The market economy involves peaceful cooperation. It bursts asunder when the citizens turn into warriors and, instead of exchanging commodities and services, fight one another—Ludwig von Mises
In this issue:
Cracks on the BSP’s Credibility: Treasury Yields Flatten! PLDT to Take Defensive Posture from Higher Debt and Financing Costs
I. Cracks on the BSP’s Credibility, The Growing Risks of Shortages
II. Over 100% of the Weekly 1.67% PSEi 30 Gains Emanated from Pre-Closing Pumps!
III. Telco Pumps: PLDT to Take Defensive Posture from Higher Debt and Financing Costs
Cracks on the BSP’s Credibility: Treasury Yields Flatten! PLDT to Take Defensive Posture from Higher Debt and Financing Costs
I. Cracks on the BSP’s Credibility, The Growing Risks of Shortages
Inquirer, March 24: The Bangko Sentral ng Pilipinas (BSP) may be on the brink of losing control and credibility in herding inflation within the target range if monetary authorities do not adopt a tighter policy stance within the next three months, as growth in prices heat up globally due to the Russian invasion of Ukraine. ING Bank’s senior economist in the Philippines Nicholas Mapa, in his latest commentary, expressed concern that the BSP intended to hold off tightening until the second half of 2022 while influential central banks like the US Federal Reserve is expected to again raise its policy rate this May. …“Should BSP opt to sit out the first half even as inflation surges past target, we could very well see BSP fall behind the curve again as they did in 2018,” Mapa said… “Once this happens, the country may fall into a price spiral with the BSP unable to corral runaway inflation expectations,” Mapa said. “A delay in any form of tightening to the [second semester] runs the very real risk of BSP losing a grip on inflation expectations and will lead to BSP [falling] behind the curve, a position not easily addressed by a token rate hike or two,” he added.
Haven’t we been saying so?
The actions of institutional treasury traders via the treasury markets provide better insights than ticker-tape or backward-looking analysis from the establishment experts.
In August 2020, treasury traders began to part ways with the BSP on inflation. While the national government continues to present a slowdown in the CPI, treasury traders consistently have called this bluff. (Figure 1, topmost pane)
Figure 1
The BSP adamantly refused to budge from its historically low rates stance because of the following perceived advantages: to sustain the rescue of the banking system via repressed deposit rates, increase bank credit transactions, bloat the GDP, expand prospects of higher tax collection, subsidize the government and borrowers through a negative "real" rates regime (financial repression), and contain the FX exchange rates.
Keeping policy rates at a historic low is a function of politics primarily, before economics.
By putting a cap on the rise of the CPI, the BSP hoped to contain interest rates from rising.
See Despite Lower September CPI, Philippine Treasury Yields Soar, Spreads Steepen! Greenflation Implodes the ESG Bubble! October 10, 2021
Compared to 2018, the present distortions are even worst.
Aside from rising rates, the slope of the treasury markets appears to be signaling liquidity concerns ahead.
An inversion has appeared in the 7-year 20-year spreads! Or treasury yields are higher in the 7-year bonds than the 20 and 25-year maturities. (Figure 1, middle and lowest pane)
Further, the spread between 5-year yields, representing the belly of the curve, appears to flatten fast relative to the longer-maturity securities.
Despite the mountain of debt issuance by the central government, market liquidity issues have begun to surface. Once again, treasury traders have barely been bullish (in defiance of the consensus experts).
On this score, we should expect to see either a growing chorus of establishment analysts pushing back on the BSP or a spike in street inflation, regardless of what the CPI says.
Nonetheless, the BSP kept policy rates at historic lows this week.
But the point is, domestic price pressures will come from multiple channels.
Aside from the surging cost of imports and the USD peso exchange rate, domestic sources of price pressures will emanate from interrelated and overlapping factors.
The critical forces include bank credit expansion, BSP and bank monetization of public debt, supply dislocations brought about by the pandemic, misallocated resources, and public spending, including subsidies to shield consumers from high prices.
On an amusing note, after discussing price caps on public transportation last week, the outgoing leadership has a better surprise: free MRT-3 rides for the 400k+ commuters for a month!
Again, from last week…
While such measures may appease the public temporarily, they will lead to massive deficits in the finances of these institutions.
In that regard, public transport conditions will likely deteriorate, and capacity utilization could decrease from accelerated wear and tear and eventual breakdowns from the lack of funding.
See Will the Philippines be "Insulated" from the Turmoil of the Russian-Ukraine War? Authorities Panic Over Spiking Oil Prices! March 20, 2022
And while free rides may be popular to voters, ironically, the Department of Energy has advised government agencies to conserve energy.
CNN, March 24: "The DOE on March 14 issued an advisory for government agencies to strictly implement the GEMP guidelines to achieve at least 10% savings in electricity and fuel consumption."
And Meralco has provided a heads up to the public on the prospects of price hikes in electricity bills.
CNN, March 10: "In a virtual briefing, Meralco head of utility economics Larry Fernandez explained that higher global crude oil prices affect how much Malampaya natural gas costs. It is used by power plants accounting for the biggest share of the company's energy supply…[Translation: We've seen these past few weeks how world crude oil prices have gone up. This will eventually reflect in the cost of Malampaya natural gas and thereafter, in the generation cost.] Generation charge covers how much Meralco purchases power supply from independent power producers (IPPs) and producers it has power supply agreements (PSAs) with. It accounts for 55% of the electric bill. World prices of coal could also affect generation charge since coal is used in generating power, Fernandez added. A weaker peso could jack up the generation charge as well, since energy sources — including Malampaya natural gas — are sold in US dollars."
Again, unless the energy distributors (midstream) can conduct a pass-through of the rising input costs to the consumers, the risks of a profit squeeze should mount.
Figure 2
On this note, the Philippines imports about half of its energy requirements. That is according to the Department of Energy*. Transportation comprises the largest share of the total energy consumption, followed by industry and households.
*Department of Energy, Energy Outlook, Chapter 2: Energy Supply and Demand Outlook p.20 and p. 34
A further point. Unless energy prices reach a level to trigger demand destruction, a sustained rise in energy prices globally may lead to domestic supply rationing or rotational brownouts, which further exacerbates the imbalances in the economy.
In addition, the Philippines is a net food importer. Agricultural products accounted for 13% of the total imports in 2019, according to a September 2020 report of the Philippine Statistics Authority. The agricultural sector posted a net trade deficit of Php 407.38 billion in 2019.
Moreover, food has the largest share of the CPI basket at 35%, which from a statistical perspective, makes the nation vulnerable to adverse changes in the global food supply networks.
Yet, in the new world order, walls are being erected not only against trade but also in investments and finances. Existing commercial and financial contracts are being rescinded, as well. For instance, the Canadian government froze bank and bitcoin/crypto accounts of protesting truckers. The US government also sanctioned FX reserves of the Central bank of Russia.
The bottom line is that as long as forces that disrupt the international division of labor intensify, the risks of supply shortages escalates.
And while supply pressures aren't limited to food and energy, these factors are the most politically sensitive variables.
II. Over 100% of the Weekly 1.67% PSEi 30 Gains Emanated from Pre-Closing Pumps!
Cheap or easy money from central bank policies are the foundations of the Philippine economy and the financial markets.
But what happens then if such conditions reverse?
When the index managers prop up the PSEi 30, we can imagine the scale of destruction of savings once the liquidation phase intensifies.
And as Treasury yields surge, low-volume pumps appear to be crescendoing.
Figure 3
The PSEi 30 surged by 117.21 points or 1.67% this week. Stunningly, pre-closing pumps totaled 129.93 points or 1.85%. (Figure 3, upmost pane)
The thing is, the entire gains of the week, plus a premium, have been due to the artificial boosting of the index!
Outside these pumps, the equity benchmark could have closed lower.
Pre-closing pumps constituted either the magnification of the intraday gains or rescues from a deficit. Three of the four pumps were rescues wherein accentuated returns were seen in two sessions.
Nonetheless, while pre-closing pumps are the most visible attempts to scheme the market prices, they seem as secondary actions to organized buying activities, which start after the lunch break. I call this the "afternoon delight."
Such interventions have become more frequent and intense, signifying desperation to keep the stock market prices afloat.
Resonating with populist politics, the thrust towards market interventions has been designed for immediate gratifications.
Disregarded from these actions are the longer-term consequences, such as massive asset mispricing, the invisible amount of leverage used, the imbalances accruing in the balance sheets of the financial system, and the false signals emitted to the economy manifested through a buildup of malinvestments.
Getting back to the week's activities, telcos and banks were the principal beneficiaries of the 1.67% returns.
Once again, riding on the enactment of the Public Service Act, the revived Telcos took the spotlight. The free-float market cap share of the big three telcos stormed higher from 6.81% to 7.53%. (Figure 3, lowest pane)
The re-charged banks played the supporting role.
Figure 4
Again, the weekly main board volume slumped 50.7% to Php 5.8 billion from the previous Php 11.78 billion. (Figure 4, upmost pane)
Advancers edged decliners by a slim 30 issues over the week. (Figure 3, lowest pane)
From last week:
The slack in volume told the story of weak market breath, lack of participation, and selective pumps, which are symptoms of an artificially propped-up index.
See PSEi 30: Escalating Volatility, PER Ratio Still at 1996 Highs as Credit Default Swap Rates Surge! March 21, 2022
It should be interesting to see how Philippine financial markets will react to the spike in UST last Friday and the continuing rally in oil prices (+7.14 w-o-w). (Figure 4, middle window)
Will 10y USTs sustain a breakout from the 37-year downtrend? (Figure 4, lowest pane)
Finally, the Credit Default Swap of select Asian economies, which surged a week ago, receded this week.
III. Telco Pumps: PLDT to Take Defensive Posture from Higher Debt and Financing Costs
Inquirer, March 4: PLDT Inc. is set to raise over P50 billion from the sale of cell tower assets while signaling a shift away from an era of record spending to boost cash flow and profitability. PLDT chair Manuel V. Pangilinan said on Thursday they would “throttle down” capital spending from P89 billion in 2021 to below P80 billion in 2022. Instead, the company would pursue a “deliberate” and rationalized approach after massive network investments were deployed in recent years amid fierce competition from existing and new players. Pangilinan said PLDT wanted to restore a positive free cash flow in 2022, increase margins and incrementally lower debts in the coming years. The telco giant reported an 8-percent core profit increase to P30.2 billion in 2021 while service revenues rose 6 percent to a record high of P182.2 billion.
On the effect of eCommerce on PLDT’s operations, last November I wrote…
PLDT's revenue performance illustrates the forcible shifting of the economy from the brick-and-mortar model to the digital space.
Because its growth represented substitution effects than productivity-driven, PLDT's topline performance seems to have hit a wall.
…
But there is a growth component familiar to almost all members of the PSEi 30. That component is DEBT.
See Ayala Land’s Fabulous 3Q Growth Exposed, Fintech Driven PLDT Boom? Treasury Yields Spike as October CPI Slows November 7, 2021
Figure 5
Yes, PLDT’s annual revenues grew by 6.8% in 2021, which contributed to the net income growth of 8.53%. (Figure 5, upper pane)
But the initial hubbub about the shift to eCommerce boosting the revenues of the telco giant may have been overstated.
Analyzed by quarters, the revenue growth rate slid to 3.4% in Q4, following 3.8% in Q3. The low base effect powered higher Q1 and Q2 revenues by 9.8% and 10.7%, which comprised the gist of the annual gains.
Meanwhile, Q4 income jumped 62.5%, which plugged the deficits of the first three quarters of 2021, to post a positive annual growth rate. (Figure 5, middle window)
Like typical PSE big-cap issues, debt remains the consistent growth center for PLDT.
Figure 6
Debt has not only reached a record high (Figure 5, lowest window), but it continues to outperform the growth rate of revenues and income. (Figure 6, upmost pane)
The ramification: higher cost of financing, which from the news account, could have prompted the management to declare the intent to "throttle down" on CAPEX and sell assets "to restore a positive free cash flow in 2022."
And higher rates are yet to plague the firm's financial conditions. This should put into perspective the shift in the stance of PLDT’s management.
Interestingly, partly due to rising financing costs, PLDT’s profit margins slipped to 20.26% in Q4 from 23.3% in Q4. (Figure 6, middle window)
Again, on the impact of eCommerce on the Telco industry, from August 2021…
For telcos, the forced adaptation from brick and mortar business models to remote work and telecommuting during the pandemic boosted their revenues.
However, as a service platform, its growth prospects remain anchored on the economic and financial conditions of households and businesses.
In any event, the sector’s outperformance is temporary and should realign eventually with the growth dynamics of its clients/consumers as socio-economic conditions normalize.
See PSEi 30: Surging Prices as Criteria to Membership: ACEN and CNVRG in, EMP and DMC out August 8, 2021
Another issue rationalizing the pumps on the Telco industry: Liberalization.
Though the liberalization of the industry should be a promising development, it is doubtful if the current principal shareholders of TEL and GLO are willing to sell their entire stakes to foreign investors.
Perhaps they may absorb new partners by whittling down their ownership share, but corporate control will likely remain under the current majority owners.
We suspect that the recently enacted Public Service Act may likely prompt state-owned China Telecoms to assume full ownership and control of the new entrant and publicly listed Dito Telecommunity.
The takeover of the Dito Community by China Telecoms may be an implicit justification for the liberalization of the telco sector.
At any rate, even the telco sector grew out of an environment of easy money. And it would be interesting to see how the industry would negotiate its way amidst a turbulent climate of rising interest rates.
And maybe it is in such conditions where the old guards may find replacements.
Finally, the long-term price of PLDT provides a mixed picture of the current trend. (Figure 6, lowest pane)) One may see and interpret several patterns from such the chart according to their biases.
The patterns ranges
-from the bullish rounded bottom anchored on the 2003 uptrend
-to the bearish mini-double top and rising wedge (base of 2018)
-to the neutral rangebound 10-year formation from 2005 to 2015.
Take your pick.
Yours in Liberty,
The Prudent Investor Newsletters
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Notice: This newsletter is intended to apprise readers of the market conditions based on the information available at the time of the items’ writing, whose accuracy and timeliness of the issues concerned are subject to change without prior notice. The contents of the newsletter are not expressed solicitation to trade and the positioning on particular issues discussed merely reflect the opinions of the writer.
