Good morning.. I wanted to get this out early as Bond markets are getting smashed. The world’s governments are embracing MMT and massive stimulus packages are being unveiled. I guess they are trying to bridge the economy while we get through this ...
Good Morning.. Some doubt was cast on the validity of the Moderna drug which sent US stocks lower into the close but we have seen a small bounce since with Nikkei up 1% for some reason. It was a rather quiet session in Asia and looks set that way this morning but I note some early GBP weakness. I am waiting to get short Cable again but I am not sure much of a bounce is coming. I remain macro short AUD and I think there are real problems developing in China with unemployment and falling incomes as supply lines are shifted to other parts of Asia. China is also taking on a few over the investigations into their handling of the virus and this again could be bad for global trade, China and those closely dependent like Oz and the EU. In the last crisis, we saw China drag us out from the abyss as it benefitted from globalization and strong global demand particularly from the US. This is no longer in place as Trump tries to break globalization apart. This could have a profound impact on trade and global growth going forwards so I remain bearish the AUD. I am also not convinced that there is much of an alternative to the USD at present and this dip may present an opportunity or two. But also there is some evidence that this last run higher in stocks was a massive HF short squeeze. If the shorts are out then the downside looks more likely.
Keep the Faith.
Still a big question over the Franco/German proposal. China crisis: Fed policy and this stock market bounce.
The EUR held some impressive gains through most of yesterday, as investors digested the Franco/German commitment to help the weaker economies but as explained yesterday, some questions remain on whether they can sell this idea to some dissenters like Austria and the Netherlands (who have been very quiet on this subject so far). This is a pure test of political will and the power that Germany and France can bring to bear on the others in this 27strong bloc. It will take time and even if some form of agreement on grants can be found, it will be well into 2021 before this starts to actually happen and a lot of water can run under the bridge between now and then. If the deal/idea remains as a set of grants rather than loans, then this is indeed a game changer; but we are not there yet. For years and in fact from the very start of the EU project, Germany has battled against a wealth transfer system but somehow Merkel is close to brokering one. I think she may yet have a huge battle at home coming with this politically. To fund this, the commission’s extra borrowings would need to be paid back further down the line out of the EU budget. Exactly how and when is yet to be discussed.
Spain and Italy applauded the decision as fully expected but they are not the problem. Getting all 27 to agree and especially the idea of grants over loans is going to take a leap of faith for Austria and the Netherlands, both of who could see a political revolt at home. There is some question if this idea is even legal. Sweden’s finance minister said; “There are big question marks when it comes to borrow for spend and whether it is allowed with EU treaties.” Certainly something needs to be done as the EU is looking down the barrel of a gun economically and I have some real concerns that if China does not emerge strongly from this crisis then those so dependent on it, like the EU and Oz are in for a long and meaningful slowdown at best. But at present, I just do not see China pulling the global economy out of this and in fact I think they may be on the verge of another crisis. Unemployment there is rising fast and the economy is still not firing on all cylinders.
Accounting for migrant workers who couldn’t travel to cities, job losses in China may have exceeded 50 million and the real unemployment rate could have hit 12% in March, according to BNP Paribas. As many as 130 million people were either out of work or furloughed in the first quarter. This is NOT supposed to happen in a Communist society. What’s worse, only a small fraction of those are actually claiming welfare benefits due to a cumbersome application process and a meagre amount of funds available. There could be some social unrest based on these incredible numbers and many are fearful of job losses due to supply lines being cut and manufacturing being shifted to other parts of Asia and a re-opening of the economy will not fix this. Remember that back in 1990, layoffs at state-owned enterprises led to protests and a spike in violent crime. Back then, the country quickly recovered as a wave of globalization allowed it to tap into a booming U.S. economy that fed demand for Chinese goods but that is not the case now and in fact pressure is going to remain. After all, nearly 200 million jobs in China come from businesses connected to foreign trade, Minister of Commerce Zhong Shan wrote in a recent article — more than the entire working population of the U.S.
Growth was already slowing into this crisis, as the government sought to reduce debt, and Trump targeted exporters in an unprecedented trade war. Trump’s desire to take apart globalisation is a very dangerous issue for China that I think that this is being underestimated as it will hit global growth and any form of recovery quite hard in my view. China is facing trade spats with Oz, India and the US and maybe a few others over the handling of the virus. Meanwhile the global exporters are exporting deflation at a rapid pace and I am not hearing much about the impact of this either. The impact of this is starting to wash up on US shores at a time where the massive unemployment is starting to impact consumer habits. Yes, lower prices are great for many consumers that have some income over to spend on non-essentials but for many it is just another sign that things are getting bad for the economy. The March personal consumption expenditures gauge fell at a 7.5 per cent annual rate, while the Consumer Price Index in April fell by more than in any month since December 2008. More worrisome is the trend in commodity prices, the best day-to-day indicator of inflation. Yes, we have seen a decent bounce in oil but we may still be seeing a downward price spiral as demand is likely to remain weak. The sector is still staring at bankruptcies and this could be a drag on growth.
Virtually all commodities are seeing declines. The leading commodity price index, the CRB, is down a third since January; meanwhile PPI data from the major exporters continues to fall.
The Fed’s “target PCE inflation rate” is 2% and the market is betting that PCE inflation will average barely over half that rate (1.1 per cent) for the next 30 years! Deflation, if we look back at the history books and especially in the 1929 depression, when rapid price declines drove the economy to its knees, is a killer of prosperity. Why; because workers get crushed because real labour costs rise, which shrinks hiring and drives up unemployment as corporations see margins collapse and profits tumble. Yet even with every market signal flashing deflation, the Fed are still more worried about the stock market falling. There is nothing in Fed policy, apart from potentially cheapening mortgages (and that bit is finished now) that benefits the man on the street. Nearly everything they have done is to the benefit of Wall St. The Fed seems to be suggesting they can do as much as they need to but there is a school of thought that they need to do more and what are they doing; tapering bond purchases. I think they will soon look for an excuse to shift that policy. The Fed has two big fights on its hands and neither are a virus, deflation and growth are the issue for the Fed to focus on and right now I cannot see anything but deflation as far as the eye can see unless we suddenly race into a buying spree from a consumer with no job. As we have learnt from the BoJ, massive QE programmes, buying ETFs and slashing rates creates neither growth nor inflation in these complicated times.
The bounce in stocks recently is interesting as research shows that a lot of it was massive HF short-covering and if we peak into the BoA Fund Manager report, hardly any were expecting a V-shaped recovery; hence the rally; they were all short.
According to the survey the vast majority of financial professionals remain extremely bearish (not just me then) but the shorts may now be out. Who knows if we could get back to the highs in all this but I am still of the opinion that there is a shock coming. BUT it does suggest that the next dip is likely to attract, as many will not wish to miss another run higher. That maybe what finally tanks the market and we saw similar moves in the ’29 depression. Just as everyone piled into buying the long awaited second dip, it kept falling. For a decent fall the market needs to be long; not short. Recently the buying has been one huge squeeze and that may expose equity markets to a bad headline. At the same time, the survey suggested that investors do not expect global manufacturing PMI to rise back above 50 before November (latest = 40).
What I found really interesting in the survey was that looking at markets, the vast majority of respondents believe value will underperform growth. The last time this many FMS investors, (a net 23% of them) expected value to underperform growth was Dec’07. Which means that value will almost certainly outperform growth, which however would mean a tech/FAAMG crash would take place and we all know the dangerous concentration in those top 5stocks; if they wobble the global markets take a drubbing. But for that we need a catalyst and right now I can’t see one (maybe something China related or retaliation for pressure on Huawei). The take from all this seems to be, when asked where they saw the largest overcrowding, they responded Tech and growth stocks. So, everyone is confident that everyone else is long the most overvalued sector in asset bubble history, even as most investors expect stocks to slide. That’s one paradox; an even bigger one is that during the biggest health crisis in modern history and the biggest economic depression in decades looming, everyone is rushing into tech stocks. Not for me up here thanks; I will pass, especially now the shorts are out. As one bank analyst put it recently; “while history suggests markets won’t escape economic reality, they have become skilled at suspending disbelief post GFC” and yet “ignoring reality comes at the risk of fragility, as investors lacking conviction are quick to exit when the trend turns.” I think the point he is making is that the market is NOT the economy; never has been and never will be.
It is blatantly clear that central banks have quashed yield gains to such an extent that stocks are the only yield out there; but can that guarantee price increases forever? The flipside is that the higher the market goes, the more prone it is to flash crashes and “breaking” as investor confidence that central banks will prop up stocks at or near all-time highs, especially with lack of fundamental support, fades away. The asset bubbles are now created by an investor-base starved of alpha and forced to chase trends against their better judgement in a world addicted to the central bank put. What a world and all created by our central banks. Goodness knows how they back out of this and again, looking at the BoJ, I am note sure they can; where does that leave us? There is a global debasement of currencies going on as money printing explodes, including the USD of course. Gold has risen on the back of this USD debasement but it is not known yet how precisely this will play out in the long term, or where the threshold lies at which the currencies issued by central banks are finally called into question.
Remember that currencies are not backed by anything more than faith; that the piece of paper in your hand will but a certain set of goods in return. That faith could be challenged one day. The actual extent of the damage from the fall-out from the lockdowns will only become clear after some time has passed but it will undoubtedly be substantial; we are in that gap now; the eye of the storm if you will. Despite this, investors are still acting as if things can be expected to just continue where they left off before the recent crash rudely interrupted the serene cruise to ever more absurd asset valuations. Alas, that seems unlikely; it is rather more likely that investing will become a great deal more challenging in coming months and years and central banks promising to do more of which means nothing to the economy is simply nuts in my view. But they know nothing else, as is the case clearly with the BoJ. Look where that got them.
Short AUD @ .6550. Stop @ .6685.
Brought to you by Maurice Pomery, Strategic Alpha Limited.
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