Wednesday, June 30, 2010
While we may be kicking off a bounce day elsewhere in the world (TMM are dashing off to the plastic surgeons to get new Kevlar fingers fitted for renewed knife-catching), yesterday China started to resemble a car hit by a semitrailer. Equity markets are down again following another huge sell off yesterday and some of the non-Asia-based members of TMM are asking the all important question: how much worse can it get?Perhaps what is most disturbing about this sell-off is that it comes without a significant re-rating of the profitability of most Chinese companies - the forward PE of the A Share Index is not a pretty sight:This is all grist for those believers in the Chanos/Pettis framework which sees China's "recovery" as a credit bubble that has done little except for goosing Chinese property and bulk commodity prices. The problem TMM have always had with this thesis is that is very heavily dependent upon assuming something notoriously hard to observe: the credit quality of Chinese banks' loan books and the future willingness or ability of China's government to fund the banks just lending on to a bunch of rubbish. One of the first things we learned to do as credit tadpoles was due diligence on loans being auctioned out of some of China's bad banks like Cinda and Huarong. This was a complete waste of time because, after one or two initial deals, all the bidders worked out that these loans were worth 15c on a good day - far shy of the par-ish levels they were marked at or where the bad banks were willing to sell. Since these auctions, very few people in the industry have ever really assumed that marks and provisions at Chinese banks have anything to do with the mundane realities of paying interest and principal on time.
For the most part, then, analysis of Chinese financial institutions seems to have a lot more in common with Kremlinology and the big picture than anything else. China pushing out a lot of equity placements in banks? They probably need the cash pronto. Bank of Communications' loan books mostly property? Prices up, so who cares? This may seem disgusting to Western analysts of financial institutions but when the data is rubbish, why both wasting reams of paper on one Garbage-In Garbage-Oit exercise after another? There is some halfway decent anecdotal evidence of waste in local government investment vehicles, but the national accounting for local governments is similarly opaque. It's definitely bad, just how bad is anyone's guess.
If you assumed all US banks lie about their marks (no comment... ahem...), you could do worse than look at a financial conditions index which normally has a few things in it - TED spreads, equity volatility, credit indices, mortgage rates and some credit growth metrics. On almost any of these metrics, China isn't looking great. The Shanghai 3month lending rate (SHIBOR) minus the 3month deposit rate is ramping aggressively. And whilst there is debate as to how much influence the Ag Bank IPO is having on SHIBOR, the response has been bigger than is usually the case when there is a large IPO:Credit growth is coming off...
And while property data for China is only marginally more reliable than for loan quality, the indicators are all pretty bad. Add increases in reserve ratios at banks and China looks pretty stressed out with only a moderate amount of tightening. Take a look at the CSI 300 excluding financial and the index doesn't look too leveraged, at ~33% debt/market cap. Take a look at EBITDA/Interest cover assuming rates rise 200bps - as they have in SIBOR - and about 20% of the index has EBITDA/Interest of >2.5x. Make no mistake, this is a leveraged economy: not because everyone is borrowing at 95% LTV, Interest Only, but because so much of the economy that actually gets loans has wafer-thin margins, produces more than the country can use and can barely make a buck. Remember, these are "central" SOEs that are listed and represent the more solvent government owned enterprises.
With a lot of the government shareholdings having their backs against the wall and banks heavily leveraged to them, what is a quasi-capitalist state to do? One option would be to privatise more, kick out the bad loans and do all that good 1990s Washington Consensus-type stuff (unlike, what the Brussels Consensus has decided to do in Europe...). TMM have their doubts - last time a serious reformer came up in China, called Zhu Rongji, his reformist plans ran into the need to keep steel and aluminium workers employed, ensuring that in the good times, the orgy of capital spending continued, while in the bad times, not much got cut back. TMM does not see any reason why anything has changed in terms of the political pull of central SOEs and their management.
China has clearly got some tough choices to make - either keep up the tightening to rein in a bigger bubble later, or let it rip and hope you can reform corporates while aggravating a property bubble. TMM is of the view that while the longer-run picture of having sectors go from 9-10% ROAs to less than 1% is all bad, there is no reason to bet that China is not capable of turning on the taps, printing the money and stuffing it into the banking system in order to let good times roll.
Who would have thought the Chinese may have to join the global QE program? Who says they aren't team players?
Tuesday, June 29, 2010
Team Macro Man are picking their fingers up off the floor with their teeth having failed to catch a falling knife yesterday.
So what kicked all this off then? Well the only "news" was the downgrading of Chinese growth expectations (those Communist party guys love to leak their data...) and a story that Japanese exporters aren't hedged enough with respect to the Euro. With the rates moves already in place that last straw saw JPY take off. Meanwile, the Chine PMI leak-induced sell off was followed by the usual rumour of some Chinese tycoon going bust and bailing out of everything. The rest of the move appears to be price driven...
The deflation trade goes ballistic even if core PCE comes in higher than expected: the double dippers are in charge of the 'hood. The US curve has been more flattened than a penny on a rail track, and even Gold begrudgingly comes off from its highs. We don't know how long Gold can hang on to its "inflation on money printing" prop whilst the rest of the World applies the steel press to the US curve on the deflation argument. Can you have both? That is a question Team Macro Man will have a go at answering below...
As in last Thursday's post, Team Macro Man is astounded as to how quickly some quarters of the fixed income market have begun to price in deflation. The latest chart we want to bring to attention is the 5y5y forward nominal UST yield, which is plumbing depths not seen since April 2009, in line with 10yr yields themselves. But what is interesting is that the bulk of the moves have been Real Rate-led (see below chart, brown line 10yr real yields), not by inflation breakevens (white line, 10yr breakeven). In fact, 10yr Real yields are now within a whisper of their lows in March 2008 during the TIPS collateral squeeze. Odd indeed...Or is it? Team Macro Man, above, noted its confusion that despite the curve bull-flattening and seemingly pricing in a deflation trade, that Gold still feels more bid than an iPhone4 at a media convention. A quick chat with a seasoned FX Spot Shag yields the response "well, we flatten the curve because of deflation, an' then we buy Gold 'cos they'll print more money". Experience has taught Team Macro Man that, often, over-thinking things is counter-productive, and Occam's razor applies. The below chart shows Gold (white line) vs. a proxy for 10yr Real Yields (brown line - constructed from US, UK, EU & JN inflation swaps weighted by GDP) on an inverse scale. Funnily enough, they seem to be saying the same thing...So perhaps the real situation here is that though many Gold Bugs have bought Gold on the inflationary argument, they are finding new support from double dippers' deflationary arguments driving yields lower. Heads I win, Tails I win... GGUF!!! How odd. Either breakevens need to come lower, or Gold and Real Yields look vulnerable to a correction... The battle here is not Bond vs. Goldfinger. This time they are on the same side fighting Oddjob.
Monday, June 28, 2010
The world view coming out of this weekend is remarkably bearish and trying to spot a Macro bullish piece in the piles of research coming from banks and independent analysts is pretty hard. This gloom cannot solely be explained by London-based analysts ruing the performance of a once mighty (if you are old enough to remember) bladder kicking team. Whilst we are sure you have seen the press, the most magnificent piece of insightful editorial comment is HERE and is a must read.
No, the gloom is related to the emergence of the Gang of the Double Dippers taking hold of the streets. The double dip theory is now well entrenched to the point that a 1930s-style double dip is now almost mainstream. Doom and gloom-monger pieces are still dominating the wires and Team Macro Man is sure you have them all in front of you. But whilst the macro Eurocrap-out involving piles of toxic waste being discovered in European banks, sovereign defaults etc are still very much part of the longer-term scenario etc, we are puzzled as to why, using the "perfect market prices in all available information" theory, are we not seeing stress extremis pricing in the markets? And no, we don't mean Greek CDS, bonds etc - they don't count any more. And 30yr Portuguese yields don't either.
Western Market positives?
So if divergence is opening up between stress pricing and doom expectations, maybe we should look and see if anything is challenging our normal long-term view of "West to go down the Swanee".
- The banks got off lightly with the Financial Regulation bill, triggering a rally in financial stocks which has been given another lift by the G20 failing to agree on a global bank levy.
- Commodities basing - Copper (see chart below) is refusing to fall and crude is pretty bid. OK, this could be considered as a China commodity argument but it is hard to envisage a Western monster-double dip without a commodity dip. Considering the $3+ rally in oil was blamed on the tropical storm, news that the storm appears to be fizzling out hasn't seen oil fall back far.
- Although Eurozone M3 fell, it appears that new credit is being extended to non-financial corporations:
- The USD looks like it's about to fall - not a stress trade:
But back to that sentiment function. It felt as though the market lifted some of its bearish trades ahead of the G20, in case of an upward surprise, but had been planning on a post-G20 reaction similar to the last one, where a quick rally saw a return to "risk off" pretty promptly. This time, if anything, the surprise is how muted any reaction has been.
For now, TMM are united in feeling that with the lack of of data or comment bombs, there is a good chance of the still-highly popular "risk off" positions being further squeezed. Whether this is something bigger than just a corrective bounce as markets flatten themselves out a tad, or if it really does develop into something more core, we are not sure. But for now, we back the bounce.
Thursday, June 24, 2010
Team Macro Man look at the rates market and cannot help but scratch their collective heads. The mess that is the Eurozone, along with a swathe of disappointing US data, have moved several metrics that they look at to levels that imply very high probabilities of a deflationary outcome. Now, Team Macro Man definitely agrees that things are not so rosy at the moment and the recent news in the housing market amplifies that view, but for the purposes of illustration they would like to invite readers to take a look at deflationary Japan. The level of the EuroYen interest rate curve can give us some sort of benchmark (whatever that means - see yesterday's post!) as to gauging a market-based probability of a deflationary outcome. Specifically, the spread between the 2nd and 6th futures (which is roughly the yield spread between the 3m3m and 3m15m forward rates) is a measure of the probability of a recovery-driven rate hiking cycle or, alternatively, a measure of the likelihood that are rates on hold for a long time. In Japan (see chart below: white is the 2nd/6th futures spread, orange is the BoJ Target rate) during the "all hope is lost" stage of the crisis, from late-2000 until the end of QE in 2006, the 2nd/6th spread traded an average of 20bps (green line), and for the period when the banking crisis became systemic in mid-1997 until the end of QE it averaged 29bps (blue line).
Back to the US. The below chart shows the equivalent Eurodollar 2nd/6th spread (white line) vs. the Fed Funds rate (orange) at 50bps. Only twice before has the Eurodollar curve been this flat when the Fed were not either expected to cut rates or already in the midst of a cutting cycle, once in June/July 2003 when (similarly to today) core-CPI was trending downwards, fears of deflation reached a peak and Dubya decided he wanted to take a vacation in Mesopotamia, and then in February/March 2009 when global growth was being repriced sharply downwards as Timmy G couldn't seem to persuade the market that he had a plan to get the crap out of the banking system. Taking the above Euroyen spread of 20bps for a deflationary outcome and 250bps of hikes being a U-shaped recovery (as per 2004-5) we can then imply the market-based probability of deflation. i.e. - 50bps = p*20bps+(1-p)*250bps, which give a probability of about 87% (or 82% adjusting for the term structure of the FRA/OIS curve) which, to Team Macro Man, looks way too high.
Of course, this begs the questions "So what is going to cause it to turn around?". In March 2009, it was a combination of Count Vikula saying that Citi was profitable in Q1 coupled with one of Uncle Ben's fireside chats. Unfortunately, given the shit show that is European policymaking, Team Macro Man cannot imagine Mangler Merkel & Co. coming out with any positive news on the Southern front though, perhaps the upcoming US
earnings lying season may provide some reassurance. In July 2003, as a result of rates falling so low and the curve being so flat, a massive mortgage refinancing wave was sparked and with it, a very large convexity-led sell-off in rates markets.
What is the likelihood of a similar event now?
The below chart shows MBA Mortgage Refinancing Applications (white), the 30yr Current Coupon FNM (green) and BankRate.com's 30yr Refinancing Rate (orange). You can clearly see the refinancing waves in 2003, in early-2008 and in early-2009, and recently refinancing applications have begun to drift higher, but in nothing like the volumes of those previous spikes, despite mortgage rates being at record lows. Of course, given what appears to be a double dip in housing, or at best an L-shaped recovery, many are in negative equity. But even taking that into account at these levels, a large majority of households have a 50bps incentive to refinance, and mortgage delinquencies fell for the first time since 2008, from 13.6% to 12.7%. Now, one data point does not make a trend, but something is up here.
The fact that most MBS now trade above par suggests that the market has fully embraced the view that prepayment risk is negligible, and the fact that the Fed now owns a very large chunk of the mortgage market and doesn't hedge means that there is much less convexity in the market, but Team Macro Man can't help but think it all seems a bit too easy and this view has become widespread. It is interesting that since the beginning of June, the open interest in Red & Green Eurodollars is a carbon copy of the price action, and has grown by 12%, suggesting that punters having been building these double dip positions in size. It seems to TMM that the market is setting itself up for a pain trade...
In summary, it looks like we have a market pricing a double dip deflationary move, in our eyes, to excess. Especially when considering the dichotomy we are picking up between the deflationistas and inflationistas. Now either the gold bugs have had Hubble space telescopes fitted to their portfolio models and are happy trading for a long way forward or something is about to crack. The way things are currently positioned we favour a crack in Fixed income led by the mortgage market.
Wednesday, June 23, 2010
Let's start with a situation once witnessed while working in the Far East markets.
When a junior trader was asked what he had in EUR/USD he said he was small long. Why? Because the trader next to him was longer and he knew something. When asked what he knew, he replied that his Head of Desk was long even more. So the Head of Desk was approached and interrogated. It turned out that he was long because the Head of the Room was longer still. Not easily put off the trail, he too was approached and asked if he knew anything about EUR/USD? "Not really, but the Treasurer has put a position on so something must be up". On we go. As it turned out the Treasurer was long because "A friend at another bank had told him that China were on the bid". When told what the whole room's exposure was on the back of this chain of rumour he was horrified. And this was only in one bank. If this was being repeated in banks across the region then the positions amassed on this whisper were huge and at some point were going to have to be unwound, which duly happened in a massive dump at about 9.30 London as Asia went home.
So why does this happen? Well behaviourally it's simple really. If you mirror your boss's position in a smaller amount you have 2 possible outcomes:
- You make money.
- You lose money, but not as much as your boss so he can't chastise you.
Since then watching the Asian close has always been an interesting time of the day to gauge the spread between rumour and fact. Which brings us to today. The Chinese-inflicted kicking of the FX market yesterday appears to have elevated their general FX status back to old Voldermort levels. And it appears that the whole world is so terrified that they may be buying EUR/USD around the 1.2240/50 level that is enough for everyone else to be long ahead of that level. But how much?
It could be ugly if the pit-prop isn't as strong as hoped.
But this perceived "Win/Not lose" payout can be seen all over the place. Around dinner tables house prices are too often discussed. Either money has been made or in a falling market they are crowing about how they haven't lost as much as others. Benchmarks are effectively chosen to suit the message that has to be sold. And benchmarks are mostly bollox. They are a crutch with which to abdicate blame. Equity managers down 20% crow about 50 bp out-performance to benchmark, effectively pinning the blame back on the poor mug who ever decided to allocate money to them in the first place. And considering that a market is the sum of all players and the players are the fund managers then net performance can only be flat across the sector. So why waste massive fees and not just go and buy the index?
The application of benchmarks is too easily assumed to be a way of strapping down risk and measuring performance. But strict rules of process end up applying step functions to a world which is actually governed by curves of risk. For example, restrictions placed by trustees on investment institutions to buy "only investment grade" means that you can end up with two bits of paper which could have a micron of separation between their real credit worthiness but be just the other side of the ratings agencies "cross-over" and, as during the credit blow out, be priced 1000 bp differently. And a real world example: why is it that just within a 30mph zone you are a mass murdering lunatic to even think of doing 31mph but 1 inch beyond the restriction 60mph is just fine? And woe betide you if you are ever caught by the police doing 1 mph over the speed limit and, after being lectured on the dangers of speeding, you try and argue the REAL risk differential between 60mph and 61mph....
The problems really kick off when the assessment of reality of risk is divided up between different departments or units. Imagine if, using the driving analogy, someone in the foot well next to the accelerator was responsible for speed risk, someone else tucked under a wheel arch was responsible for directional risk, and someone strapped to the front responsible for impact risk all reporting back to a blind bloke in the driving seat. Going to be a crash isn't there? But this has been known to happen in the real world too.
Another story starts with a chap from a bank's product control department visiting a trading desk and asking them why they are losing money on client trades. The trader replies that the head of sales had told him that the desk needs to be aggressive in its pricing so that business can be won for the bank in "more-profitable" areas, such as exotics. At this point, the risk manager remembers that one of the exotics desks he is responsible for has just started posting some very large losses which he was going to investigate that very afternoon. So he goes to the exotics desk and asks the trader why they are losing all this money, who replies because of xyz there was a big correlation breakdown, the markets jumped and there was no way to hedge the risk. The risk guy replies "But I've been sending you these reports each day with all your correlation risk etc. Why didn't you take this into account?". The exotics guy replies "well, the head of exotics sales told us we had to be aggressive in our pricing to win business and warehouse the risk, the head of trading was fine with it". So the risk guy goes to find the head of trading and asks him why he was fine with them having all this risk? The head of trading replies "huh?". After a brief conversation it turns out that the head of trading doesn't understand the risk the exotics desk were running and thought everything was OK. Net result: flow desk loses money, exotics desk loses money, both flow sales & exotic sales get a big bonus.
Now where is this all leading us? Don't know really, but we do know that there are stupid things happening all over the place because of righteous laws applied in an unrighteous world
Tuesday, June 22, 2010
Team Macro Man are still giggling. That was the best joke all year. The Chinese were laughing so hard yesterday at the way the world fell for their "instant reval" joke even they couldn’t keep a straight face. After surpressing guffaws of laughter when they fixed today's spot respectably lower than yesterday's 6.8275, at 6.7980, they couldn't hold it in any longer and collapsed on the floor with tears pouring down their cheeks as they got their local mates to ramp usd/cny back up to 6.8225 area. Absolute class. Eat your heart out SNB, the world's central banks have just been given a masterclass in currency management. Traders throughout the world are now reconfiguring their screen setups to have a spot USD/CNY chart clearly visible, whatever asset they trade.
We are sure that the Chinese authorities have modelled their policy on those of the Spanish Inquisition...
Last Friday we mentioned that we had a feeling that today was going to be a Turnaround Tuesday and though there is debate as to whether this actually kicked off yesterday, making it a "Counter Monday" we feel there is a good chance that the roll-over continues and we see a new stress phase. This Chinese action has even provided us with a lovely exhaustion spike yesterday.
Commodities were first-in and true to form they are now first-out of this rally. As usual, much of this comes down to China and as this is written the headline "Aluminum Production Cuts Loom in China on Record Output, End of Yuan's Peg" has just hit the screens. The chart below shows Chinese net aluminium exports (white), bauxite imports (brown) and spot aluminium (green).
Chinese firms basically went out and bought spot when it was cheap and then proceeded to move back to buying bauxite (and processing aluminium at a, err... loss... *cough*) until the domestic credit party came to an end in March/April at which time they had to start exporting more finished aluminium products. This is unlikely to end well (exports up 6000%,+/- YoY) given that they are producing below cost. That, plus the China bid being pulled from the market is not helping this or many other industrial metals which are showing the same pattern of slowing imports and ramping exports as producers have to clear inventories.
The energy complex is not that much different - crude imports are up smalls but crude exports are massively down, whereas refined product exports are all up big - 107% for gasoline YTD, which just goes to show that all those cars that people are buying in China can't soak up world energy supply. A corollary of this is that crack spreads are likely to come under pressure as all these refined products move out into the market. All this output in need of a home is a stark reminder that the likes of Hendry and Chanos are probably not far from the mark when talking about some of China's overcapacity problems.
Elsewhere, whilst IFO and Swedish unemployment looked strong there are other signs of a bigger turn:
Soothsayer-fest: Nearly all general risk assets are showing very strong "Soothsayer" turn signals maturing today. SPX, FTSE, DAX, EUR/USD, AUD/JPY, loads of them... Even gold had one 2 days ago. And even without the soothsayers, there are enough traditional technical signs in the system pointing to a roll over.
Gold... GGUF? Not today it isn't.
Equities for the past 11 years have fallen the week after June expiries (Hat tip to Nic).
A US ex-investment bank has lowered its base metal and oil forecasts.
G20 approaches and Mangler has already started hinting that there will be disagreement.
Forward EONIA rates have been drifting higher as the market begins to worry about what happens to Euro repo markets when the ECB's 1yr LTRO rolls off on 1st July.
TMM is standing by...
Monday, June 21, 2010
At the request of one of our readers, and with the UK Budget announcement tomorrow, we thought today was as good a day as any to do a piece on the UK's credit rating. A popular view, at least until the UK election, was that the UK would get downgraded as its budget deficit of 11% rivalled that of Greece, that the cost of bailing out the financial system would lead to a permanently higher debt-to-GDP ratio and that a hung parliament would result in a lack of political will to deal with the problem. Well, somewhat ironically, Gilts have been seen as something of a safe haven over the past month as investors have fled
toxic waste Eurozone Goverment Bonds as well as the Euro and this has led to something of a re-rating of UK Gilts relative to the Eurozone. The chart shows Swap Spreads vs OIS for the US (white), Germany (pink), the UK (green) and the GDP-weighted average Eurozone (orange). But on an absolute basis, UK paper still trades significantly wider than USTs or Bunds and close to where the Eurozone debt (with an average rating of AA+) did prior to the crisis becoming systemic in April.
Team Macro Man holds a somewhat cynical view of the CDS market, and especially so of the Sovereign CDS market, where only a $50m clip can move the market. Against the vast size of the cash bond market, it is often a case of the tail wagging the dog. Indeed, Team Macro Man cannot help but laugh at the irony of various investment bank research pieces claiming that the CDS market is only a "mirror" for the underlying problems in response to claims by politicians that the CDS market is contributing to market volatility and compounding problems. Remember the cries of pain from banks, both present and deceased, that "evil short-selling hedge funds" were causing panic in their stock prices by shorting their CDS? It wasn't *that* long ago was it...?! Anyway, regardless of that point, the Eurozone crisis has at least led to a linkage between CDS prices and the underlying bonds. Looking at the Sovereign CDS spread of the OECD (plus a few other stragglers), we can see that the UK trades as if it were AA+, which is consistent with the above observation from swap spreads.
OK, so the market says the UK is something like AA+, and thus is pricing in the loss of the prized AAA-rating. But is it? Despite the Coalition hiking Capital Gains Tax in order to fund a LibDem pet tax-cut for lower income families, since the election, the message day in and day out has been that austerity is coming in a big way. The government has succeeded in persuading the public that this is the "last lot's fault" according to opinion polls and thus getting the dirty work out of the way early is order of the day. In line with various academic studies, the Tories have insisted on an 80-20 split for expenditure cuts vs. tax hikes, and as a result will have a high probability of succeeding in reducing the deficit. The Conservative election manifesto stated the intention to eliminate the structural deficit in the life of the Parliament and, versus the Labour budget in March and the OBR's appraisal of this last week, would imply another 2-3% of deficit cuts. The first chart below shows the Labour budget forecast for the cyclically-adjusted deficit (brown), the OBR's (green) and the path implied by the Tory manifesto (orange) and the second chart shows the equivalent net-debt forecasts.
Now, a stabilising debt-GDP ratio (above chart shows it stabilising at about 73% of GDP) coupled with growth by the end of the Parliament will be sufficient to maintain the AAA-rating as cyclical surpluses start to bring down the ratio. The below chart shows the long run Gilt swap spread vs. OIS (white line) against the budget deficit (orange line), and a fall in the deficit towards 3% of GDP implies that Gilts would trade a lot closer to where USTs and Bunds are vs. OIS.
The real question here is can they pull it off? Probably one of the main reasons why the UK has not already been downgraded is that it has a pretty successful history of pulling off budget cuts (see below chart of past budget retrenchments). In the 1980s and 1990s, especially, the debt-stock was significantly reduced at a time of very strong growth. Bears claim that austerity will crush growth but contrary to popular opinion, the UK economy had already exited recession when Geoffrey Howe announced his 1981 austerity budget: there was no double dip, and the economy grew above trend for several years. Some argue that this was because of FX depreciation or rate cuts - certainly they helped - but that was not the case in the 1990s when rates & the Currency were moving higher. The key here is business investment, which is crowded in as the government retrenches and was behind both the 1980s and 1990s expansions (see second chart below).
It looks to Team Macro Man that provided the Coalition can get their plans done that the UK will keep its AAA-rating, and that Gilts are likely to gradually richen.
Finally, Team Macro Man should probably mention what most of the market is talking about today: China trying to defuse the national protectionism that's becoming more evident in the US by smoke screening a change in FX policy. The Chinese have used their mastery in obfuscation to leave the market trying to second guess what is really going to happen. Their timing was superb too considering their "don’t let speculators make any money" policy. After the mayhem of May, the spec market had closed most of their core macro bets - including the perennial China play. This morning there are many portfolio managers left standing on the platform checking their watches as the train vanishes into the distance...
Friday, June 18, 2010
Team Macro Man are up to their eyeballs in administrative rubbish and other work-related stuff. So, just a few bullet point thoughts today:
Today is triple witching, and the tail-end of MSCI rebalancing.
Those that have been bullish have had much of their exposure in the options space as recent volatility has provided a desire for defined loss-characteristics. This delta rolls off at 2.30pm and given the way that risk assets have traded over the past few days in the face of poor macro data, there may be a rush to put that back on either today or on Monday.
The BoA/ML Fund Manager survey yesterday showed Macro funds are short equities (again...) on the back of a deteriorating growth trajectory.Many have been highlighting lack of volume on as we have drifted higher. Trading discipline suggests low volume moves are "not real", and thus is seized upon as an excuse not to cover. These positions become increasingly offside the higher we go and a decision to cut these will be thus driven by price and not by macro data.
The Eurozone Stress Tests are VERY important. Cynics will suggest that any test that does not include an allowance for sovereign debt losses will not be credible. But the EU will *never* release such a test because it would let the cat out of the bag. However, a "double dip" scenario will convey significant information, and accelerate the recapitalisation of the Eurozone banking system via the capital backstops in place. Just like in the US, no-one believed the stress tests (Team Macro Man included), yet they marked a significant turning point for markets.
Whites-Reds in Eurodollars have flattened to within a whisper of where they were in late-May when Libor fears were at their maximum and EDZ0 was 40tics lower and showing stress. A lot of hiking has been taken out of the curve now: with EDZ1 at 98.52, Dec11 FRA/OIS basis at 45bps = 98.97. Taking term premia from the back Euros of 4bps/quarter that implies a Fed Funds rate of about 0.79%, or just 59bps of net tightening by the end of next year. If the eventual hiking cycle is 25bps/meeting (which is probably on the low side given the 2003-5 experience), that implies a 59/225=26% probability that the Fed begins to tighten in Jan11, which seems a little low to Team Macro Man. However, perhaps justifiably, the recent Eurozone worries have led to investment banks pushing back their Fed rate forecasts.
"The cost of the BP oil spill in environmental and economic damage could hit $100 billion (£67.5bln), according to new predictions as concern mounts over the company's liabilities". You know when the "silly" numbers start to appear that the worst is probably over. But as a side point, if "economic costs" suddenly become claimable, then what sort of bills could US banks expect for their role in the financial crisis?
Though the Baltic Dry Index is becoming less reliable as an indicator of true demand as the new ship supply side has picked up and the Baltic itself is increasingly affected by tradable derivatives in it, background data is showing a real slowdown occuring. The Baltic Dry is clearly underperforming its seasonals (see chart below - white line):
- Team Macro Man has a sneaking suspicion that we are setting up for Turnaround Tuesday next week...
Thursday, June 17, 2010
Most financial publications - whether Euromoney, Institutional Investor, Finance Asia or similar - sell a lot of copies by handing out awards. Advisory and flow guys get awfully excited about their rankings for underwriting bonds, equities, and for their FX dealing skill. For the latter and most of the flow business it is a little known fact that given the OTC nature of the business it is very hard to objectively assess and often comes down to how popular the sales force is and how good they are at harassing clients to
fill in exaggerate volume in the surveys. Now Team Macro Man is no expert on liquidity, but FX markets sure don't trade like they have $4trn of volume in them!
Not to be outdone, the Team has decided to establish what will no doubt be the first of many awards for foolish market conduct: The CDS Darwin Awards. In recent history, many of the heroes of investing are the guys who got long protection in size against the goliaths of the financial world and raked it in. These contrarian geniuses (or is that genii...?) have earned their place on the cover of Bloomberg by betting against a bubble for a hundred bps or less a year and winning.
The CDS Darwin Award is not for these people: it is for those weak souls who in the face of the underlying equity falling, losing a truckload of cash say “AHA! As a solution to me investing in businesses I don’t understand and getting a trip to investing Oz I will absolve myself of all my screwing up by then trading a product I don’t understand! That will surely make it all good again!”.
No, it won’t. CDS markets are some of the spivviest around largely because they have a few natural sellers and a *lot* of natural buyers when things are going to hell. Overshoot is the order of the day and the idea that CDS markets are anywhere near complete or as unbiased predictors as compared to, say, bond futures or equities is laughable (Team Macro Man will write a more detailed post on this shortly...). They are a protected workshop of i-banks, structurally, and that is largely how they work. In the middle of a crisis there are two likely outcomes: you either cannot get an offer for protection or, if you are, you are probably having your hands cuffed to your ankles by the dealer – you just haven’t realized it.
In 2008, the CDS Darwin Award was awarded to buyers of Glencore:
At some point the investing public decided to apply haircuts to Glencore and Noble Group’s working capital determining that the trading companies were underwater. Sadly someone didn’t inform these people that assets and liabilities for these companies are generally matched and thus tend to self-liquidate: unless we really are going back to the stone age you could collect decent cash with these things in runoff.
This year's Award, of course, goes to recent buyers of BP Plc. 1yr CDS (see below chart - traded over 1000bps intraday). Now, aside from any fundamental considerations of financial analysis, the fact that the $20bn fund is payable over 3 years, etc etc, ask yourself this: what is BP worth to a US politician dead versus alive? The answer: not that much. If the firm was put in liquidation, payment of claims would come to a standstill as these claims would not be considered normal business operations that need to be funded. Assets could not be sold unless they were “clean” and then only at bargain basement prices. Similarly, the UK and foreign subsidiaries would go into total lockdown as they go through a bankruptcy that looks more like Chapter 7: administrators in, very little cash out. Fishermen from Alabama would join the back of the line with other senior creditors. Compare that to keeping the firm alive, paying out claims as they are filed as opposed to validated by a court of law and thus keeping the general public (and the Democrats' election prospects) happy.
So whatever your estimate of BP’s damages (pick a number, any number…) no one is incentivized for this company to go down. For those who are familiar with these kind of liability disaster zones look no further than the likes of James Hardie:
It paid in full and on time as it paid out claims related to asbestos deaths from 2006 onwards. Now it looks pretty healthy for a building materials company which might give some indication as to what BP shareholders might get for their patience from here on in.
Team Macro Man would like to open the nomination for other market Darwin Awards to our readers.
Wednesday, June 16, 2010
Team Macro Man are going to be scattered to the four winds for the next few days so the posts may be sketchy. But there are a few things that are troubling us. Apologies to the readers who like graphs and quant analysis because here are some ponderances.
As expressed in "the view from the top" the basic game of pass the parcel of debt has seen the music stop with the sovereigns holding it and sweating like they had a packet of anthrax in their laps. Quite right too. Since then liquidity has been solved as far as we can see, but solvency hasn't. Of course it was too simple to assume that the West would knuckle straight down and earn enough back from the rest of the world, either by producing more efficiently or devaluing their currency and inflating their way out of their obligations. Before we even get to that stage we have to go through the Robin Hood phase.
The private sector got bailed out out the expense of the State and the State are now looking for a way of getting their money back. The difference between the private sector and the State is that the State can change the rules whenever they want leaving the private sector with little choice other than to comply or run away. The State is never quite as direct as to say, "Give us our money back or you'll feel the chill of my steel" but the messages coming from many sources are now pretty much as good as.
If you are going to go and mug a rich corporate the first thing to do is to make sure that the voters are on your side. So first the PR machine kicks in -
Banks are evil, right? So they are first on the list. Even if the too obviously named "Robin Hood tax" doesn't directly fire up, the PR machine appears to be cranking up again for another attack. If you saw the UK's Channel 4 "Dispatches" program on Tuesday night you couldn't have lined up a more anti-banking lot to "expose the evils that still lie within". Alistair (Scapegoater) Darling, Paul(Got to sell equities at the bottom) Myners, a Priest (can't not trust a priest. hmmmm) and some ex-head hunters kick it all off to the point I was surprised their wasn't a new set of City riots yesterday. A right old shoeing of the banks is on the cards and they will comply with the demands. The wallets are already about to be handed over. Mugging done, next please.
Large corporates. Well Well Well. BP. Oh dear Christ what a completely sad affair all round. But for Mr State it was like finding a man comatose in a dark alley with a trunk of gold. Obama didn't even look twice at the likes of Halliburton, or the less well off bystanders. He had the advantage that the guy on the floor was an out-of-towner too (well he was wearing a coat made in a foreign land), with few local friends. The cost of the clean up is going to be huge and diverse but in the really big picture every one of the billions of dollars spent and compensated by BP is money into the whole US economy. Whether it be just paying the guy's who are doing the cleaning up, or compensating the fishermen whose seafood isn't being caught and sold, or the tourist operator, via the money that the would-be buyer of that seafood /holiday has spent on substitution elsewhere. It's money from a large corporate's savings into the system. BP is a special case but it does hint how the large corporate is under the same cosh and ultimate fate as the banks, given half a chance.
Direct taxation muggings are on the increase too. Wealthy individuals are legging it out of high tax regimes where it is easy to do so, and more importantly the marginals are being deterred from entering them or are returning to their native roots. Without tax normalisation you'd have to be a very devoted Singaporean to want to spend the rest of your days in London. Macro Man's own departing gift to the survey lady in LHR departures was along the lines of "You've driven me away".
As for regulation - Just have a look at what the Germans are trying to do. If you can't beat 'em, tie 'em up in so much red tape they won't be able to breath. Reminds me of the French when told they HAD to allow imports of videotape recorders from Japan in the early 80's, despite their interests in Thomson. So they bottlenecked the imports by making them all go via one office of only 9 people in Poitiers. Class!
So with the State squeezing the individual, the corporates, the banks, anyone else they can defame and mug and strapping the rest up in red tape, what are the alternatives?
a) Pay up
b) Attack the mugger and send him packing - Now this is going to be an interesting development in Europe if the populace of, say, Greece decide that they won't pay and boot out the government. You can bring in as many academics and IMF superheroes as you like but if Georgiou Public doesn't understand it he may not agree and decide to bring in a government that sticks 2 fingers up at the creditors.
c) Run Away - But where to? Now this is where I unleash the shackles of reality and think big-
You want an unregulated, cheap , empty and undeveloped country you can effectively buy and start again in. Somewhere to build the new Singapore of the European time zone, unsaddled by monstrous debt and irrevocable old laws (Dubai), yours for the moulding. I have had in the back of my mind for many years that a large consortium of the mega-rich, private and corporate, should buy Eritrea from its owners and build a low tax, regulation free Utopia. The Country motto being Caveat Emptor and the only rule being, in Mad Max style, "Bust a deal , face the wheel". Oh, and "No Spitting" because I've always liked that one. It would immediately place responsibility solely on the purchaser to do their due diligence with no crying to rating agencies, government or personal claim lawyers if they cock-up. A secondary insurance market would naturally evolve ( Like CDS's) to cater for those that didn't want to bother with their own due diligence and this would be a measure of "implied" risk rather than the "theoretical" risk that rating agencies uselessly peddle. But at least that would pay out, unlike a ratings agency which just shrugs. As for security against the hoards of upset western nations suddenly pissed off at somewhere else attracting all the money? Well, next-door in Somalia are a bunch of easy to rent guys who for the last 20 years have been running rings around all-comers. Job Done..
Madness over. However, there is one country that is quietly shaping up to be a pretty good contender for the role of off-shore Europe..... The new Carthage. Have you seen what Libya are up to these days?
Tuesday, June 15, 2010
Last night's UK RICS Housing Survey pointing to further strong gains in UK House Prices (see below chart) has left Team Macro Man collectively scratching their heads and is certain it is not alone in wondering why the fortunes of the UK housing market ("it's aliiiiivee!!!") have been so different to those of the US (which looks a bit like this parrot). Now, Team Macro Man does not possess a uniform view on this and would like to invite readers to present their own views in the comments, but for the sake of actually writing something today, will make an attempt to explain why UK House Prices are bid and may not actually have been as bubble-like as those in the US...Obviously, this latest jump can be blamed on HIP replacements planned by the new government, but even after that the balance is still pretty high. The first place to start is home affordability - in this case, the House Price-to-Earnings ratio (see chart below, white line), which obviously hit pretty bubblesque levels of 4.8x earnings in late-2007 before plummeting a low of 3.55x in mid-2009, but seems unable to plumb the "undervalued" levels of the mid-90s. Perhaps the answer here is the currency, London and the Eurozone crisis? Team Macro Man has heard many reports of strong interest from Europe, the Middle East, Russia and even China. The orange line in the below chart shows the house price-earnings ratio scaled by the EUR/GBP FX rate in order to see the attractiveness in EUR terms to Giorgio & Giuseppe, and you can clearly see it got to the "undervalued" levels and still hovers around the long-run average. While that's there, the foreign money will come into the top end of the market and drag everything else up...Team Macro Man was always taught never to underestimate the US Consumer, as they will always find some sort of bubble to finance their spending. The below chart shows Mortgage Equity Withdrawal (MEW - white line) and US Consumption growth (orange line): in the 1990s, consumption was first financed by the equity bubble, but from 2001 until 2008, in order to keep buying those Plasmas & Priuses, Joe Public took increasing amounts of equity out of his house, as can be seen by the correlation between the two series over that time period.
Now the Team has also been taught never to underestimate the stupidity of the UK Consumer, so they must've done the same, right? Err, no... guess there aren't as many hippies in Islington as there are in San Francisco. In the UK, while there was a similar amount of MEW (chart below, white line), it doesn't appear to have gone on consumption (orange line) at all, and there is very little relationship between the two series - in fact, consumption was actually quite a bit *lower* during the "bubble" than it was in the 1990s - until the economy fell off a cliff late-2008. So by definition this money must have gone into saving, and the only way to square that is inter-generational wealth transfer: young people taking on debt to buy their first houses and old people selling those houses to them, downsizing and booking the cash for their retirement. Now, that might not be a particularly socially cohesive situation to be in, but it doesn't imply that house prices are overvalued (once the government has taken its slice, that cash gets returned to the younger generation via inheritance).
For all the media talk of a buy-to-let-driven property market, the numbers still don't stack up. If that were the case, then you'd expect rental yields to have sharply fallen and though they have (chart below, rental yield index - white line), a quick comparison with 3yr Real Gilt yields (using trailing 1yr RPI, orange line) shows that this isn't really out of line with other assets. Perhaps the real answer is that real yields are plumbing 60yr lows... in which case, the answer to Bernanke's question about why Gold is going up is: "it's real yields, stupid!".
So given the persistence of UK inflation, perhaps Merv' is behind Joe Public's curve? Buy housing, sell Jun11 Short Sterling...
Talking about where property prices are going next is probably as contenious with our readers as mentioning Apple vs the rest of the world. But in this case, we really would like to hear the dichotomy of your views!
Monday, June 14, 2010
After a football dominated weekend, the only solace England supporters have is that God's Sporting Nation got even more thoroughly taken apart by the clinical Germans. The Robert Green Jokes are running wild around London markets today and the England Joke/Real News ratio is indicative of a market that really is gazing into a pretty macro data free week.
And no news = good news. So without any Tape Bombs from Europe the "risk on" squeeze can continue. However the Tape Bombs are a big IF , with today's meeting between Sarko and Mangler being a veritable minefield. Fun to note that the "home" of Europe, Belgium, is now governed by a parliament whose party with the most seats is in favour of a break up of the country. Belgium is a little model village of Europe.
So in markets land, equities continue the grind upwards but, though prices have been marked higher, there isn't any conviction and the market is lacklustre. Technically there are buy signals in the Spooz as the downtrend is broken and the MACD is a "buy". But overall Macro team cant help but think that German exporters are the ones laughing all the way to the
bank cash pile and so "should" be the best area to play a squeeze.
Gold, though is not expressing any relief in risk as the BGWDI (buy gold, wear diamonds, innit?) effect continues to more cheering in the ranks (taxi ranks). But considering the Euro function is the stress point then Gold/Euro is where the signals should be coming through. And that is taking more of pause. Can Gold/USD go up on stress and also up on less stress? If GGUF is the new DGDF ( Dollar Goes Down Forever) then it is a tad worrying as we saw how the DGDF ended in a large WTF...
Interestingly, the CFTC data in EUR/USD looks like shorts have INCREASED to almost record levels (see first chart below) despite its crawl back higher while, on the other hand, risk-reversals have bounced (second chart)- something of a divergence. Looks like we are lining up for a bust up between the Fundamentalists of Euro Sceptics and the Extremists of positioning. The path of pain is the usual route, as system trend-followers are forced through the exit.
But the macro background, though cloaked in policymaker shrouds hasn’t really changed. The argument about deflationary vs inflationary pressures continues with the vast majority calling for massive deflation in Europe. But this really depends on how self sufficient Asia is. Can Asia cope with a big slowdown in European demand and manage to maintain prices? We have seen Chinese minimum wages push higher, we see the inflation in China stay high and Chinese export data continues to be strong (Long Beach Container data show largest y/y growth on a seasonally-adjusted basis in imports since 2002 (see chart below). On a nominal basis, the largest number of imported containers since Nov08).
So, if the rest of the world is ticking along just fine and this is a Eurocentric problem then is the analogy something like this - If Team Macro Man get fired, yet the rest of the country is just fine, does Team Macro Man experience deflation? No, prices around them won't change, just their level of relative wealth.
Team Macro Man don’t suffer deflation. They suffer poverty.
Friday, June 11, 2010
Oh dear. Football is about to dominate the markets and Team Macro Man are crap at football. Since they have always been surrounded at work by so many experts in the field of "Foopball" they have never needed to nurture any knowledge of their own. The name of any goalkeeper's granny can always be gleaned within nanoseconds from the veritable verbal wikipedia that surrounds them.
Dont get us wrong though , we have picked up a few things.
That man in black is the equivalent to the FSA/SEC. He chases along, following the game rather than leading it, throwing down retrospective edicts and punishments. He often forgets he is on the pitch rather than viewing from afar and that any new rule will change the flow of play in unforeseen and unintended ways.
Linesmen - Compliance officers. not actually on the pitch, but run up and down on the sidelines enforcing the bidding of the man in black, pointing the finger of blame at anyone they think might have transgressed one of the anachronistic rules. Not as important as the man in black, though they think they are. Have been given flags to wave to make them look more authoritative but they would rather have big whistles (so to speak).
The Goalkeeper - He's a large US ex-investment bank, the only one allowed to cheat by handling the ball and who shouts at the rest of the team when he isn't doing anything else. The rest of the team's performance is inversely correlated to the proximity he is to the action.
Strikers - Petulant overpaid primadonna's who are given the best position on the pitch from which to score Goals. Idolised and worshipped by the fans, tolerated by the management because of the goals handed to them on a plate, hated by the rest of their team mates who do the graft and who finally come a cropper by being caught out doing something they shouldn't. At which point they suddenly find they haven't got any mates. Sound familiar?
The Coach - Desk head, one level above the guys who play the matches. Only on the pitch to train and encourage, the rest of the time is spent shuffling papers. Was once a lesser name himself. Teaches traditional skills he learnt in the old days in the old fashioned way. Under pressure from above to get results which produces unpredictable mood swings of shouting, yelling and snap punishments, mixed with teary reminiscences of the glory days.
The Manager - Glass goldfish bowl on the floor above. Plays numbers, people and politics with equal skill. Has trodden on a lot of people to get where he is both on and off the field. Gets away with bad mouthing the competition and anyone internally in his way, though to the investors he is sweetness and light and a man who brings in results. If he doesn't - he s out at the end of the season. Sometimes an old successful striker (see above) who hasn't tripped himself up so far.
Scoring a A Goal - "My Goal! My Goal! My Goal!" - Obviously completing a deal. Everyone who touched the ball or came within 20 yards of it in the last 1/2 hour wants a piece of the glory. Victory dances are often over the top, self indulgent and upset the away supporters. Sometimes involve large bills for Petrus.
Conceding a Goal - "Your fault, Your fault, Your fault," - Missing the deal. Everyone denies any part in the episode, finger pointing ensues with the blame finally being firmly stuck on the back of the person who really wasn't involved and hadn't even noticed the event. Normally the youngest player.
The offside rule - designed to stop a "Kerviel" or "Leeson". Overly complicated, hard to understand, hugely debatable and normally spotted too late. Everyone blames everyone else once denying the occurrence of the offence it was designed to stop fails.
The Fouls - Well how are we meant to beat our competitors without pushing the envelope of risk and rules? If caught protest your innocence vehemently and then blame the bloke in black for being an idiot (see above). The punishments are normally light enough not to deter future attempts. "Unlucky you were caught".
A Penalty - Being handed a near certain winner because of someone else's cock-up or conning the man in black into believing an injustice has been suffered. JPMorgan were awarded a penalty and scored a "Bear Stearns".
Lloyds Plc , however, managed to completely muff a sitter when they were awarded a penalty, kicking the ball straight back into their own faces to score a "Halifax".
So we hunker down and brace ourselves for a new round of nationalism which really isn't needed. There is too much of it elsewhere at the moment with the England/USA match billed for tomorrow kicking off a week early via Obama vs BP. Every rule has been challenged and broken. Protests are fierce on and off the pitch and no one knows where the man in black is......or was.
May your favourite team win ............. unless it's playing ours.
Thursday, June 10, 2010
Wednesday, June 09, 2010
In Markets land something is afoot. There be portents of change. Getting a bit school-Macbethy, there be rabbits laying their eggs in the trees. The mistletoe be a'flowerin' early, the cows be givin' birth to dead eels and even the wrong type of oil is found in the Gulf (not ours claim BP).
Now please don your tin helmets for a tour of the conspiracy theory
First off, the creeping BTP futures through yesterday. Italian bonds weren't meant to do that were they?
Perhaps we are seeing the start of the iPIGS+CBs= GSE function kicking in with a creep back in spreads. EURHUF is creeping its way back down to the starting line pre Friday's race upwards too.
Then there were the comments from the Japanese Finance Minister re: exchange rate stability. Taken to mean JPY but could it have been angled at support for coordinated global stability and, by inference, intervention?
Then there was the 1040 Plunge Protection Team in SPX. Ben was wheeled out two nights ago on the approach to these levels and we saw a miraculous bounce from there. The most interesting point here "Trading volume on U.S. exchanges totalled 11.5 billion shares, the most since May 26 and 20 percent higher than the 2010 average, according to data compiled by Bloomberg" - more than traded on the poor NFP dump last Friday.
Then there was the "rumoured" return of the SNB in EURCHF - guess that if you have 230bln of reserves now on the balance sheet what are another few billion between friends? But are we SURE these Euros aren't leaking back to their owners? Is it JUST a Swiss idea? Are the Cantons going to be happy with an investment performance that puts some recent Hedge Funds losses in the shade? Who are the secret investors in SNB LLC we want to know? Is it a coincidence that today's Portuguese bond auctions went well...?
*PORTUGAL EUR816 MLN 4.8% 2020 BONDS BID TO COVER 1.8Then there were the Metals. They all had a good turn too. Gold fell back sharply after new high above 1250 (taxi driver's cheering). Base metals were all up and it appeared to be to be pretty broad (Zinc up 6%).
*PORTUGAL EUR701 MLN 5.45% 2013 BONDS BID TO COVER 2.4
Then there was the launch of Apple's new iPhone. This subject is too personal to cover here so please see the footnote below *.
And finally if ever there has to be a seed crystal to drop into the supersaturated solution of conspiracy theory then this has to be it - the Bilderberg group met last week. Have the Euro-Illuminati swung their devious and cunning plans to take over control of the last Euro into action? Or have Team Macro Man just been reading too much Dan Brown.
You can now remove your helmets.
Oh hang on, you might want to put them back on before you read these couple of tid bits as they are almost too good to believe:
- Spain saves Euro 340million per day if civil servants strike.
- The Japanese have turned to the oldest form of persuasion to get their JGB issues away.
Well thats the top for Apple. The week after I finally bow to peer pressure and trade in years and years of Windows and PC experience for my first iMac, Apple launch their keenly awaited iPhone4. Well its a cheap pun and I haven't seen it anywhere else yet... so here goes... "What's an iPhone for?"
Only just having crossed into the church of Apple and still sitting in pews at the back, I can't really fully immerse myself in the adulation and worship of this new totem by the high priests up at the front.
"Its got multi-tasking!!" - woop diddly doo... my first Windows Mobile 10 years ago had that.
"Its got an amazing screen" - well I prefer to watch films on a big screen so the definition on 3.5 inches is pretty immaterial unless I was to suddenly develop minus 15 diopter myopia and get 2 (one for each eye).
"Its got a gyroscope now with its accelerometer!!" - great, I'll call you when I take up gliding.
"Its got lovely looks, 2 hrs longer battery life, my god its an iPhone4 !!" - Yaaaawn...
Now if they had added an external memory card, an FM radio, the ability to withstand at least a light mist without invalidating the warranty and a sync system which bypassed i(own your soul)tunes and uses a mini-usb then I may have been willing to take the next step up the aisle of Mackiness. But as it is, it just makes me think that this is a turning point for the company. I have just handed over vast sums for a machine which though cringingly pretty and fast, is unable to play MY DAMN WMA MUSIC FILES!!!
Android me up Scotty!!!
(OK, braced for a cart load of abuse in the comments for that little tirade, but would really rather we didn't delve too deeply into Mac vs PC debates, even if I did start it!).
Tuesday, June 08, 2010
We know that Reserve Managers have been selling Euros on any bounce for a good part of the year. Recent comments from Iran and anecdotal evidence from market makers is that these guys want to get rid of their Peripheral paper and fast. And this is very similar to the GSEs in 2008. Specifically, there are a bunch of essentially insolvent and borderline-liquid entities (the iPIGS™) that have had an implicit guarantee from a higher authority (Greater Germania). The EU/IMF package has made this guarantee slightly stronger, but it is still not explicit given that Germany could just bugger off and leave them to rot.
Let's have a look at what happened to the GSEs. The credit risk priced into the GSEs in mid-late 2008 was justified along these lines: the US government just didn't want to go that extra step and explicitly guarantee their debt - indeed, despite the Conservatorship of September 2008, they are still not officially guaranteed. This is important because in the 1st half of 2008 a negative liquidity dynamic began to appear in the GSEs (and also, for that matter, in USTs), whereby foreign creditors (read: SWFs, CBs and the rest of the currency bandits) would only lend at short maturities. This, of course, came to a head in mid-July 2008 when Hank Paulson
misfired unveiled his "Bazooka" in which the Federal Government was authorised to inject capital into the GSEs. However, it still did not explicitly guarantee them. The Chinese et al. swiftly concluded that the US Government did not stand behind them and began dumping their debt en-masse (see chart below - orange line) and switching it into USTs (white line) to the tune of $446bn by November 2009 when the amount of Agencies held by foreign official institutions began to rise again.
As for the current similarities with the Peripheral Europeans, there isn't any official data for official holdings of Eurozone bonds that I know of (if anyone does, please do let me know!), so Team Macro Man have tried to construct a proxy for it by taking the official holdings of USTs and applying the COFOR FX Reserve shares to it in order to at least come up with an order of magnitude number. At the end of 2009 it looks as though they held around $1trn of
toxic waste Eurozone Government Bonds (see chart below - orange line, $bns), which has probably been acquired at an average FX Rate of something like 1.25. Under those (very back of envelope) assumptions, that is something like EUR 800bn. Under the (also perhaps dubious) assumption that the share of these assets was allocated as per share of Eurozone GDP, then something like EUR 580bn are held in non-German bonds.
Just like in 2008, it seems that reserve managers gave policymakers some time to see what they would do, but just as in 2008, the policy responses have been inadequate and half-hearted. As a result, it now appears that these managers are attempting to cut their exposure to non-German paper quite aggressively. Given that there are only EUR 620bn of tradable Bunds out there, that is quite a small hole to fit into. Perhaps one of the reasons that the GDP-weighted EMU spread to Bunds just keeps leaking wider (see chart below)...?
The fire-sale of US Agencies pretty much ended early-2009, after global deleveraging pressures on FX reserves began to decline, but it took a further six months for confidence in them to return to the extent that holdings began to increase. In this move, just under half of their existing Agency holdings were liquidated, so again, back of the envelope, that would suggest from the beginning of 2010 a need to sell something like EUR 290bn of EGBs. Not a small number.
How are Europe going to stop these internal flows? Team Macro Man just hope they don't hand the job to Mangler Merkel...