… While capital spending rose by the most in two years and consumption picked up, trade deficits from surging imports and limited gains in exports dragged on the expansion.”
February 18 – Bloomberg (Toru Fujioka and Masahiro Hidaka): “The Bank of Japan boosted lending programs while sticking with a plan for unprecedented asset purchases, as the central bank tries to support a recovery and stamp out 15 years of deflation. The BOJ doubled a funding tool to 7 trillion yen ($68bn) and said individual banks could borrow twice as much low-interest money as previously under a second facility. It left unchanged a pledge to expand the monetary base by 60 trillion to 70 trillion yen per year… At the same time, Japanese companies are already sitting on record stockpiles of cash, signaling limits on the likely benefits from expanding the lending programs. ‘The doubling of the lending facility is seen as a dovish signal that the BOJ is prepared to ease further -- that it’s committed to keeping liquidity extremely loose,’ said Izumi Devalier, a Japan economist at HSBC… in Hong Kong.”
February 20 – Bloomberg (Paul Panckhurst): “Japan’s trade deficit widened to a record in January as surging import costs weigh on Prime Minister Shinzo Abe’s campaign to drive a sustained recovery. The 2.79 trillion yen ($27.3bn) shortfall… exceeded the 2.49 trillion yen median estimate in a Bloomberg News survey… Imports rose 25% from a year earlier and outbound shipments gained 9.5%... The trade deficit contributed to Japan’s economy growing a less-than- forecast 1 percent in the fourth quarter, underscoring the risk that Abenomics may falter after a sales-tax increase in April.”
February 21 – Bloomberg (Andy Sharp): “Japan’s record trade deficit adds to sinking consumer confidence and an April sales-tax increase, threatening to undermine Prime Minister Shinzo Abe’s bid to engineer a sustained recovery. The January shortfall jumped 71% to 2.79 trillion yen ($27.3bn)… adding to an unprecedented deficit of 11.5 trillion yen in 2013. Imports of crude oil surged 28% last month as nuclear power plants remain shuttered for safety checks. While the yen’s 18% decline against the dollar last year has led Toyota… and Mitsubishi … to forecast record profits, inflation driven by higher import costs is squeezing households. Abe risks choking off consumption by raising the sales tax this year and next as he tries to fix the nation’s finances. ‘Risks are mounting for Abenomics,’ said Takahiro Sekido, a strategist in Tokyo at the Bank of Tokyo-Mitsubishi UFJ Ltd., who formerly worked at the Bank of Japan. ‘The next six months are very important for Abe because he will have to make a decision this autumn on the second sales-tax hike.””
February 21 – Bloomberg (Kartik Goyal): “India should prepare a plan to respond to volatility in global currency markets that may come as the U.S. Federal Reserve reduces monetary stimulus, the International Monetary Fund staff said in a report. While India’s finances have improved since last year, a coordinated plan is needed in case capital account pressures re- emerge, the IMF said.”
February 17 – Bloomberg (Anto Antony): “India will inject 112 billion rupees ($1.8bn) of capital into state-run banks in the next fiscal year to bolster risk buffers after bad loans climbed to a six-year high. ‘Banks are under strain owing to rising nonperforming assets,’ Finance Minister Palaniappan Chidambaram said… ‘Bankers have assured me that as the economy turns they will be able to contain the nonperforming assets and recover more loans.’ The capital infusion will help lenders boost credit as more borrowers default in an economy forecast by the government to grow 4.9% in the year to March 31, compared with the previous decade’s 8.3% annual average growth rate. Banks’ sour loans climbed to 4.2% of total credit as of Sept. 30…”
Latin America Watch:
February 21 – Bloomberg (Nacha Cattan): “Mexico’s economy grew less than forecast by analysts in the fourth quarter as industrial output contracted. Gross domestic product expansion slowed to 0.7% from the year earlier, compared with a revised 1.4% in the third quarter. The economy grew 1.1% for the full year… Industrial output shrank 0.4%. Mexico cut its growth estimate last year four times to its lowest since the 2009 recession after exports to the U.S. dropped and the government reduced public spending.”
February 17 – Bloomberg (Dalia Fahmy): “German home prices rose by the most in at least 10 years in 2013 as low interest rates made it cheaper to finance purchases and prompted investors to switch from bond markets to real estate… Prices for houses, apartments and residential buildings climbed 4% in 2013 from a year earlier… That’s the biggest gain since at least 2003, when VDP began compiling data… Germany’s housing rally is being driven by low borrowing costs and a shortage in big cities such as Berlin and Frankfurt, where construction lags behind demand.”
February 20 – Reuters (Valentina Za and Silvia Aloisi): “A drive by Italian banks to come clean on bad loans during a European bank health check may force them to raise as much as 20 billion euros in capital, three times more than that penciled in so far, to shore up their balance sheets. The bad debts are a problem that Italian banks had swept under the carpet because booking soured loans at market value would open a big hole in their accounts. But the industry health check is forcing them to clean their books to try to get an early claim on investor cash they will need to rebuild their capital.”
February 19 – Bloomberg (Esteban Duarte): “Borrowing costs have tumbled, the economy is growing again and unemployment is falling for the first time in six years. Yet the Spanish government is still struggling to meet its budget deficit target. Prime Minister… Rajoy will probably announce next month the 2013 budget shortfall was 6.8% of gross domestic product, according to the median estimate in a Bloomberg News survey… In May, the European Commission set a deficit limit of 6.5% for last year. Rajoy’s battle to meet his budget commitments highlights the underlying risks for investors… Even as the economy recovers, welfare costs are increasing, some regions are defying the government’s budget restrictions and complaints about sharing tax revenue are fueling Catalonia’s independence push.”
- Bear Case
Curriencies, Carry Trades, Fat Pigs and Pythons
February 21, 2014 posted by Doug Noland
Equities are right back to near record highs - yet something just doesn't feel right.
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