The last market move to reprice risk assets has been effectively stalemated by Central Banks. It does look as if they opted for the best choice available to them (in their own perverse logic). To be sure, back in February things were not looking pretty for extend-and-pretenders. So they met (at the G20 meeting in February, or elsewhere), and decided to intervene. Listed companies, with anxious executives, worried about the value of their options, and most banks, were glad to cooperate. The result was a new iteration in the recent series of resounding victories in financial markets -led by CB’s and establishment forces. Repricing risk was, once again, adjourned “sine die”. Long live POMO desks, and associates!
As I see it, politburos at CBs became apprehensive about the late, marked deterioration in global macroeconomic data. Unsurprisingly, they scented the chance that the market rout might become the last nail in the recession coffin. They are for certain, well aware of the fact that this last economic cycle, that began in the aftermath of the GFC, is already long in the tooth. And yes, they jumped the gun. I must say I expected better emotional control. Actually, I don’t think they spent a minute to brood over the option of changing course in the aftermath of a staggering credit and money base increase that had produced no substantial, meaningful result in the real economy. They confirmed that they get done fast with that kind of reasoning. No sweating over the real efficacy of their policies. No roadmap. Just survival techniques of the highest level. That amounts to no less than preserving the legacy bubbles of the Bernanke era.
I sincerely thought (in hindsight, that was obviously wishful thinking), that they would try to glide down to economic realism, and hold their firepower, until the deleveraging and repricing process was well advanced (see “one last print to come, maybe a lot more”). I assumed they were aware of the need to accept a repricing of risk assets, as an inevitable consequence of ending easy money, and would wait some more before resorting to print and add stimulus again. I was plain wrong. They hastily went for more of the same -the very minute they perceived serious risks for the “statu quo”. In retrospect, it should have come as no surprise that they adopted an immediate comeback strategy -with a forceful implementation in three areas:
1. Manipulating investor and consumer sentiment. Massaging data from the real economy -with some direct manipulation of macro variables. They set to improve the extent and intensity of their macro “liestatistics”. Today “liestatistics” are expanding geographically from their initial landmark in Beijing, China to … well, to almost everywhere. Argentina has even explicitly allowed for outright manipulation of their “stats”. It is an understandable starting point for them. Managing animal spirits is critical at this stage if a recession is to be postponed once again. And “anything it takes” is a Fed speak synonym to “the end justifies the means”. No remorse.
2. Introducing some real stimulus for both the real and the financial economy. Beijing for one expanded Total Social Financing by more than one trillion USD in just a quarter. That comes on top of a time-worn credit binge. A Huge stimulus that would turn the data around, even if it was to be a short-term shot. Who cares about one additional trillion USD, or more, of Chinese unpayable debt! It really doesn’t make any difference at this point.
Japan also helped, introducing NIRP, keeping up the steady buying of their equity market (buying ETFs), and buying out the ever shrinking amount of Jap sovereigns left. All in the midst of relentless, massive QE (chart acting man).
Draghi kept QE at full throttle (see chart), upgraded NIRP, and additionally openly played with the concept of Helicopter money (talking helicopters should be banned from a central banker’s dictionary), annoying Germany, and giving us (Austrian economists) the creeps.
The US cooperated, keeping True money supply (TMS) growth in the eight per cent area (in an environment of no more than 3% nominal GDP growth at best), and backpedaling furiously on the slight decrease in the monetary base generated by the reverse repo program -in the days that followed the 25 bps hike.
In one sentence: ubiquitous monetary napalm on a planetary scale.
3.- Engineering (meaning implementing) a vertical bounce in the most oversold markets, such as energy, high yield, equities, and some base metals. They played with their traditional “stealth manipulation” advantage. They know what the rest of the market players are doing, and we cannot see when, and what they are doing. Well, in truth we know what they are doing, we are only missing the “when, where, and how much”. They are squeezing shorts, manipulating price levels, much like Friday’s 30th of April S&P500 market ramp at the close, or simply buying ETFs in true BOJ style.
This kind of activity is spreading faster than the epidemic Avian flu. Not to forget is the fact that, next to the BOJ, the SNB also holds a nice equity portfolio (as a percentage of reserves, or even GDP) by now. By the way, they are large holders of Apple, just as they were of Valeant. Aren’t they good at stock picking?
All the way to China, and the China Securities financial corporation, the almighty CSF, together with the no less important SAFE and its sovereign wealth fund, are also playing games with the markets -including those branded as “buy and hold”. Even the ECB is leaving the sovereign bond turf -and will hold NFC bonds from now on -provided the corporation has a small establishment in the EEC! Somebody give me a hand here. I am no multinational but have a large personal establishment in the EEC. I am a solid triple-A (I have no debts), and I’d love to get some NIRP money as well!
They will end up owning and controlling what’s left of free financial markets. After all, why not take a direct course to owning the market with freshly “minted” reserves? “Print and buy whatever needs to be bought” is their actual mantra. Money supply is potentially infinite for them, and now it comes at zero cost or less (NIRP)). In that quest, the Chinese have even been buying tons of crude oil (pushing their reserve level to the highest ever). And did you see what happened with Iron Ore or Dry Baltic Index pricing? Awesome!
The battlefield now shows the scars, and injured bodies, a consequence of the umpteenth Wall Street manipulation victory, together with the countless corpses left over by the unmitigated recurrent economic disaster for main street ordinary mortals. Of course, only non-glamorous corpses can be found. Uncle “Fed” took care of the large corporations and banks that subsidize power, in a classic “you scratch my back, and I’ll scratch yours”.
In the Financial area, the predominant corpses are Hedge fund managers and active managers of traditional funds. Stock pickers, macros, and quants are being particularly punished. How on earth do you mathematically trade a rigged market? Maths need truly random sets of numerical data. Also, as a matter of fact, have you ever thought about the increased noise in the price series, and how that just doesn’t jibe with the increase in profitable HFT activity? Doesn’t it smell fishy to you as well?
Of course, most likely, HFT is not about math, but about front running (orders or news) with some time advantage. Add in some timely Hilsenrath type of info, to complete the advantage. Talk about unfair trading practices. And yes, I know life is unfair, but I would love to share that “timely” information.
On the other side of the investor spectrum, ETF managers, Golmanites, and other establishment related financial corporates are fully protected by the Fed. The Fed does not want any independent active managers left when this is over. These people (active managers, quants, macros)… they tend to think! How inconvenient. They need obedient, index linked investors, that don’t ask impertinent questions. I do not see much difference with the Erdogan-style prosecution of independent journalists.
In the real economy casualties list, look no more than the estimated death-birth rate of small businesses. Look at the one embedded in actual adjustments, and then backtest with reality. Numbers show small companies really taking a beating. Regarding workers, it doesn’t get any better. Labour stats have become a massive lie. Take Spain. If the unemployed average Joe takes a light course on, say the use of Excel, he is automatically excluded from the unemployed list (he statistically becomes a part time student!).
The fact is, the small company dies, and Amazon and Netflix thrive. Yes, no doubt we need the Amazon model to grow, and our supply side to evolve. But we don’t need to turbocharge the process, finance them at zero percent (or less), and save the likes (AIG, GM, or Monte dei Paschi as of late), with taxpayers money, just as they are about to go bankrupt!
A stalemate is the final result of CB action counteracting the commonsensical January to mid-February repricing of markets to the new anticipated economic parameters. What new parameters? Two. A reduced profit scenario for most listed companies, both top and bottom line driven (sales and productivity just look awful), together with a then promised (not anymore) new environment of stable money magnitudes (the Fed had repeatedly voiced the end of the easy money regime).
The outcome of it all is that we are now in a precarious standby mode, holding our breath until we find out if this forceful CB action has been enough to avoid, a recession in the US, a meltdown in China, and a full-blown crisis in European banks.
- Regarding the first danger, US data are hardly conclusive right now but, if anything, they point to an economy barely chugging along, teasing the stall speed level. Dangerous stuff, particularly considering the debt overhang, and the situation in the Chinese and Japanese economies right now.
- China is still desperately clinging on to its 7% growth paradigm -even though by now everybody knows that it is a colossal lie (electricity consumption is a clear tell-tale). It bought itself one more trillion USD worth of time. Roughly a tenth of their 11 trillion USD economy. XXXL stimulus! Nevertheless, considering the fact that time has become a lot more expensive (the sensitivity of GDP growth to money creation is decreasing), I doubt the impulse will last more than two or three quarters.
- Italian banks, and Spanish banks less so, hold a percentage of sovereigns eerily similar to their tier one ratios. European Sovereign issues get placed mostly because their own banks give them a chance to do so. The risk is then elegantly passed on to the depositors (meaning the ordinary Joe). Fractional reserve banking is a time fuse for a debt bomb, in some (quite a few) countries. No less than 10.5% of assets in Italian Banks and 8.8% of assets in Spanish banks are invested in European sovereign bonds. They are calculated as zero risk assets! Wait, wait, we have not even begun to add their day to day, run of the mill NPL’s on top of that (for a grand total estimated above 25% of GDP in Italy)! Truly an accident (another of a growing pile of them) waiting to happen. Brits would do well to leave. Will they have the guts to opt out, in spite of all the fearmongering by their establishment -and even Obama himself?
Sadly, even if we do avoid a 2016 recession, and the perils associated with it, as soon as the effects of this fresh round of stimulus wear out, we will find ourselves facing a recessionary call again (with more debt and inequality in our backpacks). Hence, we will print and buy some more (ETFs sovereign or corporate bonds) again. We will have to increase the dose because the medicine is losing its power with every round. Rinse, repeat, and do it all over again -until something gives.
There is no long-term strategy to this. Extending and pretending requires emphatic supporting of the mirage of debt sustainability. In that context, preventing market downturns is crucial to continue to bypass recessions. We ran out of breathing space a couple of years ago, and we cannot have any recessions if we are to maintain the illusion that debt will be paid, and that we can cope with our unfunded entitlements. CB’s are just kicking the can forward -they must think that we can live without recessions forever. I think we cannot, and we should not anyway (recessions are necessary “Cleanups”). So, why wait and postpone the repricing and concomitant defaults?
A few notes on what to make of this (financial strategy update).-
1. Currency arena. I doubt there is much money to be made in directional trades in currency pairs this year. Choppy, noisy, sideways action is to be expected. There is a CB keen interest in reducing the real volatility in the crosses. And “beggar thy neighbor” devaluation is becoming all too evident at G 20 meetings. Everybody is on a level three recession alert, so it is unlikely that any of them will get away with a meaningful devaluation of their currency. It is also a stalemated situation in currency markets today. CBs are all watching each other, and we investors are all watching our screens and waiting for we don’t know what. I think reasonably safe trading opportunities lie elsewhere.
I stand by my leveraged shorts in EURSEK as a medium term trade. I have suppressed leverage as we approach the 9.00 target in EURSEK -but am still long, and optimistic on the outlook. In a world of NIRP, holding to EURSEK shorts (long the SEK) will probably earn you a couple of bps above the cost of your carry. Not great, but not to be easily dismissed in times of NIRP. The only caveat is the fact that you have to keep your SEK balance as cash on your bank accounts if you don’t want to be “nirped”. And I don’t want any cash in my bank accounts if I can help it. All in all, it has been a decent trade -but well short of the “something to write back home about” category. I will add some more above 9.25 or thereabouts.
The USD value is really dependent on FED policies. I mean more than ever. Absent any specific monetary stimulus, or outright devaluation policy, I still am a USD bull. There is a shortage of USD in the global market, and the US is still the cleanest (very) dirty shirt. To the Fed’s delight, the rest have asked for a weaker dollar and Janet is likely pleased to comply -for the time being. Not that the Chinese give her any other palatable option. The CNY devaluation threat is credible and powerful. See what the combined central bank action has done to the trade weighted USD lately. Fundamentally driven dollar bulls have been crushed. The lesson to be learned: never trust a Central Bank.
The EUR and JPY are hardly solvent currencies in the long run. Japan is bankrupt, and the European periphery is well past the point of irreversible bankruptcy by now. The euro is overvalued, but a great trade surplus of the northern block will support it for the time being. Nonetheless, EURUSD at 114.3 does not make any sense if it were not for CB manipulation (see interest rate spread chart by daily shot).The yen is massively undervalued but is also the currency for a bankrupt country. I am not comfortable shorting or holding yen in my portfolio. Shorting the JPY in a highly unstable, even precarious, market environment, does not make sense. Going long a bankrupt currency against the almighty USD (in relative terms) doesn’t either.
With the Swissie it’s the same underlying story, but the other way around. It is overvalued, but a good currency. I do not feel comfortable with shorts (it is a fundamentally sound currency in spite of the SNB), or longs (it is significantly overvalued). Noise is high, and directional moves in both EUR and JPY are likely to be limited and unpredictable. The Swissie is not a free market anymore. If you want to trade it, first and foremost make sure you contact Jordan and Danthine for a drink. It will save you money.
Emerging markets and BRICS will continue to be volatile and are really dependent on Fed policy for the dollar. Not an easy trade at all, because their currency parity will be in fact indirectly manipulated by the Fed. They do not control their own destiny. They used the USD to accumulate debt, and now they are fully incorporated into the system, as USD Fed dependant debt serfs.
The cost of carry of nondeliverable forwards (NDFs) has come off quite a bit in USDCNY. I still think you have to be short the yuan (I’ve been in that camp for more than a year). You can gear up on this trade -if you may. It might take a long time because the PBOC is strong, but USDCNY is a strong buy provided carry costs are not too onerous. It is the theoretical trade of the year, but you have to beat the PBOC -and David only beats Goliath on special occasions. Not to forget also is that not all that works in theory, works in practice (I really love that Yogi Berra quote). I am giving it a try in a moderate size. The carry cost can dent your portfolio P&L figures seriously.
2. Global Equities. There aren’t that many bears left -after three years of Central Banks literally beating up any bear that was unfortunate enough to be found in their path. When they jump into the market, they are like hippos heading for water. You’d better not be found messing around in their path to the river, or else you are “completely finished”.
The million dollar question is, of course, if I stick to my “July 2015 market top” prediction. I do (please give or take a couple of points). Of course, it is a tough call, and it is built upon no more printing by the FED. More printing, and off we go!
It is hopeless to try to rationalize my shorts. Valuation doesn’t matter in a market driven exclusively by “risk-on” or “risk-off” avalanches, as actors try to adapt to the successive episodes of money aggregate variation. If macro money magnitudes are a wild ride, no way you can use valuation metrics to trade the market. The sooner we all assume this, the better. And, of course, the sooner we get rid of this environment, the best for all of us.
I have an increasingly uneasy feeling about equity markets, but I will admit to not knowing the breaking point. One thing I am sure of: I don’t want to be long beta at all. If I like the alpha in some stocks, I will hedge this trade with index shorts. In my specific case, I plan to remain at least moderate short -unless I see the Fed printing again. Risk is mispriced, and the repricing process points to equity prices moving south. Losses are the only way to go about a repricing of risk.
Elaborating on the best markets to short, the scene becomes murkier. Valuation wise the E-minis are the ideal short, but valuation might not matter much if the E-mini it is one the preferred Fed manipulative targets. I also think France, Italy, and Spain are a screaming short (their bank’s vulnerability is high and distinctively troublesome to me).
I have made it very clear that I am sure that equity valuations are way too high. What’s worse, we most likely will not go back to fair value direct. At historic turning points for humanity, it pays to remember Hegel’s three step process: “Thesis, antithesis, synthesis”. My instinct and history itself say we will move below fair value before we find a new stable pricing level.
3. Bonds. I will try not to reiterate on what I said in my last post. Just the headlines. The minute we get a default wave, and a risk repricing, interest rates are going up significantly. We need to assign a cost for a scarce resource (capital). The market will do it as soon as the debt overhang, and this manipulated nirvana is over. I don’t know when, but I am sure it will be before the end of this decade. Unconventional thinking as it is, I feel certain that this CB protected “financial paradise” will not last long enough to see chronic deflation. I see gargantuan risks in positioning for a Japanese decade or longer.
In the short run, I do not see an end to the long bond rally. Bonds will be a buy for as long as “extend and pretend” holds. But I plan to be careful and consider the chance that the turnaround is ultrafast. The consequences of what I say above, are dire. If I can’t trust credit risk, and I am shying away from duration risk, I am a serious candidate to be “nirped” by some CB. In fact, the bonds I hold are all at the zero line or slightly below. Tough luck. Sometimes you have to wait and try to make your money elsewhere. Even though I have been bruised and battered financially by CBs, post the 11th of February low, I am still up more than 2.5% ytd. Survival is an instinct, not a reasoning process! If it were not, I would have gone bankrupt a long time ago.
Altogether, I will carefully, prudently, stick to my guns, and pray (if absolutely necessary), even while intensely enjoying this beautiful 2016 spring. The sailing season is on, and I plan to race as much as I can (and forget CBs while at it). Regardless of sailing and enjoying life, sometimes you have to make a stand. This is one of them. Anyway, I will try to keep my bearishness as light as possible … and hopefully endure.