Phisix 7,270: More Signs of Price Instability, JKSE-Phisix Correlations and the Global Reflation Trade

Global Markets Catches Up with the Phisix; Has the JKSE-Phisix Correlationship Been Broken?

With the ongoing furious race to milestone heights, some may wonder why the Philippine Phisix has hardly participated in the “risk ON” environment that has overwhelmed global equity markets.

For instance, the Indonesian JKSE has broken into fresh record highs the other week. And this week’s .48% gains furthered the JKSE’s distance from the breakout point.

For now, Indonesian President Widodo’s earlier harangue and harassment of equity bears seem to have succeeded. Mr. Widodo has used the stock market as a policy tool to spiff up the administration’s image at the expense of the functioning market [see earlier email -The Indonesian Government Wages War on Stock Market Bears and Interest Rates! Phisix 7,240: Vulnerabilities of the Recent MELTUP, Duterte’s Expands War on the Poor (Ban on 5-6 Credit and SSS Benefit Hike) January 16, 2016]

Nonetheless, despite a slowing GDP and stagnating property prices*, since the Indonesian central bank (Bank Indonesia) cut policy interest rates for the sixth time in October 2016, such has incited the re-acceleration in loans to the private sector which was similarly reflected on the substantial rebound in the nation’s overall loan portfolio. Such jump in credit growth has likewise been manifested in the sharp escalation of money supply growth, seen via M2.

Taken together, a substantial portion of money injected into the financial system has only been rechanneled into domestic stocks from which have stirred a frenzied pump. And this has prompted for the recent fresh highs.

This exhibits how Indonesia’s stock markets have become another punter’s haven that has been detached from reality—largely bankrolled by easy money and by government’s intrusion in its stock market.

And this is the sort of dynamic that tells us why monumental history is presently unfolding…and not just in the context of record stocks, but of its aftermath.

*The Global Property Guide’s note on Indonesia’s 2016 housing prices (March 23 2017): “In Indonesia, residential prices in the country's 14 largest cities fell by 0.89% during 2016, after falling 0.2% in 2015. House prices fell 0.37% q-o-q during the latest quarter.”

Figure 1: ASEAN Equities Top, JKSE-PSEi Bottom

Back to the Phisix.

Given the present global conditions, the domestic benchmark has not underperformed.

Based on the year to date activities, the domestic bellwether has been almost at par with most the ASEAN’s equity benchmarks. Year to date, Indonesia’s record JKSE has delivered an inferior 5.11% return relative to the Phisix at 6.27% (as of March 24). The difference thus springs from the baseline effect—the Phisix began the year at a relatively lower base compared to JKSE.

This entails that the PSEi has outsprinted the rest of the field at the start of the year where the rest of the world has only been in a catch-up mode.

Yet the PSEi has spent over two months in a consolidation phase. Or it has been sauntering in a very narrow trading range (7,100-7,400) following the 9 day (engineered) meltup which occurred at the close of December through the first week of 2017.

Interestingly, the price trend dynamic of both the JKSE and the Phisix for the past two years or from 2014-2016 has revealed of amazing signs of synchronicity. Both yardsticks have essentially ascended and descended in seeming confluence. (see bottom figure 1). Or there appears to be a tight correlation for the noted benchmarks.

This convergent dynamic appears to have been broken only in the last two months.

JKSE’s record upside breakout came as the PSEi has forged what chart technicians call as a “flag formation”—a continuing pattern.

As a side note on flag formation: while the intermediate trend has been up, the originating trend has been down—so the 64 billion peso question is; continuation of what pattern? The answer lies on the observer’s bias.

Yet has there been a recalibration in the Phisix-JKSE correlationship? Or will there be a restoration of the previous convergence? If the latter on which direction?

More Signs of Price Instability

Here’s more.

Yet the present trading range has signified an outcome of rampant and relentless pumps and dumps.

End session pumps and dumps for the week totaled 55.56 points with 65% share accounting for as pumps and the remainder as dumps. The Phisix was down 1.03% or lower by 75.4 points. This entails the end of the week outcome has been immensely sanitized by price distortions borne out of such unscrupulous engineered price actions.

Figure 2: Stunning Amplification of Price Volatility

Such flagrant contortions can be seen in the escalating magnitude of volatility ensconced in the headline index.

The vast dispersion of gains and losses within sectors for this week has been astounding (lower left window). 

The property, financials and industrials stunningly cratered by 3.5%, 2.48% and 1.73%, respectively. Because their combined market weighting at 49.09% (18.35% financials, 17.31% property, and 13.43% industrials—as of March 24) was slightly lower compared than the gainers at 49.69% (holding 39.37% and services 10.32%), the latter group’s impact severely diminished the enormous losses of the former group. The holdings and the services jumped by .83% and .86% this week. The combined events resulted in the diminished 1.03% decline in the headline index.

It’s even fascinating to see a rare unanimity in the price activities of the property and industrials. All property and all industrial issues tumbled this week! The property sector: Ayala Land (-5.48%) SM Prime (-3.28%), Megaworld (-3.06%) and Robinsons Land (-2.31%). The industrials: food giants Universal Robina (-1.23%) and Jollibee (-2.69%), backed by power firms Aboitiz Power (-3.22%), First GEN (-.45%), EDC (-.66%), Meralco (-4.21%) and Petron (-1.1%).

On the opposite end, eight of the ten or 80% of holding issues were sharply up: AEV (+3.29%), LTG (+2.8%) AGI (+2.68%), AC (+1.81%), GTCAP (+1.56%), JGS (+1.17%), SMC (+.97%) and the largest member, SM (+.6%). Supporting the holding sector, three of the four services also boomed; TEL (+3.84%), GLO (+1.78%) and ICT (+1.67).

In perspective, furious selling occurred in the property and industrials, aside from the financials, but ferocious bidding transpired at mostly the holding sector supported by the services.

It can be deduced that foreign money was responsible for most of the selling pressures in the Phisix given the largest net selling at Php 3.34 billion since end December. In the meantime, the locals shored up the PSEi gainers through a rotation. That is, perhaps locals sold holdings at the broad markets to finance aggressive bids in select PSEi issues. The 16.14% decline in peso volume indicated of a retreat in liquidity which most likely meant that buyers weren’t able to meet the seller’s urgency to exit, hence the expanded price volatility. In addition, the significant deterioration in market internals for both the PSEi and the broader spectrum suggests that selling activities were not limited to the PSEi 30 basket (except again for a few heavyweights).

The question is why the colossal deviances in the weekly activities, particularly for the holding sector, when their major subsidiaries were under severe selling pressure? Has this been designed anew to stage manage the index?

Even more. 12 issues or 40% of PSEi members had price changes of 3% and above (in both directions). 17 issues or 57% had price changes of 2% and above (again bidirectional). 25 issues or 83.33% registered price changes of 1% and above! (lower right window)

And yes such incredible escalating volatility has been happening even as the Phisix has been drifting in a tight zone.

Most haven’t realized that these are signs of a seismic buildup in stressors or a symptom of intensifying price instability. It’s either we’d be seeing a breakout above 7,400 or a plunge to 6,500 in the near horizon. Or we could even see both.

Has the Reflation Trade Climaxed?

And here’s the thing.

Has the euphoric and ebullient US markets lost its footing to mark a significant top? As I suspected, strains from US dollar illiquidity has once again resurfaced to have impelled oil prices to tumble back below $50.[See Has the Fed “Fallen Behind the Curve”? March 11, 2017]

It would be interesting to see what happens next to oil prices?  Will it hold ground or flounder back to $45 or even below? If the latter should happen, then the reflation trade will almost certainly lose its shimmy. The question is how will this affect producers, creditors and fiscal conditions of producing nations

As for the US, will a reprise in the oil price debacle be now compounded by mounting woes in the US retail sector?

If the US stock markets flub, then just how will this affect the global risk ON scenario?

How will such reversal impact domestic stocks?

Interesting, no?

Peso Crucified Anew: Why the BSP Maintained Policy Rates; Overcapacity Plagues the Energy Sector too!

Everything is fine until inflationary pressures or something else shocks up the interest rates. And the minute they go up, it becomes obvious that government debt service has gone high enough so they will have no recourse but to have the central bank finance still more. And when that happens the writing is on the wall, the currency collapses and the inflation becomes essentially uncontrollable. This is a highly non-linear process that cannot be captured by the econometric models that are in widespread use. They are essentially linear—William R White, chairman of the Economic and Development Review Committee (EDRC) at the OECD 

Peso Crucified Anew: Why the BSP Maintained Policy Rates; Overcapacity Plagues the Energy Sector too!

Why The BSP Maintained Policy Rates

The Philippine central bank, the Bangko Sentral ng Pilipinas, maintained policy rates at the landmark lowest level in history.

Of course, I expected that they would.

Under the cover of interest rate corridor, they just cut policy rates June 2016. It would make them look silly to raise rates just 8 months after. They would rather tinker with the CPI statistics.

In reality, the BSP did not only cut policy rates in 2016, they financed the record Php 353 billion in fiscal deficits, hardly through debt issuance, but through a phenomenal record monetization of government debt!

And yet it would be best to understand the reason behind the current set of actions by the BSP. 

As I explained earlier, the BSP got “cold feet” over the repercussions from its previous tightening episode in 2014. That was in response to a surge in real economy prices or a spike in statistical inflation brought about by 10 months of 30%++ money supply growth. [See The Mainstream Finally Embraces the Weak Peso… March 12, 2017]

Hooked on narcotic effects from sustained credit expansions, withdrawal syndromes won’t be tolerated.

Again such has been WHY the peso has reached a 10 year low. Inflationism is NO free lunch.

And given the huge capacity buildup which has been concentrated to the real estate, shopping mall, construction and hotel industries over the past few years, the impact from the reversal or even just a slowdown of credit growth should be GREATER—the second time around.

Because of the trauma from the previous ‘deflation risk’ experience, they have now decided to gamble with the peso.

This serves as more proof that the peso will function as the sacrificial lamb in the altar of Philippine politics.

The peso, anyway, can be blamed on many other factors…but hardly ever to the government. Well, that’s way they see it.

The BSP, and the government, essentially believes in free lunches.

The BSP hopes that their recourse to the Pandora’s Box of debt monetization combined with the serial blowing asset bubbles can only have a positive influence on the economy. 

So they tell the public that expected inflation will go down due to a retreat in oil prices. While oil prices do have a factor, it signifies a lesser influence on real economy prices or statistical inflation compared to supply side expansion of money.

Yet for them, oil prices serve as a monopoly ‘get out of jail’ card to give free money away to the government and to the privileged few, who has access to not only bank accounts, but to bank credit, as well as the capital markets.

The USD was under heavy pressure this week.

In Asia, all regional currencies rallied. Of course, that’s with the exception of the Philippine peso. With official rates at 50.325 last March 24, that’s a .29% increase week on week and 1.22% year to date!

The ADXY, the JP Morgan-Bloomberg Asian dollar index, where the peso has a 1.83% share, rallied .3% week on week. The ADXY has been up 2.41% year to date.

As one can see above, the Philippine peso sticks out like a sore thumb (upper window) in the panoply of Asian currencies

Yet more proof in the belief in free lunches.

An example from Bloomberg: “In terms of economic fundamentals, there is no reason why the peso should be as weak as it is now,” Deputy Governor Diwa Guinigundo said at a briefing in Manila after the decision. Bangko Sentral participates in the foreign-exchange market whenever it needs to curb extreme volatility even as the currency remains market-determined, he said.”

Wouldn’t this comment be an irony? If such an implied strength in economic fundamentals exists, then just why the continued dependence on subsidies through the inflation tax or the stealth transfer of resources from the public to the government? Can’t the BSP not just get rid of these as proof of their acclaimed robustness? Apparently, they can’t. As said above, they’re hooked on it. Worst, they have taken the gambit to crucify the peso with deepening use of debt monetization which eventually could lead to a currency crisis.

And given the weak peso since 2013, it’s either the BSP has totally been clueless as to the reasons for its conditions, or they have been equivocating to conceal their real activities.

I understand it isn’t the role of the policymaker to say: we are just instituting a transfer of resources from Pedro, Juan and Maria to the Duterte government (and previously the Aquino government too) and their cronies through the BSP. And hope that part of the financial repression filters into the system.

Though to give them partial credit, “trickle down” has been described to present policies many times by no less than the outgoing BSP chief. Example in a 2016 speech*

How do we enable a greater trickle-down effect so that opportunities and benefits of a healthy and growing economy are cascaded to the grassroots?

Although in fairness, it’s only the top officials of the BSP who most likely knows about this.

And to back the BSP’s view, this scintillating opinion from a mainstream expert…“Growth is robust, domestic demand is strong and the economy is reaching its full capacity,” said Michael Wan, an economist at Credit Suisse Group AG in Singapore. “It’s prudent for them to tighten policy in the next few months to contain risks.”

Similar to the recitation of pious chants, this represents no more than a mechanistic response to statistical observations. The view is that statistics equals economics which resonates on the creed of the Phillips curve or “decreased unemployment, (i.e., increased levels of employment) in an economy will correlate with higher rates of inflation”.

The expert ought to visit the Philippines and look at the various shopping malls. Here, ivory tower economists will see that this has not been about “reaching its full capacity”, but about the deepening EXCESS capacity!

And it’s even about the rising unemployment if one believes government’s January data (unemployment rate 6.6% 2017 versus 5.7% 2016) and the SSS survey!

Yet for as long as both the banking system and the government has been pushing for free money into the system, the massive bidding of resources in the race to build supply will continue to impact real economy prices.

And this will extrapolate to the peso’s sustained degeneration.

*Amando M Tetangco, Jr: Tapping into our strengths - opportunities, threats and challenges for 2016 and beyond in the Philippines and Asia Bank for International Settlements 18 March 2016

Oops, Overcapacity Hounds the Energy Sector too!

And I gather that excess or surplus capacity hasn’t been limited to my bubble sectors, in specific, the real estate, shopping malls, hotels (casinos) and construction industry financed by banks.

The energy sector has reportedly been plagued by overcapacity!

Forgive me, I haven’t checked this out yet. Once I have time I will delve into it.

Nevertheless, the following striking excerpts from Bloomberg’s Gadfly Asian columnist Andy Mukherjee**: (bold mine)

Yet statistics point to a glut. Prices in the spot market, where distribution companies buy electricity from producers, are down to a record 2 pesos (4 cents) per kilowatt hour, Cusi says.

Producers, which include a Who's Who of the Filipino business elite, are complaining about a dangerous oversupply of capacity. Nonetheless, they have to finish what they've started…

Everyone's a little jittery. The rate of return on new power plants has slid to below 10 percent. At least one group has already put the brakes on fresh investment. If all projects that were on the table when the last administration left office in June are completed by 2021, it may take nine years for demand to catch up with supply.

And since the estimated nine years of demand most likely stems from current credit fueled conditions, once credit growth hits the wall, then this posits that the present pace of demand will drop by a significant degree. Ergo, the gap between supply and demand will be extended further!

Yet what’s the source of present energy supply saturation?

Consumers should still brace for bill shocks. The reason is partly the country's challenging topography. In an archipelago of 7,000 islands, transmission is a big challenge. Increasingly, a bigger reason may be an unsustainable quest for sustainable energy.

Renewables account for 31 percent of dependable power capacity, a close second to coal's 36.5 percent share. More than half comes from hydro, with solar making up roughly a tenth. But in the island group of Visayas, which spans the middle of the Philippines, a quarter of renewable energy capacity -- and almost 12 percent of the total -- is now solar.

Five years ago, the government guaranteed to absorb power generated by renewable sources at what now appear to be highly lucrative long-term prices. That's especially the case for solar, where panel prices have crashed. The extra cost is recouped from customers. It's no different from Germany, except that an average Filipino's income is a fraction of the average German's.

The transmission sector shouldn’t be a problem. That’s if the government allowed competition to flourish…unfortunately, this has hardly been the case.

Yet the real or prime reason for the growing risk from industry saturation has been the politicization of the energy industry, particularly the “unsustainable quest for sustainable energy”.

Why? Because the “government guaranteed to absorb power generated by renewable sources”.

In so many words, the government subsidized power generators. The government represented these firms only buyer (monopsony). That’s because the government guaranteed to buy electricity or power at rates presently HIGHER than current prices. It’s like a price floor. Taxpayers and the peso, thus, shoulder the burden of paying for the price differentials brought about by such subsidies. It’s called privatize profits and socialize losses.

This leads to a concise narrative of the origins of industry’s conundrum

At first, media has constantly warned the public of a looming power crisis. Then this turned out as justification for the oligarchy to acquire political projects from the government. It was either that the government blindly acceded to this, or had been part of the stratagem or collusion to allow a wave of crony investment deals into the sector. 

And as part of such deals, the government provided guarantees or subsidies to power firms to ensure their survival.Because subsidized high prices results to increases in quantity supplied, a supply glut has thus emerged. But then again, this hasn’t been driven by market forces but by government’s picking of winners and losers. Yetstill, economic forces gravitate to where prices were.

And government guarantees may not be limited to buying power or electricity from privileged firms, they can extend to “credit enhancements” and to “credit guarantees”.

This brings us to the second major source: easy money. But let me expound on this later.

Yet Mr. Mukherjee insinuates of a possible reason behind the administration's war on mining.

Environment Secretary Gina Lopez, while awaiting senate confirmation, gladdened many a green heart -- and earned many powerful enemies -- by cancelling 75 mining permits in February.

With her family's company a prominent energy investor, rivals worry about bias.

So it’s possible that the war on mining may not have been just about the environment but to enhance the Lopez family’s power business. Use the government’s repressive actions to promote one’s commercial interest by suppressing competition in the name of the environment. Splendid!

This brings us back to the second source of saturation: easy money

It’s interesting to see how the government has reckoned with the sector’s extremely volatile growth conditions. Nevertheless, as the popular bubble sectors absorbed most of the resources through the years, this sector’s contribution to the government’s GDP continues to shrivel (top window)

But money talks. Credit growth to the sector surged in 2013-2014 (PSIC 1994, lower left) and has remained elevated in 2015-2016 (PSIC 2009) even as GDP trended lower. In other words, the sector has consumed so much credit relative to its GDP contribution.

And credit growth appears to have plateaued in 2015 and continues to shrivel

At any rate, the above shows why the BSP needs to keep the money flowing via low interest rates. 

First, the government needs to fund the power firms hence the added pressure on deficits. Lower rates, thus, give the government access to cheaper debt. Of course, credit enhancements and guarantees to the energy sector will best be supported by a low interest environment too.

Second, the BSP needs to finance end user “demand” via an increase in systemic leverage. Need more manufacturing demand for power? Flood the manufacturing sector with credit! Need more demand from consumers? Inundate consumers with free money!

Third, power generators need access to cheap credit too to cover any financing shortfalls or to bridge gaps in the decreases in their firms’ rate of return.

At the end of the day, this has not been about “reaching full capacity” but about EXCESS capacity. It’s a symptom of aggregations of massive malinvestments. And since all actions have consequences, malinvestments will eventually face its economic destiny.

The crux, the BSP’s consternation or trepidation of the aftereffects from a credit slowdown via deflation risks means that they will sacrifice the peso for political convenience.

**Andy Mukherjee Power Plight Needs Duterte's Energy, March 23, 2017 Bloomberg.com