Recap 2014-09-30

Commentary:

I noted last week that the low inflation breakeven prints are unusual and is likely to elicit some sort of response by the Fed. It’s worth nothing that historically, 5y inflation swap prints below 2% have coincided with either falling or stable 5y nominal yields. That makes sense because arguably in the near term, the Fed can only control the real rate. As a result, when inflation expectations are low, the market tends to anticipate a Fed that can be more accommodative, which means a lower real rate. That is not always the case of course, (like in mid 2011 when the ECB was hiking) but was the tendency, as the chart below highlights. (5y swap rates in orange, 5y inflation in green, 5y real yields in white. Historical instances of 5y inflation breaking below 2.0% highlighted) Anyway, the point is, we may see a pullback in US real yields here… which could be quite a surprise to USD bulls.

Via @ukarlewitz:

Further evidence of EU banks being over levered:

http://ftalphaville.ft.com/2014/09/30/1983062/who-likes-european-bonds/

Notable:

  • CDC CONFIRMS FIRST EBOLA CASE DIAGNOSED IN THE UNITED STATES
  • EU CPI declined to 0.3% as exp vs 0.4% prev. The Core measure unexpected declined to 0.7% vs 0.9% exp and prev on the back of weaker services inflation
  • EU Employment was stable in Aug at 11.5%
  • UK GfK Consumer Confidence declined to -1 vs +1 prev
  • UK House Prices declined -0.2% MoM in Sept vs +0.5% exp. This take the YoY measure down to 9.4% vs 10.4% exp and 11.0% prev
  • German Unemployment rose by 12k in Sept vs -2k exp.
  • Italy CPI was stable at -0.2% YoY vs -0.1% exp
  • Chicago PMI declined to 60.5 vs 62 exp and 64.3 prev
  • US Consumer Confidence declined to 86 vs 92.4 exp and 93.4
  • S&P Case-Shiller declined 0.5% in July vs 0% exp. The index is up 6.8% YoY.
  • Canada GDP was flat in July vs +0.3% exp and prev
  • Japan Jobless Rate dropped to 3.5% vs 3.8% exp and prev
  • NZ Business Confidence declined to 13.4 vs 24.4 prev
  • NZ Building Permits was flat in Aug as exp
  • The PBoC, jointly with China’s banking regulator, released an ‘opinion’ this afternoon, to support sluggish property market. The most important policy change is that the central bank relaxed the criteria for ‘first-time home buyer’.
  • US set to exceed Saudi Arabia within the next 1-2 months to become the world’s largest liquid petroleum producer. FT

Upcoming:

  • Tue: Japan Mfg PMI, AU Retail Sales
  • Wed: EU PMI, US ADP, ISM, Australia New Home Sales, Building Approvals, Trade Balance
  • Thu: ECB, US Jobless Claims, Australia Service PMI, China Non-Mfg PMI, Japan Service PMI
  • Fri: EU Services PMI, UK Services PMI, US Employment, Service PMI, ISM Non-Mfg
  • Mon: RBA,
  • Tue: CanadaBuilding Permits

Recap 2014-09-29

Commentary:

Interesting bit from JPM on how asset classes react to forecast changes:

  • We do find evidence that it is possible to use past forecast changes to make profitable investment decisions. This is likely due to a lagged market reaction to our forecast changes, and to a modest amount of serial correlation in forecast changes. We note that selling 10-yr bonds when our economists have raised their growth forecasts over the past 1-4 weeks, and buying them when they lowered growth was a great strategy over the past 12 years with an average return to risk of 1.0.
  • Buying stocks in countries where growth has been upgraded and selling them where it has been downgraded lost money though. It is our belief that this is likely because higher growth led to higher bond yields and currencies, both of which are negative for stocks. Selling stocks where growth is being downgraded, a rather uncomfortable strategy, actually made decent money.
  • Across countries, we found it quite profitable to buy the currencies of the countries where we just upgraded growth (rising forecast revision index, FRI) against those we downgraded, or upgraded by less. We note that selling bonds of the rising FRI countries against the falling or less rising FRI countries only made money within the DM. Overweighting the stock markets with the higher FRI changes against the lower ones also made good money, but over half the return came from the currency. On a currency hedged basis, this cross country equity strategy performed OK, but was not stellar.
  • Generally, markets react relatively quickly to our forecast changes, typically within the month, but in cross country strategies, we find also that forecast changes over several months have impact, likely as it takes time to gauge diverging growth trends across countries.

Notable:

  • Pending Home Sales declined -1.0% in Aug vs -0.5% exp and +3.3% prev
  • US Core PCE was stable at 1.5% vs 1.4% exp
  • German HICP was stable at 0.8% vs 0.7% exp
  • RBNZ’s intervention data for August reveals net NZD selling of NZ$521mn. This is the most significant open selling position we have seen from the RBNZ in several years. New Zealand prime minister John Key (a former FX trader) would like to see the kiwi at 0.65.
  • Pro-democracy protesters vowed to press ahead with demonstrations unless Hong Kong’s top official steps down, with thousands of people surrounding government offices after violent clashes paralyzed the city center. Protesters dressed in black have gathered in the Admiralty district to demand free elections, while blocking a main road into the central business area. Thousands of pro-democracy protesters are blocking Hong Kong’s streets, shutting down the territory’s business hub and ignoring appeals to leave. Crowds remained on the streets overnight after a day that saw riot police deploy tear gas and batons in a bid to disperse them.
  • Ibovespa futures plunged after a poll showed increased support for President Dilma Rousseff’s re- election bid ahead of the Oct. 5 vote. In the latest Datafolha poll released Sept. 26, Rousseff had 40 percent support in the first round, 13 percentage points ahead of Silva. Neves’s support was 18 percent. Datafolha surveyed 11,474 people from Sept. 25-26, and the poll has a margin of error of plus or minus 2 percentage points. Silva and Rousseff had 30 percent and 37 percent respectively in the previous Datafolha poll, published Sept. 18. h/t Jordan

Upcoming:

  • Mon: NZ Building Permits, UK GfK Consumer Confidence, Japan Jobless Rate, NZ Business Confidence
  • Tue: Month End, UK House Price, EU Employment, EU CPI, Canada GDP, ChicagoPMI, US Consumer Confidence, Japan Mfg PMI, AU Retail Sales
  • Wed: EU PMI, US ADP, ISM, Australia New Home Sales, Building Approvals, Trade Balance
  • Thu: ECB, US Jobless Claims, Australia Service PMI, China Non-Mfg PMI, Japan Service PMI

Recap 2014-09-26: Time to BTD?

Commentary:

I noted last week that this week was historically the weakest of the year, but that the bias for the rest of the year is higher. Yesterday I noted that HY CDX were near the range highs for the year. Meanwhile real US yields have been falling. A fair bit has been made about the recent Fed comments on the Dollar move, but note that they may be more of a concern about inflation in general, rather than the dollar, per se. 10y inflation break evens are now at the lowest level since mid 2013. And the 5y5y metric has fallen 30bps in 1.5 months and is actually already at the lows from 2012 and 2013!

Europe probably has something to do with it, but this is still a pretty major event – the last time 5y5y breakevens were appreciably lower was in the 2011 – when people thought the EU would break up, and the US unemployment rate was at 9.1%! Anyway, the point is, I think this is something Fed is probably fairly concerned about here, and could lead to a fairly dovish outcome in the October FOMC statement if it doesn’t reverse. I noted last week that lower breakevens could be bullish for equities – historically, 10y Breakeven (orange below) prints below 2.0% have marked good entry points for SPX. We’ll see if that is the case again.

Meanwhile, the technical picture is positive. Quantifiable Edges notes that after bounces quickly faily, there is an upside edge:

@JlyonsFundMgt notes that NYSE 90% down volume days have historically tended to mark short term lows:

Also, next week we get the month start positive seasonality bias.

And finally, note that the PE ratio has been in a rising triangle and it has just hit the rising trendline:

Notable:

  • Japan CPI declined to 3.1% vs 3.2% exp and 3.3% prev. The core measure was stable at 2.3% as exp.
  • German GfK Consumer Confidence declined to 8.3 vs 8.5 exp and 8.6 prev
  • French Consumer Confidence was stable at 86 as exp
  • Benoît Cœuré: For a stronger rebound in investment the private non-financial sector needs to raise equity. To revive economy recapitalisation not only of banks but also a repairing of private sector balance sheets is needed

Upcoming:

  • Sun: Bernanke Speaks
  • Mon: German CPI, US Core PCE, Pending Home Sales, NZ Building Permits, UK GfK Consumer Confidence, Japan Jobless Rate, NZ Business Confidence
  • Tue: Month End, UK House Price, EU Employment, EU CPI, Canada GDP, Chicago PMI, US Consumer Confidence, Japan Mfg PMI, AU Retail Sales
  • Wed: EU PMI, US ADP, ISM, Australia New Home Sales, Building Approvals, Trade Balance
  • Thu: ECB, US Jobless Claims, Australia Service PMI, China Non-Mfg PMI, Japan Service PMI

Recap 2014-09-25: HY & SPX; Why Ending QE Does Not Mean Higher Yields

Commentary:

The rise in US real yields are not only driving the dollar, but also outflows from REITs and high yield. The chart below shows how 5y real yields have been leading the HY CDX for most of the past 12 months:

This makes sense – real yields are a major driver of default rates over the cycle, although of course the size and severity is a function of a multitude of other factors. However, real yields have fell somewhat, and multiple Fed officials (Dudley, Evans, Lockhart, Mester) have noted that dollar strength could weaken growth / inflation the past few days. Furthermore, it’s worth noting that CDX HY is now at the top end of a range that has prevailed for about 11 months:

And over that period, those observations have been decent entry points for equities: (in orange below. CDX HY is in white and inverted)

A natural question at this juncture is whether it’s appropriate to assume that recent trends will persist given the end of QE. Bond bears seem to be out in full force, at last ending their long hibernation. I strongly disagree.

Bond yields reflect a clearing level where the amount of money asked/offered by borrowers and lenders balance. There has been a lot of talk about how the end of Fed buying will decrease the amount of lending. Less attention has been attached to the fact that borrowers are not borrowing! Look at demand for mortgage loans, for example. They have been stuck at levels not seen since 2008! And the story is similar in municipal space:

http://online.wsj.com/articles/driving-muni-bond-rally-communities-reluctant-to-borrow-1409869023

That segues to this great post here about how supply and demand impact prices:

http://www.philosophicaleconomics.com/2014/09/supply/

The fact of the matter is that humans think iteratively, which is useful in microeconomic situations, (where only one or a few transactions occur) but inappropriate for macroeconomic situations. (where many, many transactions occur, often in a connected fashion) Because markets move to a clearing price – and in fact keep moving until they do – macroeconomic models are actually much better to understood via a recursive framework. The most common thought about the end of QE is that there will be less demand. Thus, yields must go up, QED. (The head of GSAM reportedly said something like this today) But that’s just too short sighted. The fact is that essentially all market participants know that QE is ending, both borrowers as well as lenders, and they have already adjusted their plans accordingly. Many borrowers have already borrowed over the past few years to take advantage of low interest rates (i.e. future fixed income supply will be lower) and many lenders have put off lending because they only find it economical to lend at higher yields (i.e. future fixed income demand will be higher) The quantity of buyers, in and of itself, (i.e. knowing that the Fed will reduce buying) is essentially meaningless without also knowing the function for the quantity of sellers at that price. As the Philosophical Economics post above shows, there are many situations where the supply to demand ratio can change massively without a major impact on the clearing price. Looking only at future supply or demand as a way to trade rates has historically been 100% wrong – case in point: the federal budget deficit (i.e. the net amount the federal government borrows every year) has historically been strong negatively correlated to yields. And if Japan is an example at all, note that JGB yields peaked at the same time the BoJ balance sheet started falling:

I’m not saying that the end of QE won’t have any hiccups. Arguably we are seeing QE related disruption already. What I am saying is that expectations of higher yields simply because QE is ending is just incomplete.

Some other interesting links:

Interesting Post on Amazon’s business model – sounds like Alibaba, doesn’t it?

http://a16z.com/2014/09/05/why-amazon-has-no-profits-and-why-it-works/

Great dive into the Stock Buyback data:

http://aswathdamodaran.blogspot.com/2014/09/stock-buybacks-they-are-big-they-are.html

Notable:

  • US Jobless Claims declined to 293k vs 196k exp and 280k prev
  • Core Capital Goods Orders rose to 0.6% vs 0.4% exp. The prior print was revised up to -0.2% vs -0.5%
  • Markit Services PMI
  • Russian draft law would allow seizure of foreign property – Reuters
  • Russia’s repeated incursions into Baltic air space rattles NATO. Russian fighter jets are increasingly making “provocative” incursions into Baltic air space and NATO is becoming worried. NATO fighters policing Baltic airspace were scrambled 68 times along Lithuania’s borders this year, by far the highest count in more than 10 years. Latvia registered 150 “close incidents” – FT
  • China plans to connect the Shanghai stock exchange to its counterpart in Hong Kong over the next month as part of an initiative announced by Premier Li Keqiang this year to open China’s markets to foreign investors who have been largely shut out. The move will allow foreign investors to trade the shares of companies listed on the Shanghai stock exchange directly for the first time, and mainland Chinese investors to buy shares in companies listed in Hong Kong. – Dealbook

Upcoming:

  • Thu: Japan CPI
  • Fri: German & French Consumer Confidence, U Michigan Confidence
  • Sun: Bernanke Speaks
  • Mon: German CPI, US Core PCE, Pending Home Sales, NZ Building Permits, UK GfK Consumer Confidence, Japan Jobless Rate, NZ Business Confidence
  • Tue: Month End, UK House Price, EU Employment, EU CPI, Canada GDP, Chicago PMI, US Consumer Confidence, Japan Mfg PMI, AU Retail Sales
  • Wed: EU PMI, US ADP, ISM, Australia New Home Sales, Building Approvals, Trade Balance
  • Thu: ECB, US Jobless Claims, Australia Service PMI, China Non-Mfg PMI, Japan Service PMI

Recap 2014-09-24

Commentary:

I’ve been out for a couple days, so apologies in advance if any of this sounds stale:

The weak German IFO prints today, along with Draghi’s comments earlier this week all increase the possibility of additional ECB easing. Of particular note is the decrease in the EU Consumer confidence indicator. After peaking in May, it has been falling for 4 straight months, and is now below the 12 month moving average. Historically, his is coincided with an extended period of weak momentum (2005) or outright recessions:

Historically, manufacturing PMI has been a good leading indicator for confidence – but in this case, it is suggesting that the deceleration is likely to continue for at least another quarter:

This is particularly important because US growth momentum seems to be slowing. Since February, US and EU growth momentum has broadly offset. With EU deceleration continuing and US accelerating petering out, global growth is likely to slow further in the coming quarter, which suggests a longer period of easy monetary policy.

ECB officials seem to be laying the ground work for additional action, mainly by making the Germans understand that there is a major disagreement here. Per Barclays:

In one of the most politically charged statements to come from the central bank, Benoît Coeuré, a member of the ECB’s executive board, urged Berlin to increase borrowing in order to support investment and cut taxes. Mr Coeuré included his demands in an op-ed penned with Jörg Asmussen, a former ECB official and now Germany’s deputy labour minister. The two officials also called on France to press ahead with labour market reforms while sticking to the budget deficit targets agreed with the European Commission.

This is notable because future ECB easing above the objections of the Bundesbankers will now not be as much of a surprise. By refusing additional fiscal measures, the Germans should now not be surprised if the ECB members from the other countries vote for additional easing. After all, they need to defend their credibility now – 5y5y inflation forwards hit all time lows (1.91%) on Friday:

As regular readers know, I’ve been wrongly expecting some sort of a bounce from Europe this year, but I am rethinking this view. I still think the conclusion of AQR could be a major catalyst, but the high frequency data following the results will now be even more important. A failure of a decent increase in net lending in 4Q and early 1Q will almost certainly result in additional easing, although whether it will be QE or some sort of TLRTO-like, bank oriented measure. It is possible that the AQR identifies some key blockages in the banking system that the ECB could plumb.

Looking at the longer run picture, such a break could be very significant. If the EU does go down the Japan-ization path, a rising debt/GDP is inevitable to avoid large scale social unrest. And the realization of EU countries that they can override German votes at will on this issues may lay the groundwork for an eventual sovereign debt framework that is fully backed by the ECB printing press.

Anyway, this is all probably bullish for the long end. Despite the widespread agreement that the US isn’t Europe, the correlation between 30 year US and EU yields have been quite strong for a long time. But the short ends are almost certainly going to uncouple. On that note, several commentators have noted the breakout in US front end yields. Some have even noted that they may post a larger problem for risk assets as a whole. But one thing to note is that this entire move has been more than priced in. The chart below shows the 2y swap yield in white and the 2y swap yield, 1y forward in orange, and leading by a year. Markets are already discounting a 100bp rise in the 2y yield over the next 12 months – such a move, while a breakout on the spot charts, would not constitute a surprise.

Separately, this is interesting: http://www.nytimes.com/2014/09/24/upshot/for-the-young-money-is-increasingly-trumping-marriage.html?_r=0&abt=0002&abg=0

78 percent of never-married women say that a mate with a steady job would be very important to them, more than any other quality in choosing a spouse. Pew analyzed the pool of employed, unmarried men, compared with all unmarried women. There are 65 employed men for every 100 women.

Notable:

  • German IFO declined to 104.7 vs 105.8 exp and 106.3 prev
  • Italy Consumer Confidence improved to 102 vs 101 exp and 101.9 prev
  • US New Home Sales jumped 18% MoM vs 4.4% exp
  • WSJ: China Considers Replacing Central Bank Head, Party Officials Say Top Contender to Replace Zhou Xiaochuan at PBOC Is Shandong Gov. Guo Shuqing, Officials Say
  • Stock buyback programs by listed Japanese companies have reached the highest level in six years. Nikkei

Upcoming:

  • Thu: EU Money Supply, US Jobless Claims, Durable Goods Orders, Markit Services PMI, Japan CPI
  • Fri: German & French Consumer Confidence, U Michigan Confidence
  • Sun: Bernanke Speaks
  • Mon: German CPI, US Core PCE, Pending Home Sales, NZ Building Permits, UK GfK Consumer Confidence, Japan Jobless Rate, NZ Business Confidence
  • Tue: Month End, UK House Price, EU Employment, EU CPI, Canada GDP, Chicago PMI, US Consumer Confidence, Japan Mfg PMI, AU Retail Sales

Recap 2014-09-19

Commentary:

NB: No updates thru mid week

First, a few notes on equities:

Next week is the seasonally weakest week of the year for equities, using median returns. However, the bias is up afterwards. The negative bias continues using mean returns, which are skewed by historical recessions: (numbers do not line up with YTD figures because returns are relative to the close on the last Friday of the previous year. The 2014 figure, for example, is relative to 1841.40, rather than 1848.36)

Second, the recent decline in long run inflation expectations, which was not driven by risk off, is quite positive for long duration financial assets if they hold here. That makes sense – a longer inflation premium should lower the discount rate and increase the present value. The chart below highlights the last several times 10y breakeven yields fell without a risk off move, and then stabilized:

Brent Donnelly had a good note today observing that both Kuroda and Amari (who holds cabinet-level position of Minister of State for Economic Revitalization) said overnight that they did not want abrupt moves in the currency. This suggests that they are not especially happy about the rapid move in the Yen the past few weeks. Amari made very similar comments in May 2013 which marked the high in USDJPY. This coincides with the results of a Reuters poll – ¾ of Japanese firms are concerned that the yen is hitting levels that are too low and will cause input costs to rise. 47% of companies prefer to see the yen within the 100-104 range while 28% would prefer 99 or stronger. Only 25% wanted a yen below 105.

Notable:

  • Scotland rejects independence 55% to 45%.
  • Canada CPI was stable at 2.1% YoY as exp, but the core measure jumped to 2.1% vs 1.8% exp and 1.7% prev
  • In the US more than 40% of households pay no income tax while the highest paid 1% of workers contribute 46% of all income taxes collected (that 46% number was 18% back in ’79). The Economist
  • AliBaba listed at 68, the high end of its raised range.

Upcoming:

  • Mon: US Existing Home Sales, EU Consumer Confidence, Dudley speaks, HSBC China Mfg PMI
  • Tue: EU PMI, US FHFA House Price Index, US Markit Mfg PMI, Japan Mfg PMI
  • Wed: German IFO, Italy Consumer Confidence, US New Home Sales,
  • Thu: EU Money Supply, US Jobless Claims, Durable Goods Orders, Markit Services PMI, Japan CPI

Recap 2014-09-18

Commentary:

None

Notable:

  • Philly Fed declined to 22.5 in Sept vs 23 exp and 28 prev
  • Housing Starts were weak, falling to 956k vs 1.04mm exp and 1.12mm prev, a drop of 15%. The multifamily component was a large driver – single family declined only 2.4%.
  • US Jobless Claims dropped to 280k vs 205k exp and 315k prev
  • ECB TLRTO first tender generated 82.6bn of credit, which was only about a third of expectations for the combined takeup for both tenders.
  • UK Retail Sales ex fuel rose 0.2% MoM vs 0.3% exp and 0.4% prev

Upcoming:

  • Fri: Quadruple Witching, Canada CPI
  • Mon: US Existing Home Sales, EU Consumer Confidence, Dudley speaks, HSBC China Mfg PMI
  • Tue: EU PMI, US FHFA House Price Index, US Markit Mfg PMI, Japan Mfg PMI
  • Wed: German IFO, Italy Consumer Confidence, US New Home Sales,
  • Thu: EU Money Supply, US Jobless Claims, Durable Goods Orders, Markit Services PMI, Japan CPI