The Perils of Mopping Up

By: Doug Noland | Sat, Oct 12, 2013
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Six days and counting. The markets have already discounted a deal.

October 9 - Reuters (David Milliken): "The U.S. Federal Reserve should try to stop a damaging cycle of booms and busts by breaking investors' expectations that it will mop up after future asset price bubbles, one of the pioneers of inflation-targeting said. Arthur Grimes, who developed inflation-targeting at the Reserve Bank of New Zealand in the late 1980s, said the Fed had inadvertently made bubbles more likely by promising to help the economy after they burst. 'The largest economy in the world is leading policies that lead to asset booms. It makes it incredibly difficult for other central banks to have a credible policy.'... Grimes said investors were still likely to pile into asset price bubbles because they expected that even if they burst, central bank action to support the economy would soon cause asset prices to return to their previous levels. The U.S. Federal Reserve was particularly at fault after repeatedly supporting markets following brief episodes of financial market turmoil from the 1980s onwards, Grimes said. 'In my view it was a big mistake by the Federal Reserve... They are stuck between a rock and a hard place, in terms of the Fed officials themselves. You would have to have a big bang to say: 'We are targeting price stability. We are targeting stable asset prices as well as stable goods prices.' ... Grimes also had words of caution for central banks adopting forward guidance on their future interest rates, saying it needed to be consistent and should not be a mask for changing inflation goals. 'If you revise based on new information, that is fine. If (the public) think you are going to revise your criteria for where you are going, then you lose your credibility,' he said."

President Obama lavished praise on the soon-retiring Ben Bernanke this week as he announced Janet Yellen as his choice to head the Federal Reserve. Market players absolutely love Bernanke and were cheered by the Yellen selection. Larry Summers? Well, he certainly wasn't wedded to the QE experiment and would have likely taken a less than friendly view of the Fed backstopping markets and targeting higher asset prices.

I was critical of the decision to appoint Dr. Bernanke Fed chairman back in 2004. From my (and others') perspective, it's difficult to Credit him for rescuing the system from near collapse back in 2008/09. After all, his doctrine and policies were fundamental to the preceding Bubble.

During the Greenspan era, the Fed strayed dangerously away from sound central banking. Ben Bernanke, the esteemed academic and expert on the causes of the Great Depression, was the last person that would pull the Federal Reserve back from activism, market manipulation and inflationism. And, indeed, he championed the view that central banks should ignore asset Bubbles and instead rely on regulation to contain excess. Central to Bernanke's thesis was that Bubbles could be ignored with the understanding that central banks (with their electronic "printing press") enjoy the capacity for aggressive post-Bubble "mopping up" reflationary measures.

Essentially, the doctrine holds that debt problems can be inflated away through aggressive monetary expansion. The Federal Reserve targeted mortgage Credit as the reflationary expedient in the post-tech Bubble reflation - with disastrous consequences. Somehow, the Fed and its flawed doctrine were never held accountable. What began as the Fed employing federal government Credit as its post-mortgage finance Bubble reflationary expedient has morphed into an experimental use of its own Credit to directly inflate asset markets.

As conventional thinking has it, "Thank God for the Bernanke Fed with all the dysfunction from Washington politicians." Yet our central bank should take primary responsibility. After all, Washington and the country are divided by the issues of massive deficits and the government's commanding role throughout the U.S. economy. This is a direct consequence of previous serial Bubbles and the Fed's expansive "Mopping Up" operations. It is also a reminder of how history warns that once monetary inflation takes hold it garners many supporting constituencies.

The Fed has immersed itself in the middle of deeply-divided politics. Federal Reserve policies have fomented speculative asset Bubbles and attendant wealth redistribution. Those on the political left have justification for distrusting the markets, while pressing forward with policies of redistribution. Fed-induced monetary instability has led to severe structural maladjustment. Fed "mopping up" has monetized an unprecedented peacetime expansion of public spending and deficits. There is ample support for the view that fiscal and monetary policies have been deeply detrimental to the economy and society. Those on the political right have justification for their view that "money printing" and "big government" risk the downfall of our great nation.

I was struck by comments from Wall Street punditry in the aftermath of the Yellen announcement. "She will touch people in a more feminine way." "Good for our democracy." General market sentiment was captured by Ambrose-Evans Pritchard's headline in the Guardian: "Rejoice: The Yellen Fed Will Print Money Forever to Create Jobs."

For starters, the Fed and our country are in desperate need of a strong and independent leader that would be willing to administer tough love and begin the punchbowl removal process. Unfortunately, the markets today enjoy veto power and would in no way tolerate a Paul Volcker type. The Street prefers someone that is willing to advance this experiment in unprecedented monetary inflation. It was no coincidence that Bernanke was even more experimental than Greenspan and that Yellen is seen as even more the "uber-dove" than "Helicopter Ben." It is no coincidence that academics dominate today's Federal Reserve.

Dr. Yellen good for democracy? This is actually a critical issue. So, why don't we just have voters elect the Federal Reserve chairman? Better yet, we could instead just let Congress or the President dictate monetary policy. How about we allow them to work together and come to a consensus on rates and a weekly QE quantity?

Monetary stability - stable "money" and Credit - are good for democracy. History is unequivocal, unsound finance and resulting booms and busts are bad for society, social stability and democracy. An independent central bank some distance from political influence is fundamental to monetary stability. And, I would argue, it is impossible to have monetary stability in an environment where central bankers are aggressively intervening in the markets, printing money and targeting higher asset prices. I believe Arthur Grimes (see comments above), for years Chairman of the respected Reserve Bank of New Zealand, would agree.

During a CNBC interview, Harvard history professor Niall Ferguson spoke of "desperate improvisation" at the Federal Reserve. Ferguson also stated an interesting view of how Yellen might differ from Bernanke: "Theoretically [she is] on the same page as Bernanke, but covertly, she would really like to have a nominal GDP target -- a new level of policy innovation on the monetary side."

An inflation target; an unemployment rate target; a target for the short-term "Fed funds" rate; a target for market bond yields; and now, perhaps, a GDP target. Lots of policy targets that obfuscate the Fed's true intentions: The Fed is trapped in a desperate monetary inflation and there is apparently no mechanism to rein in our central bank.

The Fed's unstated goal is to inflate Credit sufficiently to grow beyond previous debt problems and associated financial and economic fragilities. I have noted that annual non-financial Credit growth was about $650bn in the mid-nineties. A historic Credit boom saw annual non-financial growth surge to a peak level $2.55 TN in 2007.

It is central to my Macro Credit Thesis that protracted Credit booms raise various price levels throughout the financial and economic systems. Moreover, Credit excesses distort spending and investing patterns in the real economy, leading to progressively problematic structural maladjustment. Importantly, increasingly inflated asset prices and economic maladjustment foster systemic dependency to large and ever-expanding Credit expansion.

After the bursting of the mortgage finance Bubble, I posited that it would require in the neighborhood of $2 TN annual Credit growth to reflate the structurally maladjusted U.S. economy. Furthermore, I stated this posed a major ongoing dilemma for the Federal Reserve. Massive deficit spending and Federal Reserve monetization were sufficient to initially stabilize asset markets and the economy. At the end of the day, however, it would remain a significant continuing challenge to achieve the requisite $2 TN annual Credit growth bogey. I believed the Household sector would have little appetite for adding to its huge debt load, while the Corporate sector was already sitting on (mortgage finance Bubble-enhanced) large cash balances. And I did not believe the $1.5 TN annual federal deficits from 2009 and 2010 - instrumental in reflating incomes, spending and corporate earnings - were sustainable.

Many speak of the need for the economy to reach "escape velocity." From my analytical perspective, this in a similar vein as my required $2.0 TN or so of annual Credit growth that would fuel asset inflation and sufficient spending to power a self-reinforcing expansion in our services/consumption dominated economy. With mortgage Credit and Household debt still contracting, it became increasingly clear to Fed policymakers in 2012 that the Credit-dependent recovery was at heightened vulnerability. "Mopping Up" wasn't working as the theory and econometric models had forecast. The Fed decided to take a major gamble with aggressive non-crisis QE.

Non-crisis QE should be thought of as a mechanism to short circuit normal (financial and economic) system operations - and a particularly dangerous one at that. Instead of Credit expansion and more typical economic processes feeding into higher investment, incomes, corporate earnings and wealth creation, the Fed moved to bypass the economy and inject unprecedented liquidity directly to spur risk-taking and inflated securities markets.

I wrote last week that injecting liquidity into already overheated speculative markets is tantamount to QE as rocket fuel. It both inflates securities prices directly while it also heavily incentivizes risk-taking and speculative leveraging. Couple rocket fuel QE with "transparency," "forward guidance," and a promise to backstop markets in the event of a "tightening of financial conditions," and you've progressed all the way to reckless monetary policy. Is the Fed really promising the markets that they will remain ultra-accommodative for at least the next couple years in the face of conspicuously speculative securities markets and increasingly overheated asset markets generally?

The Janet Yellen confirmation hearings could be an interesting affair. To what extent could it become a more general hearing on Federal Reserve doctrine and policy? Over the years I've highlighted the central bank "Rules vs. Discretion" debate that's been around for generations.

Our great nation's brilliant Founding Fathers clearly appreciated the perils of unsound money. They understood the dangers of excessive power and the necessity for checks and balances. They would have never anticipated an American central bank printing money without restraint. There was a major flaw in the structure of the Federal Reserve System - and for central bank structures generally. I just don't think anyone ever anticipated that central bankers might someday resort to creating Trillions of "money" as they do today - on a whim or academic theory. The Federal Reserve needs some basic concrete rules. It's insanity to allow a small group of unelected officials the discretion to pump $85bn - or more! - of purchasing power into the markets every month. It's undemocratic, highly risky and this has gone on for much too long. If there was one issue worth closing down the government and risking default, this would be it.

 


For the Week:

The S&P500 gained 0.8% (up 19.4% y-t-d), and the Dow rose 1.1% (up 16.3%). The Morgan Stanley Consumer index jumped 1.6% (up 23.3%), and the Utilities surged 2.7% (up 7.7%). The Banks advanced 1.0% (up 24.0%), and the Broker/Dealers gained 1.1% (up 46.2%). The Morgan Stanley Cyclicals added 0.2% (up 26.5%), and the Transports increased 0.6% (up 25.3%). The S&P 400 MidCaps gained 0.5% (up 23.6%), and the small cap Russell 2000 increased 0.6% (up 27.7%). The Nasdaq100 slipped 0.3% (up 21.5%), and the Morgan Stanley High Tech index declined 0.5% (up 20.4%). The Semiconductors were little changed (up 29.5%). The InteractiveWeek Internet index fell 1.5% (up 27.6%). The Biotechs sank 5.2% (up 35.2%). With bullion down $39, the HUI gold index sank 4.3% (down 52.2%).

One-month Treasury bill rates ended the week up 17 to 25 bps, and three-month rates closed up 4 to 6 bps. Two-year government yields were up 2 bps to 0.35%. Five-year T-note yields ended a basis point higher at 1.42%. Ten-year yields rose 4 bps to 2.69%. Long bond yields increased 3 bps to 3.75%. Benchmark Fannie MBS yields were 5 bps higher to 3.36%. The spread between benchmark MBS and 10-year Treasury yields widened one to 67 bps. The implied yield on December 2014 eurodollar futures increased 1.5 bps to 0.515%. The two-year dollar swap spread was down about one to 12 bps, and the 10-year swap spread declined 3 to 13 bps. Corporate bond spreads narrowed. An index of investment grade bond risk declined 3 to 77 bps. An index of junk bond risk dropped 14 to 370 bps. An index of emerging market (EM) debt risk fell 13 to 321 bps.

Debt issuance was stronger. Investment grade issuers included Berkshire Hathaway $1.55bn, John Deere Capital $750 million, Duke Energy $400 million, Mid-America Apartments $350 million and The Doctors $200 million.

Junk bond funds saw inflows increase to $489 million (from Lipper). This week's issuers included T-Mobile $5.8bn, Carnival Corp $700 million, Michael Baker International $700 million, L Brands $500 million, NGL Energy Partners $450 million, Memorial Production Partners $300 million, Rhodes $250 million, NQ Mobile $150 million and Aviv Healthcare $250 million.

Convertible debt issuers this week included Liberty Media $1.0bn, Ctrip.com $700 million and Biomarin Pharmaceutical $680 million.

International dollar debt issuers included Sinopec $2.75bn, Dexia Credit Local $2.0bn, Centrica $1.35bn, Kommunivest Sverige $1.25bn, Codelco $950 million, Millicom International Cellular $800 million, Hungarian Development $950 million, Neder Waterschapsbank $750 million, Debt & Asset Trading $627 million, Wynn Macau $600 million, African Development Bank $500 million, Turkiye Bankasi $500 million, Russian Agriculture Bank $500 million, Kookmin Bank $500 million, Syncreon Group $225 million and Home Credit & Finance Bank $200 million.

Ten-year Portuguese yields dropped 15 bps to 6.13% (down 62bps y-t-d). Italian 10-yr yields slipped 2 bps to 4.27% (down 23bps). Spain's 10-year yields rose 9 bps to 4.28% (down 99bps). German bund yields added 2 bps to 1.86% (up 54bps). French yields increased 2 bps to 2.37% (up 37bps). The French to German 10-year bond spread was little changed at 51 bps. Greek 10-year note yields sank 32 bps to 8.65% (down 182bps). U.K. 10-year gilt yields were unchanged at 2.73% (up 91bps).

Japan's Nikkei equities index rose 2.7% (up 38.6% y-t-d). Japanese 10-year "JGB" yields increased less than a basis point to 0.64% (down 13bps). The German DAX equities index gained 1.2% to a 2013 high (up 14.6%). Spain's IBEX 35 equities index jumped 2.6% to a two-year high (up 18.4%). Italy's FTSE MIB surged 3.16%, also to a two-year high (up 16.0%). Emerging markets were higher. Brazil's Bovespa index increased 0.6% (down 12.8%), and Mexico's Bolsa added 0.2% (down 6.3%). South Korea's Kospi index gained 1.4% (up 1.4%). India's Sensex equities index surged 3.1% (up 5.7%). China's Shanghai Exchange jumped 2.5% (down 1.8%).

Freddie Mac 30-year fixed mortgage rates added a basis point to 4.23% (up 84bps y-o-y). Fifteen-year fixed rates were up 2 bps to 3.31% (up 61bps). One-year ARM rates increased one basis point to 2.64% (up 5bps). Bankrate's survey of jumbo mortgage borrowing costs had 30-yr fixed rates down 8 bps to 4.49% (up 50bps).

Federal Reserve Credit expanded $13.7bn to a record $3.711 TN. Over the past year, Fed Credit was up $914bn, or 32.7%.

Global central bank "international reserve assets" (excluding gold) - as tallied by Bloomberg - were up $556bn y-o-y, or 5.0%, to a record $11.251 TN. Over two years, reserves were up $1.024bn, for 10% growth.

M2 (narrow) "money" supply jumped $50.4bn to a record $10.879 TN. "Narrow money" expanded 6.7% ($684bn) over the past year. For the week, Currency increased $1.2bn. Total Checkable Deposits slipped $1.5bn, while and Savings Deposits gained $27.6bn. Small Time Deposits added $1.7bn. Retail Money Funds increased $2.1bn.

Money market fund assets dropped $19.8bn to $2.667 TN. Money Fund assets were up $103bn from a year ago, or 4.0%.

Total Commercial Paper jumped $11.0bn to $1.066 TN, the high since February. CP is little changed y-t-d, while increasing $101bn, or 10.4%, over the past year.

Currency Watch:

The U.S. dollar index added 0.3% to 80.36 (up 0.7% y-t-d). For the week on the upside, the Brazilian real increased 1.6%, the South African rand 0.9%, the Mexican peso 0.7%, the Australian dollar 0.4%, the New Zealand dollar 0.1% and the Singapore dollar 0.1%. For the week on the downside, the Japanese yen declined 1.2%, the Swedish krona 0.8%, the Canadian dollar 0.5%, the Swiss franc 0.5%, the Norwegian krone 0.5%, the British pound 0.3%, the Taiwanese dollar 0.3%, the euro 0.1% and the South Korean won 0.1%.

Commodities Watch:

October 11 - Bloomberg (Rob Sheridan): "The cost of shipping iron ore, coal and grains along China's coast rose to an 18-month high as surging imports of the commodities boost demand for vessels to redistribute them between the nation's ports. The China Coastal Bulk Freight Index measuring the domestic shipping prices for commodities advanced 2.2% to 1,167 points in the past week, according to data from the Shanghai Shipping Exchange. It rose 11% since the start of the year and is now the highest since April 2012."

The CRB index added 0.1% this week (down 2.8% y-t-d). The Goldman Sachs Commodities Index was up 0.2% (down 1.3%). Spot Gold sank 2.9% to $1,272 (down 24%). Silver fell 2.3% to $21.26 (down 30%). November Crude dropped $1.82 to $102.02 (up 11.1%). November Gasoline jumped 2.3% (down 3%), and November Natural Gas surged 7.7% (up 13%). December Copper declined 1.0% (down 11%). December Wheat added 0.8% (down 11%), while December Corn fell 2.3% to a three-year low (down 38%).

U.S. Fixed Income Bubble Watch:

October 11 -Bloomberg (David J. Lynch and Cordell Eddings): "President Barack Obama knows who is the boss: the bond market. 'Ultimately, what matters is: What do the people who are buying Treasury bills think?" the president told reporters this week, when discussing measures he could take to end the threat of a historic default on the nation's debt."

October 7 - Bloomberg (Lisa Abramowicz): "Hedge funds have amassed the greatest share of the $1.2 trillion U.S. junk-bond market since the credit crisis, raising concern bets with borrowed cash will accelerate losses when the Federal Reserve stops printing record amounts of money. The funds, which typically use leverage to bolster returns, hold as much as 23% of outstanding dollar-denominated high-yield bonds, from as much as 18% last year and the highest since 2008, according to Barclays Plc. Credit hedge funds have boosted assets by 89% since 2008, outpacing the 66% growth of the junk market... Funds that use leverage may threaten the financial system in a broader selloff, the U.S. Treasury Dept.'s Office of Financial Research wrote in a report gauging risks from investment firms that have ballooned after five years of central bank stimulus... Credit hedge funds have received $113.3 billion of deposits since 2009 and boosted assets under management to $648.3 billion as of June 30, according to... HFR."

October 9 - Bloomberg (Fanni Koszeg): "Massachusetts' chief securities regulator will open an inquiry into the impact of Puerto Rican debt on the state's mutual fund investors. The investigation is meant to determine the extent of investors' risk tied to the island's weakening municipal debt obligations, Massachusetts Secretary of the Commonwealth William F. Galvin said... 'Puerto Rico is currently on the verge of insolvency and many of its obligations are at or near junk rating... The risks associated with its municipal debt obligation are disproportionally high.' Interest on debt issued by Puerto Rican governments is typically tax-free across the U.S., and yields on some issues topped 10% in recent weeks amid doubt about whether investors will be repaid. The bonds' high yields and tax-exempt status make them popular with retail investors, according to the statement."

October 9 - Bloomberg (Michelle Kaske): "Puerto Rico's borrowing costs are at a record high as the self-governing commonwealth's revenue trails forecasts, calling into question the island's ability to tackle a debt load greater than that of all but two U.S. states. Investors in the $3.7 trillion municipal market are punishing Puerto Rico even after the nine-month-old administration of Governor Alejandro Garcia Padilla boosted pension contributions and raised taxes to keep the territory's obligations from being cut to junk. His challenge is compounded by a shrinking local economy... The commonwealth of 3.7 million people has about $58 billion of gross tax-supported debt, trailing only California and New York... 'We've heard the government of Puerto Rico talk about achieving budget balance in a short time frame and that seems to always be missed,' said Joseph Rosenblum, director of municipal credit research... at AllianceBernstein LP... 'There is a huge amount of debt, which worries a lot of people.'"

Federal Reserve Watch:

October 11 - Financial Times (Henny Sender): "The Yellen put is proving to be even more seductive than either the Bernanke or Greenspan put. With the expiry of the debt ceiling just days away (possibly), most market players are focusing less on the prospect of a default on government debt and the possible questioning of the dollar's reserve currency status and more on the fact that quantitative easing is alive and well. It is as if Bernanke's statements on tapering on May 22 and then again in June had never been uttered. Mentally, it is May 21 once more. US equities are near their all-time high, rallying 2.2% on Thursday to stand just 33 points off September's record closing high of 1,725.52. Indeed, the only market with any visible sign of jitters was short-dated Treasury bills, which sold off as players in the short-term funding markets declined to accept Treasury bills as collateral..."

October 9 - New York Times (Binyamin Appelbaum): "An account of the Federal Reserve's September meeting... suggested that divisions among Fed officials - which are undermining the Fed's clarity and thus its power - were not on the verge of being resolved. Fed officials were united in the view that labor market conditions had improved significantly since the latest round of asset purchases began in September 2012. Some officials argued that was reason enough to start pulling back. Most of the committee, however, worried that the gains might not be sustainable... Officials 'pointed to heightened uncertainty about the course of federal fiscal policy over the coming months, including the potential for a government shutdown or strains related to the debt ceiling debate, which posed downside risks. The account also noted that interest rates had started to rise as soon as the Fed's chairman, Ben S. Bernanke, started talking about sounding the retreat. As a result, the committee concluded 'it would be prudent to await further evidence of progress before reducing the pace of asset purchases,' the account said."

Central Bank Watch:

October 10 - Bloomberg (Jana Randow and Andre Tartar): "The European Central Bank's next monetary-policy move will be a non-standard one, economists say. While almost three in four of them predict President Mario Draghi will unveil new liquidity measures such as longer-term refinancing operations... Draghi has fueled expectations of a fresh round of long-term loans by saying the ECB is 'ready to act accordingly and as needed' to contain money-market rates."

U.S. Bubble Economy Watch:

October 9 - Bloomberg (Narayanan Somasundaram): "North American households have overtaken those in Asia-Pacific and Europe as the wealthiest for the first time since 2005 boosted by a recovery in U.S. house prices and an equity market rally, Credit Suisse Group AG said. A recovery in the world's largest economy fueled a fifth consecutive year of wealth growth in North America, rising 12% in the 12 months to mid 2013 to $78.9 trillion. The Asia-Pacific region suffered from a 20.5% fall in Japan's wealth as that country flooded its economy with cash, weakening the yen, Credit Suisse said... Wealth in Asia-Pacific fell 3.7% to $73.9 billion... Extraordinary monetary stimulus has helped propel the U.S. economy by an annualized rate of 2.5% in the second quarter, faster than the previous three months... With U.S. house prices rising 7% during the 12 months to mid 2013, households there are now 54% more wealthy than they were during a recent low in 2008, Credit Suisse said. In the U.S., 'wealth per adult has fully recovered, and is now 10% above the 2006 level," the report said."

October 11 - Wall Street Journal (Telis Demos): "No profits? No problem. Investors are showing increasing hunger for initial public offerings of unprofitable technology companies and the potential for big gains that they bring. Sixty-eight percent of U.S.-listed technology debuts this year, or 19 out of 28 deals, have been companies that lost money in the prior fiscal year or past 12 months, according to Jay Ritter, professor of finance at the University of Florida. That is the highest percentage since 2007, and 2001 before that."

October 9 - Bloomberg (Prashant Gopal): "After losing his third bidding war for a Dallas-area home, Johnny Tseng offered the winner $10,000 to walk away. The buyer declined. 'I thought I made an attractive offer,' said Tseng, a 31-year-old financial analyst... 'But if I were under contract right now and somebody came along and offered me money, I would be hesitant. There just aren't that many options out there.' Texas, known for its open spaces and cheap property, is experiencing the types of real estate bidding frenzies seen in tightly built markets from New York to San Francisco as job gains generate a suburban land rush. Existing-home prices in Dallas and Houston are rising faster than at any time since the oil boom of the 1980s. Homebuilders, caught off guard by the ferocity of buyer demand, are exhausting construction-ready lots as they struggle to recruit workers to complete houses quickly. The boom shows that the U.S. real estate market's rebound is extending beyond areas such as Arizona, Florida, California and Nevada, where prices are soaring after being hardest-hit by the crash that started in 2006... Residential sales across the Lone Star State reached a record in the second quarter. At the current pace, it would take about three months to sell the inventory of existing homes on the market in Houston and Dallas... the lowest since at least 1990... While the 20-city S&P/Case-Shiller Index of U.S. home prices is down 21% from its 2006 peak, the measure for Dallas is 4% above its previous high. The median home price in the city rose 15% in August from a year earlier to $200,200, and is on pace for the biggest annual increase in data going back to 1989, according to the Texas A&M. In Houston, the gain was 14%."

October 11 - Wall Street Journal (Craig Karmin): "New York is experiencing its biggest hotel expansion in a generation, attracting a host of new brands and developers betting that the good times will continue. But the race to build or convert dusty properties into modern lodgings already has sparked a debate about whether the additional rooms can be absorbed without putting downward pressure on hotel-room rates by next year. The number of hotel rooms in Manhattan is expected to rise about 10% to more than 90,000 by the end of 2014, says Jones Lang LaSalle Hotels, which tracks hotel projects..."

October 10 - Bloomberg (Brian Chappatta and Priya Anand): "Municipalities are borrowing at the slowest pace in more than two years, showing how the partial federal shutdown and prospect of a U.S. default are dissuading localities from taking on financing for new projects. Cities and states are offering $4.3 billion of bonds this week after $3.7 billion last week... Excluding holidays, it's the skimpiest stretch of financing since May 2011, even as benchmark muni-bond yields have fallen from a two-year high."

Global Bubble Watch:

October 11 -Bloomberg: "China should accelerate reforms aimed at rebalancing economic growth to limit the buildup of foreign reserves that have made the nation the biggest overseas holder of U.S. Treasuries, said a former central bank adviser. 'We shouldn't rely on exports to boost growth any longer,' Yu Yongding said... 'We already have too many foreign-exchange reserves. China shouldn't be afraid of having an appropriate trade deficit, as long as it doesn't damage domestic industries.' China owned $1.28 trillion of Treasuries at the end of July and those holdings are being put at risk as U.S. lawmakers struggle to agree on a debt-limit increase needed to avoid a default. Premier Li Keqiang said China is paying 'great attention' to the issue..."

October 11 -Bloomberg (Nikolaj Gammeltoft, Nick Taborek and Aubrey Pringle): "For the fifth time since December, investors who piled into exchange-traded funds that track U.S. equity volatility are getting whipsawed as stock investors shrug off concern about budget negotiations and the economy. The iPath S&P 500 VIX Short-Term Futures ETN tumbled 13% in the past two days on speculation lawmakers may reach a deal to increase the debt ceiling. The fund... gained as much as 20% since the Oct. 1 shutdown of the U.S. government. In five instances since the end of 2012, the VIX has swung up and down at least 18% within seven days, data tracked by Bloomberg show."

October 8 - Bloomberg (Martin Z. Braun): "In one of the few things Republicans and Democrats can agree on in North Carolina, the state is adding to its losing bets on hedge funds, private equity and real estate to pump up lagging returns at its $80 billion public-worker pension fund. Governor Pat McCrory, a Republican, signed a bill in August raising limits on investments in alternatives to stocks and bonds. The Tar Heel state's hedge-fund bets lost 2% annually for the five years ending June 30, 2012. Its private-equity portfolio has returned about 5% over 10 years, 7.5 percentage points below the median U.S. public pension, according to Preqin Ltd., a London-based research firm. 'We're behaving like a losing gambler right now,' said Ardis Watkins, legislative-affairs director for North Carolina's State Employees Association... 'We're chasing money.' North Carolina is joining public-worker pensions from neighboring South Carolina to Texas piling into riskier investments as they face an $800 billion funding gap for promises to retirees amid slow growth and record-low interest rates. The state's experience shows that the private investment pools, which charge higher fees than stock or bond funds, aren't a magic bullet for hitting targeted annual returns of 7% to 8%."

October 9 - Bloomberg (Sandrine Rastello and Jeanna Smialek): "The International Monetary Fund cut its global outlook for this year and next as capital outflows further weaken emerging markets and warned that a U.S. government default could 'seriously damage' the world economy. Growth worldwide will be 2.9% this year and 3.6% next year, the IMF said..., compared with July predictions of 3.1% for 2013 and 3.8% for 2014. It sees emerging economies growing 4.5% this year, 0.5 percentage point less than three months ago, as projections were reduced for China, Mexico, India and Russia. 'Advanced economies are gradually strengthening' while 'growth in emerging-market economies has slowed,' IMF chief economist Olivier Blanchard wrote... 'This confluence is leading to tensions, with emerging-market economies facing the dual challenges of slowing growth and tighter global financial conditions.'"

October 7 - Bloomberg (Frederik Balfour): "A gemstone sold for HK$238.68 million ($30.8 million) in Hong Kong, the most paid for a white diamond at auction, as more records tumbled at Sotheby's. The largest D-color flawless type IIA diamond had been estimated to sell for HK$220 million to HK$280 million. The oval 118.28 carat-diamond was mined in South Africa in 2011. Earlier, a painting by Zeng Fanzhi sold for HK$180.4 million ($23.3 million) including fees, the most for an Asian contemporary artist at auction, as 16 artist records were set in the five-day marathon which ends tomorrow. The sales reflected pent-up demand and the quality of works available to mark Sotheby's 40th anniversary in Asia, dealers said. Chinese, U.S. and European buyers are being joined by more collectors from Southeast Asia."

EM Bubble Watch:

October 9 - Bloomberg (Rodrigo Orihuela and Boris Korby): "Eike Batista's OGX Petroleo & Gas Participacoes SA is trading in the bond market as if it will be liquidated after an audit showed reserves at the company's main oil field are 62% less than it had estimated. OGX's $2.56 billion of notes due 2018 have sunk 8.9 cents to a record 6 cents on the dollar after reserves-auditing firm DeGolyer & MacNaughton said Oct. 3 the Brazilian company's Tubarao Martelo field may hold up to 108.5 million barrels of crude, compared with an OGX estimate of 285 million last year. The notes have plunged 93 percent in 2013..."

China Bubble Watch:

October 9 - Wall Street Journal: "As the fastest-growing part of China's financial sector, shadow banking is no longer the sideshow it was five years ago. The sector grew from almost nothing a few years ago to the equivalent of 40% of gross domestic product at the end of 2012, the Chinese Academy of Social Sciences said in a report... The undisciplined grey lending source that exists alongside the traditional banking system has become vital to sustaining growth in the world's second-largest economy... Despite a consensus on its fast-growing nature and increasing importance to the economy, there are disagreements over the exact size of China's shadow-banking sector... The government think tank report put the size of the sector -- which covered all shadow-lending activities from most well-known wealth-management products and trusts to interbank business, finance leasing and private lending -- at 20.5 trillion yuan ($3.35 trillion) as of the end of 2012. But the calculation is conservative compared with those done by international research houses. Fitch... estimated earlier this year that China's total credit including various forms of shadow-banking lending may have reached 198% of the country's GDP, while J.P. Morgan estimates have put it at as much as 69% of GDP, or 36 trillion yuan."

October 10 - Bloomberg: "Defaults by China's local-government financing vehicles may rise as Premier Li Keqiang curbs support to check surging debt loads, Moody's... said. The yield premium over top-rated notes for five-year AA debt, the most common rating for the financiers of roads, sewage plants and subways known as LGFVs, widened 16 bps last quarter to 102 bps, the first increase in a year. The comparable gap in India is 54.5. 'Some small and marginal LGFVs whose projects deviate from the governments' development objectives could see lower probability of being supported by local governments,' said Katie Chen, an analyst in Beijing at Moody's. 'Several governmental announcements appear to indicate the central government's intention to regulate local government-related entities' borrowings.'"

October 11 -Bloomberg: "Beijing halted a residential land auction as record land prices fueled expectations of further home-price gains and rising housing sales strained lending resources at public housing funds in some Chinese cities... Cities including Suzhou and Taizhou in eastern China have tightened lending at local housing providence funds after growing loan applications strained their capacity, the official People's Daily reported..."

October 11 -Bloomberg: "China's passenger-vehicle sales rose 21% in September to an eight-month high... Wholesale deliveries of cars, multipurpose and sport- utility vehicles climbed to 1.59 million units last month... That compared with the 1.5 million-unit median estimate..."

October 10 - Bloomberg (Ye Xie): "Chinese government has a lot 'policy buffer,' including foreign reserves, to deal with the debt issues, Zhu says at a seminar at the IMF meeting in Washington. Government is taking actions to deal with the issue, Zhu says. Zhu says the Fed's exit from monetary stimulus will have 'spillover' effects on China because the country is not a 'closed' economy as some would expect..."

October 10 - Bloomberg (Neil Chatterjee): "Chinese Premier Li Keqiang said the nation's economic growth probably exceeded 7.5% in the first nine months of the year, a sign the government will next week report success in arresting a two-quarter slowdown. The economy has 'shown stronger momentum of steady growth' in the past few months..."

October 10 - Bloomberg (Ye Xie): "The Chinese government has room to deal with rising debt levels, which has become a 'serious concern,' according to Zhu Min, a deputy managing director at the International Monetary Fund. While debt accumulation by companies and local government is 'way too high,' the government has a lot of 'policy buffer,' including $3.5 trillion foreign reserves, to resolve the problems, Zhu, a former deputy governor at People's Bank of China, said... The government has already taken actions to curb borrowing, reducing the chances for an economic 'hard landing,' he said."

Japan Bubble Watch:

October 10 - Bloomberg (Caroline Salas Gage): "Bank of Japan Governor Haruhiko Kuroda said the bank will do what is necessary to defeat deflation, while declining to discuss specific additional measures it might take. The bank's asset-purchase program has "been exerting its intended effect, which is quite encouraging," Kuroda said... 'By continuing to pursue" this policy, he said, "we are convinced that we will definitely overcome deflation.' Kuroda said the central bank's policies aren't aimed at weakening the yen and are trying to boost the domestic economy. 'We do not target exchange rates,' he said."

October 8 - Bloomberg (Shigeki Nozawa): "Japan's Government Pension Investment Fund, the world's largest manager of retirement savings, isn't ready for Abenomics, according to the head of an expert panel advising on public investments. The set of policies from Prime Minister Shinzo Abe aims to defeat 15 years of deflation and spur growth by using the 'three arrows' of fiscal stimulus, monetary easing and business deregulation. GPIF needs to reduce the risk of losses on its bond holdings should interest rates start to rise as the economy improves, said Takatoshi Ito. 'The majority of the panel thinks the GPIF is exposed to too much interest-rate risk,' Ito said... 'If they're really aware of interest-rate risk, why are 60% of the assets in domestic bonds?'"

Latin America Watch:

October 11 - Bloomberg (Blake Schmidt and Josue Leonel): "Brazil's swap rates climbed to a three-week high after central bank President Alexandre Tombini said he is committed to bringing inflation down to the country's 4.5% target. Swap rates on contracts due in January 2015 increased seven bps... to 10.35%..., the highest level since Sept. 17. They are up 21 bps this week on speculation central bankers will lift the benchmark lending rate to 10% this year. Policy makers raised borrowing costs on Oct. 9 by a half- percentage point for a fourth straight time..."

Europe Crisis Watch:

October 8 - Reuters (Huw Jones and John O'Donnell): "Parts of Europe's proposals for a banking union may fall foul of European Union law, lawyers have said in a fresh setback to plans aimed at strengthening the financial system after the debt crisis. The opinion from the European Council's legal service is a blow to efforts to break the link between indebted European countries and their banks via the creation of a banking union that would jointly deal with stressed lenders. Setting up such a system raises an array of political and legal complications, including who should decide when an ailing bank must be closed and who pays the bill, an issue of particular concern to Germany, the euro zone's largest economy. In their second piece of legal advice to member states... the lawyers warn of the pitfalls of giving a new agency or board too many powers to close or salvage troubled banks."

October 11 -Bloomberg (Ben Sills and Esteban Duarte): "The Catalan government is targeting a seat on the European Central Bank's governing council after the referendum it plans to secede from Spain, regional finance chief Andreu Mas-Colell said. 'Being a member of full standing in the European Union means that," Mas-Colell said... 'We are in favor of having our own state, which would give us solidity and standing in the international community.' Leaders of Catalonia, with a 194 billion-euro ($262bn) economy and its own language and parliament, are seeking independence from Spain, the euro region's fourth- largest economy."

Germany Watch:

October 8 - Bloomberg (Jeff Black): "German factory orders unexpectedly fell in August, backing up the European Central Bank's view that the economic recovery in the euro area is fragile. Orders... dropped 0.3% from July, when they fell a revised 1.9%..."

Italy Watch:

October 10 - Bloomberg (Lorenzo Totaro): "Italian industrial output unexpectedly fell for a second month in August, signaling the euro region's third-largest economy is falling further behind the rest of the bloc. Production dropped 0.3% from July, when it declined a revised 1%... Output fell 4.6% from a year earlier..."

 


 

Doug Noland

Author: Doug Noland

Doug Noland
The Credit Bubble Bulletin
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