Archive for the ‘Credit Markets’ Category
Wednesday, April 3rd, 2013
A Man in the Mirror
by William H. Gross, PIMCO
I’m starting with the man in the mirror
I’m asking him to change his ways
And no message could have been any clearer
If you wanna make the world a better place
Take a look at yourself, and then make a…
— Michael Jackson
Am I a great investor? No, not yet. To paraphrase Ernest Hemingway’s “Jake” in The Sun Also Rises, “wouldn’t it be pretty to think so?” But the thinking so and the reality are often miles apart. When looking in the mirror, the average human sees a six-plus or a seven reflection on a scale of one to ten. The big nose or weak chin is masked by brighter eyes or near picture perfect teeth. And when the public is consulted, the vocal compliments as opposed to the near silent/ whispered critiques are taken as a supermajority vote for good looks. So it is with investing, or any career that is exposed to the public eye. The brickbats come via the blogs and ambitious competitors, but the roses dominate one’s mental and even physical scrapbook. In addition to hope, it is how we survive day-to-day. We look at the man or woman in the mirror and see an image that is as distorted from reality as the one in a circus fun zone.
Yet at first blush, there is a partial saving grace in the money management business. We have numbers. Subjective perceptions aside, we have total return and alpha histories that purport to show how much better an individual or a firm has been than the competition, or if not, what an excellent return relative to inflation, or if not, what a generous amount of wealth creation over and above cash … the comparisons are seemingly endless yet the conclusions nearly always positive, rendering the “saving grace” almost meaningless: everyone in their own mind is at least a six-plus or a seven, and if not for the most recent year, then over the last three, five, or 10 years. Investors thrive on the numbers and turn them in their favor when observing their reflections. That first blush becomes a permanently rosy complexion with Snow White cheeks.
The investing public is often similarly deceived. Consultants warn against going with the flow, selecting a firm or an individual based upon recent experience, but the reality is generally otherwise. Three straight flips of the coin to “heads” produces a buzz in the crowd for another “heads,” despite the obvious 50/50 probabilities, as do 13 straight years of outperforming the S&P 500 followed by … Well, you get my point. The Financial Times just published a study confirming that a significant majority of computer simulated monkeys beat the stock market between 1968 and 2011 – good looking monkeys that is.
In questioning initially whether I am a great investor, I open the door to question whether other similarly esteemed public icons like Bill Miller are as well. It seems, perhaps, that the longer and longer you keep at it in this business the more and more time you have to expose your Achilles heel – wherever and whatever that might be. Ex-Fidelity mutual fund manager Peter Lynch was certainly brilliant in one respect: he knew to get out when the gettin’ was good. How his “buy what you know best” philosophy would have survived the dot-coms or the Lehman/subprime bust is another question.
So time and longevity must be a critical consideration in any objective confirmation of “greatness” in this business. 10 years, 20 years, 30 years? How many coins do you have to flip before a string of heads begins to suggest that it must be a two-headed coin, loaded with some philosophical/commonsensical bias that places the long-term odds clearly in a firm’s or an individual’s favor? I must tell you, after 40 rather successful years, I still don’t know if I or PIMCO qualifies. I don’t know if anyone, including investing’s most esteemed “oracle” Warren Buffett, does, and here’s why.
Investing and the success at it are predominately viewed on a cyclical or even a secular basis, yet even that longer term time frame may be too short. Whether a tops-down or bottoms-up investor in bonds, stocks, or private equity, the standard analysis tends to judge an investor or his firm on the basis of how the bullish or bearish aspects of the cycle were managed. Go to cash at the right time? Buy growth stocks at the bottom? Extend duration when yields were peaking? Buy value stocks at the right price? Whatever. If the numbers exhibit rather consistent alpha with lower than average risk and attractive information ratios then the Investing Hall of Fame may be just around the corner. Clearly the ability of the investor to adapt to the market’s “four seasons” should be proof enough that there was something more than luck involved? And if those four seasons span a number of bull/ bear cycles or even several decades, then a confirmation or coronation should take place shortly thereafter! First a market maven, then a wizard, and finally a King. Oh, to be a King.
But let me admit something. There is not a Bond King or a Stock King or an Investor Sovereign alive that can claim title to a throne. All of us, even the old guys like Buffett, Soros, Fuss, yeah – me too, have cut our teeth during perhaps a most advantageous period of time, the most attractive epoch, that an investor could experience. Since the early 1970s when the dollar was released from gold and credit began its incredible, liquefying, total return journey to the present day, an investor that took marginal risk, levered it wisely and was conveniently sheltered from periodic bouts of deleveraging or asset withdrawals could, and in some cases, was rewarded with the crown of “greatness.” Perhaps, however, it was the epoch that made the man as opposed to the man that made the epoch.
Authors Dimson, Marsh and Staunton would probably agree. In fact, the title of their book “Triumph of the Optimists” rather cagily describes an epochal 101 years of investment returns – one in which it paid to be an optimist and a risk taker as opposed to a more conservative Scrooge McDuck. Written in 2002, they perhaps correctly surmised however, that the next 101 years were unlikely to be as fortunate because of the unrealistic assumptions that many investors had priced into their markets. And all of this before QE and 0% interest rates! In any case, their point – and mine as well – is that different epochs produce different returns and fresh coronations as well.
I have always been a marginal or what I would call a measured risk taker; decently good at interest rate calls and perhaps decently better at promoting that image, but a risk taker at the margin. It didn’t work too well for a few months in 2011, nor in selected years over the past four decades, but because credit was almost always expanding, almost always fertilizing capitalism with its risk-taking bias, then PIMCO prospered as well. On a somewhat technical basis, my/our firm’s tendency to sell volatility and earn “carry” in a number of forms – outright through options and futures, in the mortgage market via prepayment risk, and on the curve via bullets and roll down as opposed to barbells with substandard carry – has been rewarded over long periods of time. When volatility has increased measurably (1979-1981, 1998, 2008), we have been fortunate enough to have either seen the future as it approached, or been just marginally overweighted from a “carry” standpoint so that we survived the dunking, whereas other firms did not.
My point is this: PIMCO’s epoch, Berkshire Hathaway’s epoch, Peter Lynch’s epoch, all occurred or have occurred within an epoch of credit expansion – a period where those that reached for carry, that sold volatility, that tilted towards yield and more credit risk, or that were sheltered either structurally or reputationally from withdrawals and delevering (Buffett) that clipped competitors at just the wrong time – succeeded. Yet all of these epochs were perhaps just that – epochs. What if an epoch changes? What if perpetual credit expansion and its fertilization of asset prices and returns are substantially altered? What if zero-bound interest rates define the end of a total return epoch that began in the 1970s, accelerated in 1981 and has come to a mathematical dead-end for bonds in 2012/2013 and commonsensically for other conjoined asset classes as well? What if a future epoch favors lower than index carry or continual bouts of 2008 Lehmanesque volatility, or encompasses a period of global geopolitical confrontation with a quest for scarce and scarcer resources such as oil, water, or simply food as suggested by Jeremy Grantham? What if the effects of global “climate change or perhaps aging demographics,” substantially alter the rather fertile petri dish of capitalistic expansion and endorsement? What if quantitative easing policies eventually collapse instead of elevate asset prices? What if there is a future that demands that an investor – a seemingly great investor – change course, or at least learn new tricks? Ah, now, that would be a test of greatness: the ability to adapt to a new epoch. The problem with the Buffetts, the Fusses, the Granthams, the Marks, the Dalios, the Gabellis, the Coopermans, and the Grosses of the world is that they’ll likely never find out. Epochs can and likely will outlast them. But then one never knows what time has in store for each of us, or what any of us will do in the spans of time.
What I do know, is that, like Michael Jackson sang in his brilliant, but all too short lifetime, I am and will continue to look at the man in the mirror. PIMCO, Gross, El-Erian? – yes, we’re lookin’ good – in this epoch. If there’s a different one coming though, to make our and your world a better place, we might need to look in the mirror and make a Chaaaaaaaange … Depends on what we see, I suppose. We will keep you informed.
Man in the Mirror Speed Read
- Investors should be judged on their ability to adapt to different epochs, not cycles. An epoch may be 40-50 years in time, perhaps longer.
- Bill Miller may in fact be a great investor, but he’ll need 5 or 6 more straight “heads” in a future epoch to confirm it. Peter Lynch is a “party pooper.” Warren is the Oracle, but if an epoch changes will he and others like him be around to adapt to it?
- No matter how self-indulgent you think this IO is, I just looked in the mirror and saw at least a 7. You must be blind!
William H. Gross
Past performance is not a guarantee or a reliable indicator of future results. All investments contain risk and may lose value. This material contains the current opinions of the author but not necessarily those of PIMCO and such opinions are subject to change without notice. This material is distributed for informational purposes only. Forecasts, estimates, and certain information contained herein are based upon proprietary research and should not be considered as investment advice or a recommendation of any particular security, strategy or investment product. Information contained herein has been obtained from sources believed to be reliable, but not guaranteed.
Saturday, March 30th, 2013
The Economy and Bond Market Radar (April 1, 2013)
Treasury yields fell for the third week in a row following continued uncertainty in Europe, even though a revised plan for Cyprus was put in place and banks reopened on Thursday to relative calm. Economic data was generally weaker than expected, which also likely played a role in sending yields lower. A good example is consumer confidence which came in well below estimates and somewhat surprisingly has just bounced around in a range for more than a year. Beginning-of-the-year tax increases and the sequestration continue to weigh on consumer confidence.
- Europe avoided a larger crisis by coming to a resolution on the Cyprus banking system, but the process does not instill a lot of confidence.
- The Case-Shiller 20-city price index rose 8.1 percent versus a year ago in January. Signs that the housing market continues to recover are very supportive of continued economic expansion.
- Durable goods orders rose 5.7 percent in February on a spike in aircraft orders.
- Consumer confidence fell sharply in March as the economy lacks alacrity.
- Eurozone economic sentiment also fell in March after seeing steady improvement in recent months.
- Initial jobless claims rose to 357,000 this week, reversing a recent trend of better numbers.
- The Fed continues to remain committed to an extremely accommodative policy.
- Key global central bankers are still in easing mode such as the European Central Bank (ECB), Bank of England and the Bank of Japan. The Bank of Japan in particular appears willing to implement additional monetary policy easing in the near future.
- The economy appears to be gaining momentum. The risk for bondholders is that this trend continues and bonds sell off.
- Inflation in some corners of the globe is getting the attention of policy makers and may be an early indicator for the rest of the world.
Thursday, April 21st, 2011
by Michael ‘Mish’ Shedlock, Global Economic Trends Analysis
The New York Times reports Gold Tops $1,500 an Ounce in ‘Flight to Quality’
The list of factors that have supported the price of precious metals in recent weeks is long. It includes worries about the sustainability of European debt levels — and whether countries like Greece will soon default; the threat of a possible downgrade of U.S. credit ratings amid an impasse over raising the debt limit and dealing with the budget deficit; the weaker dollar; rising inflation in many parts of the world and continued unrest in North Africa and the Middle East, which has pushed up oil prices.
“We’re seeing a perfect storm for gold and silver prices,” said Robin Bhar, a senior metals analyst in London for the French bank Crédit Agricole.
“Gold is sometimes a currency, sometimes a commodity and sometimes a store of value,” analysts at Merrill Lynch wrote recently. “As purchasing power of workers in emerging markets increases, we see demand for gold as a commodity increasing over the next few years,” the Merrill Lynch report said.
Orderly Move Higher
Unlike other commodities that have skyrocketed and crashed, the climb in gold has been very orderly. It is the only commodity whose long-term trendline is long and unbroken.
Click on chart for sharper image.
Gold could take a substantial hit, just as it did in 2008 and still keep its long-term trendline intact. Why is that?
The answer is currency debasement. A few charts from Interactive Map: Paul Ryan vs. Obama Budget Details; Path of Destruction will show what I mean.
Deficit: Obama vs. Paul Ryan
Interest on the National Debt: Obama vs. Paul Ryan
National Debt: Obama vs. Paul Ryan
National Debt is going to soar in 10 years from $15 trillion to $23-26 trillion if either Obama’s or Ryan’s plan is enacted.
That is currency debasement on a scale never seen before in the US. However, it is not just the US. The UK is a financial basket case and in Europe there is a sovereign debt crisis.
In China, credit is expanding at 20-30% a year. Indeed, China is printing money faster than the US. Thus, the idea the Yuan is undervalued is questionable to say the least.
For further discussion regarding China and the Yuan, please see Is the Yuan Undervalued?
So, why shouldn’t gold be rising? If anything, the surprise should be how orderly the rise has been given massive currency debasement everywhere you look.
Gold is Money
Merrill Lynch analysts wrote “Gold is sometimes a currency, sometimes a commodity and sometimes a store of value.”
Those Merrill Lynch analysts make a number of mistakes.
The fact of the matter is gold is always a currency and always a commodity. I make the case “Gold is Money” in two posts.
Money is Always a Commodity
Please consider a few re-ordered sentences from Murray Rothbard’s classic text What Has Government Done to Our Money?
Money is a commodity used as a medium of exchange.
Like all commodities, it has an existing stock, it faces demands by people to buy and hold it. Like all commodities, its “price” in terms of other goods is determined by the interaction of its total supply, or stock, and the total demand by people to buy and hold it. People “buy” money by selling their goods and services for it, just as they “sell” money when they buy goods and services.
Money is not an abstract unit of account. It is not a useless token only good for exchanging. It is not a “claim on society”. It is not a guarantee of a fixed price level. It is simply a commodity.
What Is The Proper Supply Of Money?
Continuing from the book …
Now we may ask: what is the supply of money in society and how is that supply used? In particular, we may raise the perennial question, how much money “do we need”?
Must the money supply be regulated by some sort of “criterion,” or can it be left alone to the free market?
All sorts of criteria have been put forward: that money should move in accordance with population, with the “volume of trade,” with the “amounts of goods produced,” so as to keep the “price level” constant, etc.
But money differs from other commodities in one essential fact. And grasping this difference furnishes a key to understanding monetary matters.
When the supply of any other good increases, this increase confers a social benefit; it is a matter for general rejoicing. More consumer goods mean a higher standard of living for the public; more capital goods mean sustained and increased living standards in the future.
[Yet] an increase in money supply, unlike other goods, [does not] confer a social benefit. The public at large is not made richer. Whereas new consumer or capital goods add to standards of living, new money only raises prices—i.e., dilutes its own purchasing power. The reason for this puzzle is that money is only useful for its exchange value.
[Thus] we come to the startling truth that it doesn’t matter what the supply of money is. Any supply will do as well as any other supply. The free market will simply adjust by changing the purchasing power, or effectiveness of the gold-unit [monetary-unit].
The above online book found on mises.org is a great read. It is also free. It should be required reading for all members of Congress. Please meet with your legislative representative and get them to read the book.
The key point above is that money is a commodity. Yet unlike other commodities, an increase in money supply confers no overall economic benefit. Over time, money simply buys less and less.
Those three sentences and one look at the budget charts above nicely explain the rise in gold.
Copyright © Mike “Mish” Shedlock, Global Economic Trends Analysis
Tags: Bhar, Budget Deficit, Budget Details, Debasement, Debt Levels, Debt Limit, French Bank, Global Economic Trends, Gold, Gold And Silver, Gold And Silver Prices, Image Gold, Merrill Lynch, Michael Mish, Mish Shedlock, Obama, Path Of Destruction, Paul Ryan, precious metals, Sharper Image, Value Analysts
Posted in Commodities, Credit Markets, Energy & Natural Resources, Gold, Markets, Oil and Gas, Silver | Comments Off
Thursday, April 21st, 2011
by Bob Doll, Chief Equity Strategist, BlackRock
It has been quite some time since we have experienced two consecutive weeks without equity market gains. Given recent higher energy prices and some softening of economic data, however, that now has indeed come to pass. For the week, the Dow Jones Industrial Average lost 0.3% to 12,342, the S&P 500 Index fell 0.6% to 1,320 and the Nasdaq Composite declined 0.6% to 2,765.
Over the last several weeks, expectations for first-quarter economic growth have been ratcheted down. At the beginning of the year, the consensus forecast was for GDP growth to come in at around 3.5%, but that figure has since dropped to closer to 2.0%. Several areas of the economy have been pointing to slowing growth, including a softening of business spending on equipment and software, a slower-than-expected rise in inventories, weakening trade data and contracting construction activity for both the residential and nonresidential sectors.
Despite the downshift in expectations, however, some of the data remain encouraging. Private payroll figures have increased significantly over the last two months and the unemployment rate has fallen a full percentage point since November. The manufacturing sector has also continued to show signs of strength and, importantly, consumer spending levels have remained resilient. From our perspective, we remain reasonably constructive on the prospects for growth and continue to expect overall 2011 GDP growth to be somewhere around the 3.0% to 3.5% range.
Rising oil prices have been one of the main culprits for the pause in the equity markets as higher prices are causing concerns over inflation. Over the last four months, the headline Consumer Price Index (which includes energy and food prices) has advanced over 0.3% each month, a higher rate than we saw previously. Other inflation indices have also been moving higher in recent months. In contrast, however, core inflation (which excludes the volatile energy and food components) has remained tame. The big question, then, is whether and when we will see a pass-through of higher prices to other areas. At least so far, the uptick in inflation has remained contained to the energy sector. Whether this remains the case will be important to watch.
We are now at the beginning of first-quarter earnings season, and our view is that we should see solid results, although probably not as good as we saw in previous quarters. Top-line growth should remain strong, but we expect to see some localized margin pressures, particularly in some of the consumer-related sectors where higher raw materials prices are not being passed through to end buyers. In any case, however, overall financial conditions remain supportive for corporate growth and earnings should be able to come in at an above-trend pace.
At present, it appears that equity markets are remaining in a trading range marked by an S&P 500 level of between 1,250 and 1,350. The low number in the range was hit in the immediate aftermath of the earthquake in Japan and markets have since experienced a sort of relief bounce, but that bounce has stalled in recent weeks. Investors are facing a number of risks, including potential credit market disruption (particularly from peripheral European sovereign debt issues), a weakening in global demand levels caused by rising energy prices and the potential for a more rapid rise in core inflation in the United States than we expect.
Given that backdrop, a sustained breakout to the positive side of the current trading range looks unlikely at the moment. Although the macro economic and earnings environment remain conducive to higher prices in the long term, we believe markets will have difficulty sustaining gains in the coming months until we see some relief in energy prices.
About Bob Doll
Bob Doll is Chief Equity Strategist for Fundamental Equities at BlackRock® a premier provider of global investment management, risk management and advisory services. Mr. Doll is also Lead Portfolio Manager of BlackRock’s Large Cap Series Funds. Prior to joining the firm, Mr. Doll was President and Chief Investment Officer at Merrill Lynch Investment Managers.
Sources: BlackRock; Bank Credit Analyst. This material is not intended to be relied upon as a forecast, research or investment advice, and is not a recommendation, offer or solicitation to buy or sell any securities or to adopt any investment strategy. The opinions expressed are as of April 18, 2011, and may change as subsequent conditions vary. The information and opinions contained in this material are derived from proprietary and nonproprietary sources deemed by BlackRock to be reliable, are not necessarily all-inclusive and are not guaranteed as to accuracy. Past performance is no guarantee of future results. There is no guarantee that any forecasts made will come to pass. Reliance upon information in this material is at the sole discretion of the reader. Investment involves risks. International investing involves additional risks, including risks related to foreign currency, limited liquidity, less government regulation and the possibility of substantial volatility due to adverse political, economic or other developments. The two main risks related to fixed income investing are interest rate risk and credit risk. Typically, when interest rates rise, there is a corresponding decline in the market value of bonds. Credit risk refers to the possibility that the issuer of the bond will not be able to make principal and interest payments. Index performance is shown for illustrative purposes only. You cannot invest directly in an index.
Copyright © BlackRock
Tags: Bob Doll, Consecutive Weeks, Construction Activity, Consumer Price Index, Core Inflation, Culprits, Dow Jones, Dow Jones Industrial, Dow Jones Industrial Average, Downshift, Energy Prices, Food prices, GDP Growth, Higher Energy, Inflation Indices, Last Two Months, Manufacturing Sector, Nasdaq Composite, Rising Oil Prices, Unemployment Rate
Posted in Credit Markets, Energy & Natural Resources, Markets, Oil and Gas | Comments Off
Tuesday, April 19th, 2011
by Leo Kolivakis, Pension Pulse
What’s going on with market volatility? You’d think with Standard and Poor’s putting the U.S. government on notice that it risks losing its AAA credit rating and Greece teetering on the abyss, markets would be going haywire waiting for the next shoe to drop.
David Berman of the Globe and Mail asks, Why did stock market panic?:
Here’s yet another theory why U.S. government bonds are failing to react much to the Standard & Poor’s cut to the U.S. credit rating outlook: The bond market had already priced it in.
From Jan Hatzius at Goldman Sachs: “Clearly, the U.S. fiscal situation is unsustainable unless a large, multi-year fiscal tightening is implemented. However, there is no information in today’s report about the fiscal situation that was not already known. Academic research has generally found that rating agency actions lag market pricing, rather than lead it.” [Double SIGH!!]
This sounds reasonable, though it raises the question why the stock market was so quick to panic. The Dow Jones industrial average was down nearly 250 points at its low point during the day. Even though the Dow recovered about 100 points in afternoon trading, the stock market nonetheless stood out for its hysterical reaction to the S&P report.
The CBOE volatility index, or VIX – which is considered a fear gauge of the market – had jumped in early trading. But the gains were still slight: The index hit an intraday high of 19 before settling back to 17 in the afternoon, which is exceptionally low.
Last spring, during the stock market correction that followed the European debt crisis, the VIX had shot above 40. And during the initial reports of the Japanese earthquake and tsunami in mid-March, it rose close to 30. By comparison, Monday’s blip looks like nothing.
True, after surging as much as 23% Monday, the VIX dropped 7% closing at 15.83 on Tuesday, just above the 15.32 close of last Friday, its lowest finish since July 2007. So what’s going on? Why are markets so complacent? Isn’t the world coming to an end?
Perhaps the VIX isn’t the right gauge of fear. At Zero Hedge, Tyler Durden posted a comment late Monday afternoon that the SKEW does not paint a remotely as rosy picture as does the VIX. Moreover, Tyler noted that the Credit Suisse Fear Barometer, another measure the “pros” look at is exploding up, suggesting that smart money is very scared right now.
I read the comment and then asked one of the best TAA pension fund managers I know, to share his thoughts:
With vol at 15..it is reasonable for skew to be so steep. This market is a very low vol market, point in fact is 100 day realized vol on spx is below 12. However, it is prudent risk management to buy short term vol or gamma at these low levels because you benefit if a you have a big move in the markets. But the biggest anomaly is still long term volatility, which is sitting at 30. The past 5 years realized vol on spx is at 28. Unless you think we will have another banking crisis it will be very difficult for vol to realize this level. Interest rate curves are steep and the Fed hasn’t yet increased short term interest rate.
“…that is why I am moderately bullish..hedge funds are quick to short and real money is hedged…. We are climbing a wall of worry!”
We talked about the S&P debt warning on US debt and both quickly dismissed it as “bullshit”. I want you all to repeat this sentence a trillion times: The US will never default on its debt — EVER! Get that silly thought out of your head. It’s beyond stupid and I’m sick and tired of the media fueling this nonsense.
Some lady on CNN tonight was painting a “nightmare scenario” where the Chinese “woke up one morning and stopped funding US debt”. I was rolling my eyes as I listened to this nonsense. The Chinese need the US consumer and they’re still an export-led economy. China’s middle class if growing by leaps and bounds but they’re nowhere near the point where they can wake up tomorrow and tell the US to screw off.
I’m also sick and tired of hearing about how Bill Gross is selling US bonds (yeah right!) and how the US is the next Greece. Total rubbish! When a possible Greek restructuring hit the newswires, investors fled to the safety of US Treasuries.
On the subject of Greece, that TAA manager sold his 2-year Greek government bonds last week and made a nice profit. On Monday, the yield on those 2-year Greek bonds rose to 20%. On Tuesday, risk appetite was buoyed after Greek debt sale:
Athens sold €1.625bn of 13-week notes and although the yield demanded by investors was 4.1 per cent – up from the 3.85 per cent paid at its last sale of these notes in February – there was healthy demand with orders for 3.5 times the bonds on offer.
I asked another sharp pension fund manager his thoughts on 2-year Greek bonds and here is what he had to share:
I’d want to buy ones with lower prices (discount to face); the assumption being that restructuring could take the form of a haircut off of face value. However, you don’t want to get too long a maturity, so you end up looking at 5- to 10-years. With short maturities, you’re playing the game of guessing how long they can delay any restructuring event, which we have no expertise in.
It looks reasonable from a risk-return standpoint even under the assumption that they will restructure; and if for some insane reason they don’t restructure, you make out like a bandit.
Even though Greece is forced to pay sky-high rates to borrow, and restructuring looks more likely than ever, I have a feeling some large hedge funds and asset managers are going to “make out like bandits” snapping up Greek debt at these levels.
As far as how low the VIX can go, it’s anyone’s guess, but it can go much lower and stay low for a very long time as the market continues to climb the wall of worry, which i predicted back in January in my Outlook 2011. There is a tremendous amount of liquidity which will propel all risk assets higher. Don’t say you weren’t warned.
Copyright © Pension Pulse
Tags: Aaa Credit, Agency Actions, Cboe Volatility Index, David Berman, Debt Crisis, Dow Jones, Dow Jones Industrial, Dow Jones Industrial Average, Fiscal Situation, Globe And Mail, Globe Mail, Gold, Goldman Sachs, Hysterical Reaction, Initial Reports, Japanese Earthquake, Market Panic, Market Volatility, Standard And Poor, Stock Market Correction, U S Government Bonds
Posted in Credit Markets, Gold, Markets, Outlook | Comments Off
Tuesday, April 19th, 2011
By Dian L. Chu, EconMatters
Continuing its downward shift from the week before, crude oil fell sharply on Monday, April 18 after S&P lowered its U.S. credit outlook to negative, and OPEC said high crude prices could pressure global economy.
ICE Brent crude for June fell $1.84 to settle at $121.61 a barrels, while WTI (West Texas Intermediate) for May delivery also fell $2.54 to settle at $107.12 on NYMEX.
Crude oil dropped 2.8% in the week ending April 15, which marked the first weekly decline in a month. The sell off could be partly attributed to Goldman Sachs telling clients on Monday April 11 to sell, sell, sell “CCCP” commodities basket for a 25% profit, which prompted a broad selloff in commodities not just limited to crude oil.
CCCP is a commodity basket Goldman first recommended to clients in December 2010. The weight of the CCCP basket is allocated as 40% in crude oil, 20% in copper, 10% soybeans, 10% cotton and 20% in platinum.
Goldman – Brent to Correct Towards $105
Goldman’s primary thesis for its new found bear is centered around crude oil citing the similar market fundamentals observed in my WTI correction to $90 call about two weeks earlier:
- “Nascent signs of oil demand destruction in the United States,”
- “Record speculative length in the oil market,” and
- “A potential cease-fire in Libya“
Goldman believes the confluence of these factors could begin to offset some of the upside owing to “potential contagion risk in the Middle East and North Africa (MENA).” Furthermore, Goldman predicts Brent would correct towards $105 a barrel in coming months.
As discussed in my analysis on April 11, demand is starting to show weakness in Europe as gasoil storage reached a 3-month high boosted by imports, and a lack of demand from the agricultural sector. As such, Goldman also recommends clients to close long positions in the ICE gas oil (diesel and other distillate fuels) contracts.
BofA – Brent to Top $140 in 3 Months
However, not all agree with Goldman. BofA Merrill Lynch, for example, has a total opposite view on crude. Bloomberg quoted a Merrill report dated April 12 that BofA expects Brent futures to top $140 a barrel in the next 3 months “as consumption expands rapidly” and “armed conflict curbs supplies from Libya,” there even was a 30% chance Brent Crude could hit $160 a barrel.
Gloves Off at Barclays
Barclays also took a shot at Goldman suggesting that the call for a top of the oil and commodities market was not only “too early” but also “simplistic.” From FT.com:
“Without mentioning Goldman by name, Barclays’ team said that calling the top of the oil market was an opportunistic way to “guarantee a few short-term headlines, and some more headlines later when that view was reversed.”
FT also quoted Paul Horsnell at Barclays as saying:
“If analysis were to be judged solely in terms of the weight of headlines generated and their impact on the petroleum paparazzi, then following a route of frequent turns in a basic view might well be the best way to proceed.”
This is not the only occasion that the two investment houses have diverging views on market outlook and portfolio positions, but it certainly marks a rare head-on confrontation between the two heavy weights in the commodity trading business. This also has left investors in a quandary – Which way goes oil, Goldman or Barclays/BofA?
IEA – High Prices Dent Demand
Coincidentally, Goldman’s crude oil bear call came around the same time that the IEA (International Energy Agency) warned that high oil prices could hurt global economy. Although it maintains world oil demand outlook, in its monthly oil market report, the IEA notes “Preliminary January and February data suggest that high prices are already starting to dent demand growth,” and that “The surest remedy for high prices may ultimately prove to be high prices themselves.”
Tags: Agricultural Sector, Bofa, Brent Crude, Cease Fire, Contagion, Credit Outlook, Crude Oil, Crude Prices, Distillate Fuels, Downward Shift, Gas Oil, Global Economy, Gold, Goldman Sachs, India, Market Fundamentals, Oil Demand, Oil Market, Oil Price, Selloff, Week Ending April, West Texas Intermediate, Wti
Posted in Commodities, Credit Markets, Energy & Natural Resources, Gold, India, Markets, Oil and Gas, Outlook, Silver | Comments Off
Monday, April 18th, 2011
Liz Ann Sonders, Senior Vice President, Chief Investment Strategist, Charles Schwab & Co., Inc.,
Brad Sorensen, CFA, Director of Market and Sector Analysis, Schwab Center for Financial Research, and
Michelle Gibley, CFA, Senior Market Analyst, Schwab Center for Financial Research
April 15, 2011
- Earnings season is ongoing and gives an “insider” look at economic growth. Businesses see and react to changes in the economic environment before the broader macro data shows a clear trend.
- The Federal Reserve has floated some trial balloons about reining in its extremely accommodative policies, the time for which we believe is overdue. Budget issues remain a problem at all levels of government, but likely won’t derail the recovery at this time.
- Despite ongoing debt problems in peripheral European nations, the European Central Bank (ECB) hiked interest rates. While we don’t expect too much damage in the short-term, Europe still faces significant issues that make it more likely to underperform other investable areas of the world.
We are often asked how we can be optimistic on the US stock market when there are so many obvious problems. From the Middle East to Japan, inflation and debt concerns, budget fights and political uncertainty, there is certainly no shortage of things that seemingly could derail the bull market we’re currently experiencing. But that’s the point. All of these items, and more, are already well known by the stock market, which is the ultimate forward looking indicator, meaning the affects of which have likely been largely reflected in stock prices already. It’s important for investors to look beneath the headlines and the “knowns” and look at what may be coming down the road.
We admit some surprise at the resiliency of the stock market over the past month or so. After the much-needed and well anticipated correction we saw during the first part of March, the major indices have recovered those losses and have again moved solidly into positive territory for the year. While dips will undoubtedly continue to occur, which should help keep sentiment grounded, we continue to believe that the general trend of the stock market will be higher. Of course, the ultimate “inside” information is that nobody can predict the future and that diversification remains the key to achieve your financial goals. For a time over the past several years, it seemed to some that the power of diversification was lost as assets largely traded in a “risk on-risk off” scenario. Recently, however, correlations have again started to recede and the beneficial affects of having a diversified portfolio are again reasserting themselves.
Animal spirits returning?
It’s been a while since the “animal spirits” phrase has been tossed around on Wall Street but we believe this could be one of the surprises of 2011. The focus has been on macroeconomic reports, but during this earnings reporting season we believe we can glean some important “insider” views on where the economy is headed. We are especially watching for comments regarding margins as cost pressures have increased with the rise in commodity prices. We’ll also get further information on the level of supply disruption due to the disaster in Japan. Comparisons have gotten more difficult as we continue to progress in the economic expansion, but we believe many of those challenges are already reflected in stock prices, leading to the continued possibility of upside surprises. The aggregate corporate information we have gotten recently points to those animal spirits returning. We’ve started to see business loans increasing, which, along with a jump in merger and acquisition activity, indicate increasing confidence by the corporate sector.
Business loans are turning upward
Source: FactSet, Federal Reserve. As of Apr. 12, 2011.
Additionally, we got a look at the service sector in the form of the ISM Non-Manufacturing Index, which pulled back a bit from a 5-year high but remains at a solid level of 57.3 (anything above 50 indicates expansion). Another area we believe can surprise the market on the upside is the jobs market. Again looking beyond the headline number shows us numerous regional manufacturing surveys with solid employment readings; while a measure of small business confidence, vital to a recovery in the job market, continues to creep higher. Additionally, jobless claims continue to slide generally lower, although we did see a tick up in the most recent reading, and the unemployment rate has now dipped to 8.8%, down 1.3% from its high, and has dropped more in the last four months than any similar time period since 1984. We believe job growth will pick up speed throughout the year as confidence improves and businesses look to keep up with stronger demand. Should this happen, we would likely see a snowball effect where more people working leads to higher demand, which leads to more workers needed to meet that demand, and so on.
Employers are picking up the hiring pace
Source: FactSet, U.S. Labor Dept. As of Apr. 12, 2011.
Fed floats trial balloons
It’s the employment picture that has kept the Federal Reserve from moving off its extremely accommodative stance, in contrast to its European counterpart, which has a single mandate of keeping inflation under control. We have been advocating for some time that the longer the Fed maintains this exceptionally stimulative policy, the more the risks of inflation taking hold rise, leading to the possibility of a more severe response by the Fed than otherwise might be required. And now it seems that some Fed members are starting to head down that path as well. Several Federal Open Market Committee (FOMC) voting members have spoken up recently, suggesting that QE2 could end early (which we think is unlikely), and that rate hikes may be coming before the end of the year (which we believe is more likely).
In contrast to some opinions on the Street, however, we don’t believe these are “rogue” members breaking ranks with Chairman Bernanke, but more of a coordinated effort to prepare the market for the inevitable return to a more normal monetary policy. So far the results have to make the Fed relatively happy. The stock market has continued to move higher despite increased expectations of rate hikes later this year, indicating that stock investors won’t be deterred by a slightly tighter policy in the coming months.
Government budgets remain a mess
Likewise, the stock market seems to be largely ignoring the constant squabbling over budgetary issues in Washington. Indeed the near-term implications of the recent budget deal are likely to be relatively small, with $38.5 billion being cut out of a $3.7 trillion budget. It is the longer-term path about which we are concerned, and the next budget fight over the debt ceiling and 2012 budget is likely to garner more investor attention. It’s quite obvious to both sides of the aisle that the current path of the budget, including Social Security, Medicare, and Medicaid cannot continue for much longer without restructuring. But the question is what are they going to do about it? Proposals continue to be made but it appears the kicking-the-can-down-the-road option is favored by many on the Hill, which will eventually come back to bite the United States. We are hopeful that some progress toward stabilizing the fiscal train wreck can occur, but remain skeptical.
European debt crisis claims Portugal
Pursuing irresponsible fiscal spending policies while also holding high levels of government debt is ultimately unsustainable; it is only a question of timing. Countries in the eurozone have the additional factor of a common currency despite having differing cultures, economies, governments and hence fiscal policies, making economic adjustment very difficult.
Additionally, political differences resulted in the lack of definitive action to address the eurozone sovereign debt overhang and created a crisis of confidence. With Portugal now asking for assistance, let’s review the three countries that have asked for aid:
- Greece: elevated debt-to-GDP and continued negative revisions to its already high deficit drew market attention. The large size of needed deficit reduction, poor history of reform, lax tax collection, and lack of labor market competitiveness remain impediments to recovery. Greece likely cannot grow out of its debt problem, and will probably need a restructuring before 2013, keeping government bond yields elevated.
- Ireland: suffered one of the biggest credit-induced property bubbles in history, resulting in massive bank bailouts. When the government stepped in and guaranteed bank losses, its debt spiraled out of control. Despite the large adjustment needed to return to stabilize debt, Ireland’s growth outlook is the best of the debt-ridden eurozone nations because it initiated deficit reform early, has a good track record of retrenching, and has a more dynamic economy with a skilled manufacturing workforce. Irish debt yields have fallen from high levels after bank stress tests resulted in additional bank capital requirements that appear to be within the amount set aside, and after the new government backed off a threat to force losses on senior bank bondholders.
- Portugal: despite having a lower debt-to-GDP than the group, lack of progress on deficit reduction, high reliance the European Central Bank (ECB) for funding because previous foreign sources of capital disappeared, lack of labor competitiveness and low economic growth, and a non-majority government hurt market confidence. The crisis came to a head after austerity measures were voted down, causing the Prime Minster to resign; and after Portuguese banks balked at buying more government debt heading into funding needs on April 15 and June 15. Portugal may end up with a short-term loan to tie it over until the June 5 election, after which negotiations can be held with the new government.
Market separating European nations
Source: FactSet, iBoxx, Tullett Prebon Information. As of Apr. 12, 2011.
Despite Portugal’s decline, the risk of contagion- where one large failure results in problems elsewhere- may be averted, a dramatic shift versus a year ago. This is because the elephant in the room, Spain, should avoid a bailout, and current measures have ring-fenced problems elsewhere.
Spain has made progress by implementing austerity measures including labor reform and reducing the fiscal deficit, and is addressing bank problems. While Spain’s banks likely need more capital due to possible future property-related losses, they have a bigger cushion to absorb property price declines than Ireland and the United States due to higher loan-to-value ratios.
European Central Bank hikes rates, could result in slowdown
Despite Portugal’s need for funds, the ECB followed through on its “strong vigilance” on inflation by hiking rates in early April. We remain concerned about a rate hike cycle when economic growth in the eurozone remains fragile and the full impact of fiscal austerity is yet to be felt. But the possibility of upward inflation in Germany, the region’s largest economy, suggests the need to prevent inflation expectations from rising, which could feed through to wages and create broad-based inflation.
It is possible the market may be expecting too much tightening by the ECB, as it has priced in three more rate hikes by the ECB in 2011, while the ECB could pause to determine the impact on growth before moving further. We are closely watching credit growth, as well as the impact on consumer spending, as many mortgages, particularly in peripheral nations, are based on variable rates. Additionally, the euro has strengthened on the ECB hike, which could hamper export prospects outside the eurozone for both Germany and Spain.
European stocks appear to be attractively valued. However, outside of companies with high exposure to growth coming from the United States and emerging world, we remain suspect of the ability for European stocks in general to outperform in the face of growth headwinds.
Dollar decline led by relative monetary policy
Thus far this year, the main factor influencing a weakening of the US dollar has been differences in monetary policy between the United States and the ECB. The ECB’s rate hike, while the Fed remains on hold, has resulted in growing interest rate differentials, attracting traders to the euro. Despite the rise in the euro, BCA Research indicates that the 2-year swap spread of rates is above the level seen at end of 2009, when EUR/USD reached 1.50, possibly indicating further upside in the euro, and downside for the US dollar.
However, the US dollar could bounce short-term if the ECB falls short of the market’s expectation of three hikes this year or if strong US growth results in an rate hike earlier than the current market expectation of early 2012. Read more in our currency Q&A and weak dollar articles.
Emerging markets well into tightening cycles
Strong and early economic recoveries in emerging markets resulted in inflation and the need to tighten monetary policy. However, it is possible that the pace of inflation increases is peaking, indicating tightening cycles could slow down and provide a more healthy backdrop for stocks. We point to the performance of Chinese stocks, which have outperformed despite continued increases in bank reserve requirements and rates. We believe emerging market stocks could be poised to outperform due to differing directions of monetary policy, with developed nations either embarking on or close to beginning tightening cycles, while emerging markets could begin to slow rate hikes.
Chinese stocks outperforming despite rate hikes
Source: FactSet, Shanghai Stock Exchange, Standard & Poor’s, People’s Bank of China. As of Apr. 12, 2011.
Visit www.schwab.com/oninternational more international perspective.
The MSCI EAFE® Index (Europe, Australasia, Far East) is a free float-adjusted market capitalization index that is designed to measure developed market equity performance, excluding the United States and Canada. As of May 27, 2010, the MSCI EAFE Index consisted of the following 22 developed market country indexes: Australia, Austria, Belgium, Denmark, Finland, France, Germany, Greece, Hong Kong, Ireland, Israel, Italy, Japan, the Netherlands, New Zealand, Norway, Portugal, Singapore, Spain, Sweden, Switzerland and the United Kingdom.
The MSCI Emerging Markets IndexSM is a free float-adjusted market capitalization index that is designed to measure equity market performance in the global emerging markets. As of May 27, 2010, the MSCI Emerging Markets Index consisted of the following 21 emerging-market country indexes: Brazil, Chile, China, Colombia, the Czech Republic, Egypt, Hungary, India, Indonesia, Korea, Malaysia, Mexico, Morocco, Peru, Philippines, Poland, Russia, South Africa, Taiwan, Thailand and Turkey.
The S&P 500® index is an index of widely traded stocks.
Indexes are unmanaged, do not incur fees or expenses and cannot be invested in directly.
Past performance is no guarantee of future results.
Investing in sectors may involve a greater degree of risk than investments with broader diversification.
International investments are subject to additional risks such as currency fluctuations, political instability and the potential for illiquid markets. Investing in emerging markets can accentuate these risks.
The information contained herein is obtained from sources believed to be reliable, but its accuracy or completeness is not guaranteed. This report is for informational purposes only and is not a solicitation or a recommendation that any particular investor should purchase or sell any particular security. Schwab does not assess the suitability or the potential value of any particular investment. All expressions of opinions are subject to change without notice.
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Tags: Brazil, Budget Issues, Canadian Market, Charles Schwab, Chief Investment Strategist, China, Debt Problems, Earnings Season, Economic Environment, Growth Businesses, India, Levels Of Government, Liz Ann, Losse, Macro Data, Major Indices, Market Analyst, Political Uncertainty, Resiliency, Russia, Sector Analysis, Senior Vice President, Stock Prices, Trial Balloons, Us Stock Market
Posted in Brazil, Canadian Market, Credit Markets, India, Markets, Outlook | Comments Off
Monday, April 18th, 2011
Approaching the Eraser
by John P. Hussman, Ph.D., Hussman Funds
Market conditions in stocks continue to be characterized by a hostile syndrome of overvaluation, overbought conditions, overbullish sentiment, and rising interest rates, which has historically been associated with a poor return/risk profile, on average, across a wide variety of subsets of historical data. Though I question the ability of the economy to “pass the baton” to the private sector as government stimulus effects run off in the coming 8-10 weeks, I should emphasize up front that our present defensive position is not driven by those economic concerns. As I’ve noted regularly, we expect to quickly establish at least a moderate exposure to market fluctuations if we can clear some component of the foregoing syndrome (probably either the overbought or overbullish component) without a decline severe enough to damage market internals – based on a wide variety of measures relating to breadth, leadership, yield spreads, sector uniformity, and other price/volume factors.
Late last year, we implemented some significant changes to the way we define Market Climates, which I believe increase the “robustness” of those Climates – basing them on an ensemble that examines scores of individual sub-samples of market history. The practical effect is that we expect to take a moderate and less strongly hedged exposure to market fluctuations on a more frequent basis than we have since 2000, while maintaining our defense in conditions that have historically been hostile to stocks. Clearly, conditions that are associated with strong returns per unit of risk, regardless of what historical sub-sample one chooses, warrant greater exposure to market risk. Conditions that would have led to a wider variety of average outcomes, depending on the sample, warrant a more moderate stance. Conditions that are uniformly associated with poor outcomes, on average, almost regardless of the historical sample, imply that market risk taken in those periods is not only speculative, but dangerously so. Presently, we are not willing to take on a dangerous speculation simply because there are a few weeks of quantitative easing left. On the basis of factors that we can measure and test extensively over history, market conditions here warrant a fully hedged investment stance.
On that note, it’s a little bit unfortunate that the overvalued, overbought, overbullish, rising-yields syndrome we’ve observed in recent months has provided us no chance to demonstrate anything different. But that’s a short-term phenomenon that will pass. Presently, stock market conditions are hostile based on our prior approach to defining the Market Climate, and also based on the expanded set of Climates we implemented late last year. But while our current defensive position is “observationally equivalent” regardless of which approach we might take, there are significant differences in the positions implied by these approaches in previous years, particularly during the most recent market cycle. Regardless, both approaches would have been defensive since April 2010 around the 1200 level on the S&P 500, and there is not a chance that we would accept risk in the patently hostile set of market conditions we observe here. In short, we’ve already modified our hedging strategy to expand the set of Market Climates that we define, but because of present conditions, that has not yet resulted in a change to our hedging stance.
Approaching the Eraser
Two months ago, I noted that the surprise resignation of Wells Fargo’s Chief Financial Officer had caught the eye of a number of shareholders, who noted my comment several quarters ago that we could observe a wave of fresh risk aversion “at the point where the first bank CFO resigns out of refusal to sharpen his pencil any further.” My impression is that the underlying state of mortgage debt is no better than it was quarters ago, and indeed may be worse in the sense that there has been no meaningful decline in the backlog of delinquent and unforeclosed homes. While foreclosure filings certainly fell significantly in the first quarter, the decline was driven by record-keeping problems and legal moratoriums.
As Realty Trac observed, “Weak demand, declining home prices and the lack of credit availability are weighing heavily on the market, which is still facing the dual threat of a looming shadow inventory of distressed properties and the probability that foreclosure activity will begin to increase again as lenders and servicers gradually work their way through the backlog of thousands of foreclosures that have been delayed due to improperly processed paperwork.”
It’s fascinating to hear JP Morgan’s Jamie Dimon complaining “We have homes sitting there for 500 days rotting that we can’t do anything about” while at the same time reducing loan loss reserves on those assets. But of course, that’s precisely what the FASB has allowed banks to do. Specifically, there is no longer any need to mark to market, and the FASB appears to have dropped any plan to restore it. The standard instead is “amortized cost” (on which basis you can continuously make the mortgages whole simply by tacking the delinquent payments on to the back of the loan). Little wonder half of all mortgage modifications re-default. The modifications themselves don’t materially change the present value of the payment stream, and frequently don’t reduce the payments themselves beyond the first year. Meanwhile, it’s equally fascinating to observe how much bank earnings for the first quarter (thus far) have been driven by trading profits from commodities and fixed income (thanks Ben).
While the S&P 500 is slightly lower than it was when Wells Fargo’s CFO resigned, it’s probably worth noting that the CFO of Bank of America also resigned last week. The press releases focused on personal reasons in both cases, but then, those press releases on CFO departures invariably have a positive spin. We’re reminded of how Citigroup reported that it had “promoted” its CFO to Vice Chairman in 2009, which the Financial Times later reported was part of an agreement with regulators that included the provision “Citigroup will initiate a process that will result in a decision on (a) whether the CFO for Citigroup … can be more effectively utilized in other Citigroup responsibilities, and (b) if so, on replacements by a person … with relevant financial, accounting or other experience acceptable to the agencies, with the results publicly announced by … publication of Citigroup’s third quarter 2009 earnings.”
Maybe it’s nothing. In any event, given that the FASB has moved in the direction of permanently disabling transparency, it’s not clear that problems with bank balance sheets – even if significant – need to actually work their way through to regulatory events. What is more likely, though, is that credit conditions may be more sluggish to normalize than the upbeat bank reports of recent quarters may suggest. So my concern isn’t so much a replay of the banking crisis and customer runs of early 2009, as much as it is with the headwinds for the banking system and the economy as a whole from continuing debt burdens that have not been materially restructured.
As noted above, the Market Climate in stocks last week remained characterized by a hostile syndrome of overvalued, overbought, overbullish, rising interest rate condition. Both Strategic Growth and Strategic International Equity are fully hedged. Our 10-year projection for total returns on the S&P 500 remains at about 3.4% annually based on our standard methodology, which has continued to perform well over time. It’s worth repeating that our challenge in 2009 and early 2010 had nothing to do with the valuation aspect of our methodology, but instead with the “two data sets” problem that emerged when it became clear that economic conditions were wholly out-of-sample from the standpoint of post-war data that had been the primary basis of our analysis. The conclusion that stocks are richly valued and priced to achieve poor long-term returns is, on the basis of evidence and track record, difficult to get around without heroic and historically inconsistent assumptions.
The issue most open to question, in my view, is the length of time that stocks can hold up without clearing any aspect of the overvalued, overbought, overbullish, rising-yields syndrome we observe. Given that there are several weeks of quantitative easing left, and a small but non-zero probability that the FOMC could embark on yet another program of QE, there is really no way to eliminate that source of uncertainty. It depends far more on the caprice of speculators and policy-makers than on hard analysis or data. But regardless of that source of near-term uncertainty, the evidence implying a poor average return-risk profile in response to the syndrome of conditions we presently observe is clear.
The bottom line then, is that the market appears clearly overvalued, and the evidence for a defensive position in the present syndrome of conditions is strong. But unfortunately, there is no evidence that requires stocks to clear these conditions within a narrow time frame. Still, I strongly believe that a defensive stance remains appropriate here.
In bonds, the Market Climate last week was characterized by relatively neutral yield levels and moderately hostile yield pressures. Strategic Total Return presently has a duration of about 1.5 years, with about 6% of assets in precious metals shares. Generally speaking, precious metals shares have been a good proxy for foreign currency exposure in recent years, in that they have performed well on dollar weakness. As we look at the global economy, however, there are clear pockets of weakness in Europe and potential for slowing in emerging economies. Though precious metals and oil have remained generally strong, numerous other commodities are beginning to back off, and as I’ve noted in recent weeks, gold and other precious metals are showing characteristics consistent with a late-phase bubble. This is important from the standpoint of our investment choices.
When gold prices are constant or rising in terms of the Euro or other currencies, dollar weakness clearly translates to a rising dollar price of gold. However, given the pattern of economic and commodity price behavior we presently observe, it’s not clear that commodity prices will remain firm as measured in foreign currencies. This means, in turn, that dollar gold prices (or oil prices for that matter) may not advance even in the event of further dollar weakness. As a consequence, gold may not be a very good hedge against dollar depreciation going forward. For that reason, I expect that we’ll increasingly establish direct foreign-currency based positions in Strategic Total Return, in lieu of precious metals shares.
Copyright © Hussman Funds
Tags: Breadth, Climates, Commodities, Defensive Position, Economic Concerns, Frequent Basis, Gold, Hussman Funds, Market Fluctuations, Market History, Market Risk, Moderate Exposure, oil, Poor Outcomes, Price Volume, Rising Interest Rates, Risk Conditions, Risk Profile, Robustness, Sentiment, Stimulus Effects, Subsets, Uniformity
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Saturday, April 16th, 2011
Will China’s Economy Overheat?
By Frank Holmes, CEO and Chief Investment Officer, U.S. Global Investors
China’s GDP growth continued at a blistering pace during the first quarter of 2011, rising 9.7 percent from the previous year, according to economic data released today from the People’s Bank of China. Once again this outpaced many forecasts—even that of the Chinese government—and reignited the discussion of China’s overheating economy. While its robust growth may raise a few eyebrows, the economy isn’t in danger of “red-lining.”
Andy Rothman, from Credit Lyonnais Securities Asia (CLSA) points out that the first quarter growth figures “[aren’t] dangerously high given the GDP growth rate and strong income growth” in the country. After rising nearly 8 percent during 2010, inflation-adjusted urban incomes rose 7.1 percent during the first quarter, according to CLSA. Rural incomes grew at 14.3 percent, up from just under 11 percent in 2010.
Fixed asset investment (FAI) also remains strong. China’s FAI grew 25 percent during the first quarter, a reversion to the long-term pace of FAI growth China saw for six-straight years prior to the government’s stimulus plan in 2009.
This pace is supported by a property sector that refuses to slow despite Beijing’s multiple efforts to tap the brakes. Property sales grew 15.8 percent on a year-over-year basis and commodity housing starts grew 19.5 percent in March. You can see from this chart that this is a much more manageable pace than the stimulus-induced spike we saw in March 2010. Current levels are much more on par with long-term trends.
Much has been said about empty housing prices in cities such as Shanghai and Beijing but UBS says that the sharp drop of sales in tier-1 cities have been more than offset by strong sales in most tier-2 and tier-3 cities. These are cities, such as Taiyuan and Xi’an in northwest China, which generally have urban populations of about 4-to-6 million people and are located away from China’s densely populated coastal areas.
Development in the interior has been a substantial driver in continuing China’s rapid growth. Insatiable construction demand from these inland regions helped push sales of wheel loaders—up 45 percent—and excavators—up 58 percent—during the first quarter. In addition, planned investment of FAI under construction rose 19.1 percent, according to CLSA. In addition, the government’s plans for extensive investment in social housing development—10 million units this year, in addition to carry-forward projects from last year—should provide an extra boost.
Chinese trade data released last week showed a 32.6 percent rise in imports during the first quarter. This figure includes a 12 percent rise in crude oil, 38 percent rise in metal-cutting machinery and a 32 percent rise in auto/auto-chassis from a year ago.
All of these factors are very supportive of demand for commodities such as cement, iron ore and copper.
China’s biggest threat continues to be inflation. The country’s Consumer Price Index (CPI) rose 5.4 percent in March, the largest rise in nearly three years. This is certainly something to keep an eye on but not yet at the levels needed to hinder growth or, more importantly, cause social unrest. Chinese government has been pulling all stops to curtail inflation. Recently, 24 commerce associations across the country have made a joint statement to support the government’s effort to defeat inflation. China Premier Wen Jiabao called on local government officials last week to help stabilize consumer product and housing prices.
Food prices rose about 11 percent in March, contributing about two-thirds of the increase in CPI. You can see from this chart that if you exclude food and residential inflation—which was up 23 percent—the inflation levels appear quite manageable.
The rise in food prices is a result of external factors and not symptomatic of an overheating economy. However, the rise in incomes we referenced previously negates a portion of this. In addition, CLSA’s Rothman thinks we are either at or close to the peak in food price inflation.
China’s March money supply (M2) growth rate was 16.6 percent. This was higher than February but 3.1 percent lower than the same period last year. This may be close to the government’s target money growth rate since it is in line with those prior to financial crisis. We think there is still room for money supply to further contract without damaging the government’s target GDP growth rate.
To control money supply, the People’s Bank of China (PBOC) has raised its reserve requirement ratio (RRR) for the sixth time since October 2010, bringing the ratio to a record high of 20 percent. The chart on the left shows how this has effectively slowed bank lending, and thus, money supply. Given that China’s inflation battle is not over yet, we believe the PBOC will continue to raise RRR to further slow money supply.
The chart on the right shows that bank lending is declining in China. After adding Rmb 679 billion new bank loans in March, China’s total bank lending this year is Rmb 2.24 trillion. Without an official loan target for this year, the market’s opinion is that the unofficial PBOC target is around Rmb 7.5 trillion—roughly the same as in 2010.
However, the current new loan speed is certainly more than the PBOC can allow. We expect the PBOC may allow a little more lending earlier in the year, before tightening more toward the end of the year, after a clearer picture forms of where the economy is headed.
Other tightening policies are likely to be completed by the first half of the year and with inflation apparently under control, money supply back to historical levels and food prices peaking, it appears that the government will be successful in engineering a soft-landing.
China analysts Xian Liang and Michael Ding contributed to this commentary.
Percentages refer to year-over-year (yoy) change unless otherwise specified.
Tags: Asset Investment, Bank Of China, Chief Investment Officer, China, Clsa, Commodities, Credit Lyonnais Securities, Crude Oil, Frank Holmes, Gdp Growth Rate, Housing Starts, Manageable Pace, Northwest China, oil, Property Sector, Quarter Growth, Reversion, Robust Growth, Rothman, Strong Sales, Taiyuan, Tier 3, U S Global Investors, Urban Populations
Posted in Commodities, Credit Markets, Energy & Natural Resources, Markets, Oil and Gas | Comments Off
Saturday, April 16th, 2011
Energy and Natural Resources Market Cheat Sheet (April 18, 2011)
- Copper inventories in warehouses monitored by the Shanghai Futures Exchange dropped 4.8 percent.
- China has exported 42,600 metric tons of refined copper during the first two months of 2011, eight times the amount in the last year.
- Mexico (up 13 percent year over year) and Argentina (up 20 percent year over year) became the largest contributors to mine supply according to Gold Fields Mineral Services (GFMS), GFMS estimates a rise of 2.5 percent to a record 22.9kt, driven by growth from the primary and Lead/Zinc sector.
- Seasonally adjusted US auto sales for the month of March remained above 13 million vehicles per year; the sales figures crossed the 13 million vehicle level the second time since the cash for clunkers program that ended on Nov 1, 2009.
- The National Bureau of Statistics reported this week that China’s crude steel rose 9 percent to 59.42mt in March from a year ago and 9.4 percent higher than February’s 54.3mt. This boosted China’s production to the second-highest level on record amid higher demand from builders.
- China’s Gross Domestic Product (GDP) increased 9.7 percent in the first quarter, which was higher than expected and despite inflation rising to the highest level in almost three years.
- Manufacturing growth, which makes up about 80 percent of India’s industrial production index, was at 3.5 percent for the month, down from 16.1 percent a year ago.
- A drop of 16 percent to 8.37 million tons for the first quarter iron ore shipments was reported by Fortescue’s due to heavy rains in Australia, the company said it will raise output to 12 million tons in second quarter.
- China Iron and Steel Association reported a decline in China’s daily crude steel output in the last ten days of March to 1.922 million tonnes per day.
- After the African Union said Muammar Gaddafi had accepted a roadmap to end the civil war in Libya, as a result Brent crude fell below $126. Furthermore, Brent crude fell sharply to below $122 and U.S. crude dropped by $2 a barrel this week on concern high fuel prices will destroy demand.
- China’s preliminary March trade data shows a 29 percent month over month increase in copper imports. This could provide more support to this metal, which ended the week at a one month high.
- Gasoline is crowding out retail sales at rapid pace, its share of total retail sales exploded higher in March to 10.72 percent from an upwardly revised 10.49 percent in February.
- A Transocean owned rig has drilled the deepest-ever water depth well off the coast of India, drilling in 10,194 feet of water, more than the previous record of 10,011 feet.
- Diego Hernandez, CEO of state mining giant Codelco, said this week that the global salmon farming industry could need up to 50,000 tonnes of copper a year to build rearing cages thanks to the metal’s anti-bacterial qualities.
- One of the world’s main suppliers of grain, Argentina, may revive a controversial tax system on grain export. A similar plan to raise taxes on soy exports in 2008 sparked nationwide farmer protests that rattled global commodity markets and hit the popularity of President Cristina Fernandez, who plans to bid for re-election in October.
- The Association of American Railroad reported this week that Major Class 1 cross-continental railroads hauled almost 200,000 multi-modal shipping containers, which was easily a record for this time of the year, conforming business survey data suggesting the U.S. economy has entered a mini boom as cheap money revs up the recovery.
- Although copper prices have almost quadrupled after a two-year rally, largely driven by the belief that China has an insatiable appetite for this metal. Evidence recently surfaced of previously unreported copper stockpiles, which shows signs of about 15 percent of the country’s annual consumption of Copper hasn’t been yet put to use. Chinese buyers are facing a dual problem of higher copper prices and the government’s aggressive move to tighten credit.
- Eskom, a South African power supplier, has said power supply is likely to remain tight for the next five years; a potential risk for the Platinum Group Metals (PGMs) production.
- Plans to halt the approval of new aluminium plants in China to tackle serious overcapacity in the industry. The decision would put a hold on investment worth $ 11 billion.
- Mohammad Ali Khatibi, governor of OPEC, was quoted last week as saying that the global oil market is oversupplied; despite prices that have been pushed up by upheaval in the Middle East.
- Global 2010-11 cocoa surplus estimates last week have expanded to 184,000 tonnes and prices look set to fall further from the 32-year high hit last month. Cocoa exports from Cameroon, the world’s fifth largest grower, hit 186,305 tonnes by the end of March from the start of the season in August, up 21 percent year over year.
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