How Volatile Bond Markets May Affect the Phisix

Many are good at solving equations but not understanding them; others are good at understanding equations but not solving them ; a few are good at both understanding and solving equations; those left over who are neither good at solving equations nor understanding them, yet insist on doing mathematics, become economists. Nassim Nicolas Taleb

Swooning over to populist politics, Philippine media immediately acclaimed that the recent statistical 7.8% economic growth for the first quarter was “stunning”[1].

Behind the “Stunning” Economic Growth has been a “Shocking” Credit Boom

Let us take the “stunning” growth narrative from the Philippine government’s National Statistical Coordination Board[2]:

The robust growth was boosted by the strong performance of Manufacturing and Construction, backed up by Financial Intermediation and Trade.

On the demand side, increased consumer and government spending shored up by increased investments in Construction and Durable Equipment contributed to the highest quarterly GDP growth since the second quarter of 2010.

The following table[3] above from the NSCB highlights the areas which supposed delivered such “stunning” growth

One would note that the growth in the household final expenditure, which represents the “demand side” (red ellipses on left table), has been significantly below the booming supply side areas particularly construction, and financial intermediation (red ellipses on right table).

Curiously and ironically, the real estate segment of the economic growth data has risen almost at par with domestic demand even as the construction sector has taken a huge leap in contributing to such statistical growth.

The table below exhibits the rate of growth of bank loans covering these sectors over the same period. 

The BSP data reveals that bank credit growth for these sectors have been even more “shocking”.

While the banking system’s general loan growth has expanded by 15% in the first quarter year-on-year or more than double the rate of demand, construction and financial intermediation has zoomed by staggering 51.2% and 31.61% correspondingly!!!

Real estate Renting and Business Services, Hotel and Restaurants and Wholesale and Retail trade has likewise been in an astounding expansion mode. During the same period banking loans on these sectors grew by 26.24%, 12.49% and 19.19% respectively!

Earlier I said “ironic” because the 1^st quarter statistical growth for the Real estate Renting and Business Services sectors grew by only 6.3% even as bank loans jumped by 26.24%. Where have borrowers from these sectors been channeling the loan proceeds?

Meanwhile the measly 5.9% credit growth in the manufacturing sector reflects on why this sector has not been a bubble.

Nonetheless the credit booming sectors now account for 53.25% of total banking loans.

Given the fantastic rate of credit growth, it would seem a puzzle why the Philippine economy grew by a miserly 7.8%.

And it is important to realize that even as domestic demand, as measured by household consumption, expanded by 5.1%, such has “partly” been backed by credit growth. I say “partly” because only a scanty number of households have access to bank credit.

Bank loans to domestic households advanced by a “modest” 11.89% during the same period. This has been supported by the expanded use of credit cards 10.62% and a rise in auto loans 13.86%.

I say “modest” because even if household loans grew by more than double the rate household consumption, compared to the scale of bank credit growth in the supply side, the demand side credit surge looks like a cinch compared to the supply side.

Banking loans for April mostly resonates on the same 1^st quarter trend but at a lesser pace of increases.

According to the latest BSP data[4], while general banking loans has moderately slowed, year-on-year credit to the construction sector remained resilient and swelled by 56.14%. The BSP’s press release again glosses over mentioning this data. 

However credit figures seem to have eased for wholesale and retail trade 10.02, financial intermediation 15.89% and real estate related loans at 22.67%.

Meanwhile loans to the hotel and restaurant sector firmed at 23.67%. And bizarrely, the “politically incorrect” mining and quarrying sector posted a surprising 67.26% spike in loan growth.

On the demand side, household loans grew at again a “moderate” rate at 11.5%. This has been backed by “modest” expansions in credit cards (9.01%) and auto loans (16.69%).

The easy money environment has also been evident in domestic money supply conditions.

Domestic liquidity (M3) increased by 13.2% on April (y-o-y) to reach Php 5.2 trillion. As the BSP notes[5],

The growth in money supply was driven largely by the sustained expansion in net domestic assets (NDA). NDA increased by 19.7 percent y-o-y in April from 25.3 percent (revised) in the previous month due largely to the continued increase in credits to the private sector of          14.3 percent, reflecting the robust lending activity of commercial banks. Similarly, claims on the public sector grew by 11.9 percent in April after rising by 15.0 percent (revised) in March, largely a result of the increase in credits to the National Government (NG).

The Philippine government has been actively tapping the credit markets for its expenditures as both revealed in the 1^st quarter and in the April 2013 data.

Yet each peso the government spends is a peso not spent by the private sector. And every additional peso the government spends means higher taxes, bigger debt and or more inflation as time goes by.

All these imply that the foundations for such “stunning” statistical growth have principally been due to ballooning credit.

And according to Investopedia.com[6] credit means borrowed money “must be paid back to the lender at some point in the future.”  In other words, such “stunning” pace of economic growth signifies a substantial frontloading of future growth to the present.

Worst, the current credit impelled growth dynamics extrapolates to a sustained massive buildup of imbalances particularly magnifying the risks of the tightly entwined or interdependent oversupply and overleverging.

Thus, take away the substance (credit), the form (statistical growth) will be exposed of its cosmetic unsustainable dynamic: Today’s manipulated boom will eventually metastasize into a bust.

Importantly behind the fanfare over such “stunning” statistical growth is the revelation of the dark side of the Philippine political economy. 

Given that the fact that the large segment of the population remains unbanked or has little or no direct access to the banking sector, (the BSP estimates that only 21.5% of households have access to banks) and where 83% of the stock market cap have been held by a few families, such credit inspired asset (property-stock market) boom which has been reflected on statistical growth, embodies of a boom vastly tilted towards political and politically connected economic financial elites.

In short, current policies represent a transfer or a subsidy to these politically privileged classes at the expense of the average Pedro or Juan.

Sad to see how the public fall prey to such disinformation, which has been disguised as economics.

Yet what people cheer for today will redound to tears in the near future.

How Media Rationalizes the Phisix Selloff

The disclosure of the “stunning” economic growth came amidst a one day heavy sell-off in the Phisix.

It was “fascinating” to see a bewildered public agonizing over how such good news could be met by a fury of sellers. Many seemed lost, as seen by comments on different social media platforms.

Beguiled by the conventional wisdom that stock market performance reflects on the real state of the economy, I said “fascinating” because the marketplace has been conditioned to see that there is no way but up, up and away for the Philippine assets.

Last week may have brought back some reality to them

The Philippine Phisix slumped by 3.81% on Thursday May 30^th partly in sympathy with Japan’s nose diving stock markets. Over the week, the Phisix lost 3.4%. Global markets have been mostly lower and such includes our ASEAN peers.

The Phisix meltdown had been rationalized by media as having been a regional phenomenon, from the prospective “tapering” of US Federal Reserve’s easing programs and from “expensive” valuations.

The above shows how current environment has turned from risk ON to risk OFF. Risk OFF extrapolates to a global, not just regional selling pressure.

And funny how the FED has repeatedly been talking about “exit” strategies from the start of the year[7], yet the supposed impact from FED communications would come only last week? Why?

In late April, chatters over “tapering” even changed to “extending bond buying”[8]. So the FED seems much in confusion as with the global markets deeply dependent on them.

The reason why tapering has been much in the news and justified as having influence to stock and bond markets have largely due to surging yields in US treasury paper claims and mortgage rates. US mortgage rates climb to the highest level in 2 years[9].

And as I have been pointing out, “after the fact” or ex post narratives as “expensive” barely explains why and how “expensive” came to be. If markets have been rational, as media and their favored analysts presume, then there would hardly be such word as “expensive” or “cheap”. There hardly will be any incidences of “parallel universes” which contrary to the consensus expectations, have been quite common features of financial markets today.

And more interestingly, reports about the contagion from Japan’s twin stock and bond markets crash had only been mentioned in passing or have been mostly muted.

The best explanation I saw as quoted by media[10] was from a multinational domestic based analyst “At the core is higher risk aversion, as evidenced by a blip in 10-year bond yields overnight”

Higher risk aversion signifies a symptom of the current or past developments. People do not just become risk averse for no reason at all or when they wake up on the wrong side of the bed.

The mainstream seems clueless on what has truly been going on.

The Mania in the Philippine Bond Markets

As I said last week[11],

Japan’s twin market crash for me serves as warning signal to the epoch of easy money.

This remains highly relevant today.

Domestic 10 year yields did spike last Thursday. Such had been the main force to the stock market selloff as I pointed out here[12]. 

But it is unclear if the surge in yields is going to be a “blip” or a temporary event.

The odds are against such a claim, why?

Rising yields have become a global phenomenon.

Since the last week of May, 10 year yields of Thailand, Malaysia and Indonesia have all been exhibiting upside actions.

And as likewise pointed out last week, yields in the US, Germany, France and the crisis stricken PIGS have been ascending.

Such dynamic has been no different to our East Asian counterparts. 10 year yields of Taiwan, South Korea, Singapore and Hong Kong have all been increasing since early May.

Does any of the above suggest that higher yields have been a “blip”? And given that global bond yields have been on an upside route, why should the Philippines defy such global trends? Because of the belief in the political “this time is different” nirvana?

Secondly, Asian currencies have been pummeled also from rising yields.

The JP Morgan Bloomberg Asia Dollar index or the ADXY is a trade weighted spot basket of 10 Asian currencies benchmarked against the US dollar[13]. The ADXY has been declining almost in correspondence with the rising yield of Asia.

Asia’s rising yields have even begun to filter into credit concerns.

As the South China Morning Post reported last week[14]:

Borrowers in Asia are seen as the least creditworthy relative to their global peers in almost a year on signs of faltering growth in China.

The Markit iTraxx Asia index of credit-default swaps traded as much as 20 basis points higher than the average of four others from around the world this month, the biggest premium since June, according to data provider CMA.

The Philippine Peso seems headed in tandem with the regional peers (Yahoo Finance). Most of the Peso’s decline has almost been in near synchronicity with the Asian currencies. The falling peso seems to have presaged the huge correction in the Phisix (stockcharts.com)

While the Peso has adjusted to reflect on global trends, the domestic bond markets apparently continues to discount or ignore international developments.

Aside from the global backdrop of rising yields, there is an even more compelling argument why low yields may not last in the Philippines.

The above charts represent the Philippine 10 year[15] and the US 10 year yield[16]. The yield spread between the domestic and the US bonds have in the norm been about 4-5 basis points. Recently such spread has abruptly collapsed over the last month. This comes as the Philippine yield hit a record low (3.04%!! in May) and as US yields has recently surged (see ellipse). Such has been much about the ballyhooed credit rating upgrades.

As of Friday trading close, the Philippines bond yield closed at 3.54% vis-à-vis the US 2.132%, the spread has narrowed substantially to 1.408 bps. 

The Philippines’ 3.54% compares with 10 year yields of our neighbors Thailand’s 3.51%, Malaysia 3.44%, and South Korea 3.1%. This makes the Philippines within their league.

Two factors shaping the collapse of the US-Philippine spread; one frenetic yield chasing dynamic, and the other, the markets see the Philippines as having established a new order.

And unless the financial markets retain such firm conviction or confidence that the Philippine credit profile has reached or attained the standings of our far richer neighbors, then the vastly narrowed Philippine-US spread may or could be an accident waiting to happen via reversion to the mean.

Yes, these are signs of an ongoing mania today in Philippine bonds.

By the way, current Philippines yield suggests that we have significantly economically and financially pulled away from Indonesia whose 10 year yield was last at 6.1% which I am highly doubtful of.

And a risk off environment could be just the apt ingredient for this.

And last week’s yield spike could be a just precursor to the coming mean reversion.

Again a sustained risk OFF environment particularly through higher yields may serve to strengthen or falsify the market’s conviction of the newfound distinction imputed on Philippine bonds—and of the entire spectrum of Philippine assets.

This will also put the recent credit rating upgrades to a crucial test.

Nonetheless a potential bedlam in the local bond markets may hardly signify a conducive environment for the stock market.

The Relationship Between Rising Yields and the Wile E Coyote Moment

The current rise in global yields may mean one of the following or a combination of the following[17]: the receding stimulative effects of easing policies, growing concerns over shortages of capital, there could be implicit concerns over rising inflation, and finally, increasing concerns over credit risks.

Given that surging yields of major economies seem to have inspired the global bond selloffs I suspect Japan’s crashing bond markets as having been the biggest influence which media consistently tries to suppress.

Rioting JGBs seem to herald the return of the bond vigilantes.

10 year bond yields of Germany (GDBR10 red orange) US (USGG10YR Green) the French (GFRN10 orange) and Japanese (GJGB10 red) appears to have significantly moved higher in conjunction since early May 2013. This was a month after the announced doubling of monetary base, and subsequently, a jump in April’s monetary base affirmed the direction of Bank of Japan’s policies[18].

Rising yield will tend to squeeze out heavily leveraged trades which mean that we should expect heavy volatilities or treacherous market ahead.

Of course some markets like the US may continue to rise even if interest rates ascend. This occurred during the mania phase of pre Lehman bankruptcy boom.

But as I previously discussed[19], rising markets on greater debt accumulation amidst higher interest rates is a recipe for the Wile E. Coyote[20] moment.

Markets can continue to run until it finally discovers that like Wile E. Coyote they have run past the cliff.

This may apply to any markets including the Philippines Phisix or ASEAN.

Finally given that the torrent of bad news which in the past provoked higher markets or “bad news is good news”, the current setting appears to have failed to incite the same expectations and results.

Such difference probably means that markets don’t see sufficient outcomes from current or prospective set of actions from policymakers.

The coming days or sessions will be very interesting.

However I expect monetary authorities to resort to even bigger actions to arrest rising yields—but the consequence may not necessarily revive the risks ON environment.

Trade with utmost caution as market risks seems very high.

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[1] Inquirer.net Economy grows a stunning 7.8% May 31, 2013

[2] NSCB.gov.ph National Accounts of the Philippines - Press Release PHILIPPINE ECONOMY POSTS 7.8 PERCENT GDP GROWTH May 30, 2013

[3] NSCB.gov.ph Key Figures PHILIPPINE ECONOMY POSTS 7.8 PERCENT GDP GROWTH May 30, 2013

[4] BSP.gov.ph Bank Lending Continues to Expand in April May 31, 2013

[5] BSP.gov.ph Domestic Liquidity Sustains Growth in April May 31, 2013

[6] Investopedia.com Credit

[7] See Poker Bluffing FOMC: Probable Stop in Bond Buying January 4, 2013

[8] Small Street Journal Fed Debate Moves From Tapering to Extending Bond Buying April 25, 2013

[9] Bloomberg.com Mortgage Rates in the U.S. Climb to Highest in a Year May 31, 2013

[10] Inquirer.net PH stocks take a big hit; peso weakens May 31, 2013

[11] See Phisix: Will Abenomics trigger a “Sell in May”? May 27 2013

[12] See JGB Watch: Nikkei Dives by 5.15%, Yields Ease, Phisix Commiserates May 30, 2012

[13] Bloomberg.com Bloomberg-JPMorgan launch first tradable Emerging Asia Currency Index October 13, 2004

[14] South China Morning Post Asian debtors' rising risk May 28, 2013

[15] Tradingeconomics.com PHILIPPINES GOVERNMENT BOND 10Y

[16] Tradingeconomics.com UNITED STATES GOVERNMENT BOND 10Y

[17] See What to Expect in 2013 January 7, 2013

[18] Japan Times Monetary base soars to highest ever: BOJ May 2, 2013

[19] see Has the Phisix has Gone Ballistic?! February 25, 2013

[20] Warner Brothers The Fiscal Cliff: America’s Wile E. Coyote Moment, The Fiscal Times October 15, 2012

Definitely Not a Reprise of 2008, Phisix-ASEAN Equities Still in Consolidation

Note: I am in a hurry so this week's outlook will be abbreviated.

This year’s top-notch performers among global stock markets[1] (based on year-to-date) accounted for biggest losers in the region this week: I am referring to ASEAN equities.

Correction and NOT a Reversal

ASEAN markets had recently been defying ‘gravity’ but as I noted last week[2] there seems to be signs of tightening correlations.

Over the short term or during past two months, the correlation of Phisix and ASEAN indices with that of distressed global equity markets have evinced formative signs of tightening or reconvergence.

As I have been saying, divergences in market performance may persist for as long as a global recession is not in the horizon.

One must remember that decoupling signifies as an unproven thesis that can only be validated during a full-blown crisis. It’s a theory that I have been sceptical of, considering the concurrent interconnectedness and interdependence of global economies.

So the previous downside volatility of the global financial markets appears to have been carried over during this week, which had adversely affected ASEAN markets.

Yet reports of China-led BRIC (Brazil, Russia and India) proposed rescue[3] of the Eurozone by buying of Euro bonds, and most importantly, the joint or coordinated liquidity infusions by major central banks[4] as the U.S. Federal Reserve, the Bank of England, Bank of Japan, and the Swiss National Bank through foreign currency swap lines or exchanging of an agreed amount of currencies (see the basics here[5]), underpinned a fierce rally in major global equity markets.

We seem to be witnessing another variety of quantitative easing (QE) or money printing measures at work.

Perhaps one unstated objective for the synchronized liquidity injections has been to finance $800 billion derivatives[6], where 40% of which has been accounted for by “equity” options, whose expiration on during last week would have reportedly triggered tremendous pressure on the marketplace. Also such interventions could have been meant to forcibly cover equity ‘shorts’ via the derivatives market which signifies another war against the markets and alternatively represents as policies aimed to bolster equity markets.

As I have repeatedly been pointing out, what I call as the Bernanke’s doctrine[7] has been about inducing a stock market boom that would serve as a wealth effect transmission to the economy.

Furthermore, the violent pendulum gyrations seen in the market breadth[8] of US markets resonates how today’s financial markets have behaving—boom bust cycles.

Essentially, emanating from the embers of the 2008 meltdown, global equity markets have increasingly been steroid dependent which means MORE boom bust cycles ahead.

Again as I projected last week

Friday saw big declines in Asian currencies as the US dollar fiercely rebounded over a broad number of major currencies. This US dollar rally may see an extension this Monday (unless there will be declarations for major actions by US and European policymakers over the weekend).

The unfolding crisis in the Eurozone has been prompting for short term funding predicaments that has led to liquidations across financial markets worldwide, including Asia.

This has been reflected on Asian currencies as well as the Peso.

This terse quote from a Bloomberg article summarizes the week’s action in Asia’s currency markets[9]

Losses for the won, rupee, ringgit and Taiwan dollar were the worst since mid-2010.

As with most of Asia, the Philippine Peso lost a hefty 1.91% over the week.

This Is NOT 2008, Redux

I would disagree to imputations that current environment is about rising risk aversion. Such description would likely apply to financial markets of crisis afflicted economies but not to Asia markets.

Proof?

The Euro debt crisis and fears of another recession has indeed been increasing overall market anxieties around, but for Asia such concern has been muted, relative to 2008.

The above graph of Credit Default Swap prices representing debt default risks of Asian sovereigns from ADB[10] shows that credit concerns in the region subdued.

In addition, net foreign trade in the Philippine Stock Exchange has been inconsequential despite emergent signs of selling pressures so far.

It could be that local investors may seem to have been more ‘traumatized’ (Post Stress Traumatic Disorder) by the last crisis to stampede into US dollars, relative to foreigners.

Moreover, while emerging markets in general have endured equity outflows from the recent volatility, this has partly been offset by inflows to the bond markets[11].

And there is even more evidence that risk environment has been conspicuously nuanced compared to 2008—the continuing lofty levels of prices of gold and other precious metals and even of oil.

Notice that the recent downside actions of the S&P 500 (SPX) has been accompanied by downswings of gold, precious metals (DJGSP) and oil (WTIC), yet the former two has basically risen above the levels from where the declines were triggered.

Furthermore, oil at $87 hardly accounts for a ‘recessionary’ environment.

And there have been some insinuations that bullion banks have been significantly hurt by the recent upsurge in gold prices, such that manipulation of the gold-precious metal markets downwards has been undertaken to ease on the losses of these banks under the camouflage of central bank actions.

As Goldmoney.com Alasdair Macleod writes[12],

In common with dealers and market makers in all markets, bullion traders run short positions in bull markets. The turnover on the bullion markets is massive, and a dealer active on behalf of its customers and its own trading book can make substantial dealing profits. So long as those profits exceed the losses on their short positions, all is well. This is why the greatest threat to the bullion market is not the bull market itself, but prices rising too rapidly.

In the last two months, the market for gold has been particularly strong, erasing trading profits for many bullion dealers. Central bankers see this as the result of financial flows building due to the difficulties in the euro area. The targets for these flows out of the euro are the Swiss franc and gold, so the SNB’s move is designed to take the heat out of both of them.

The whopping $2 billion trading losses racked up by Swiss bank UBS[13] from supposedly unauthorized trade by a ‘rogue’ trader, Kweku Adoboli, has allegedly been due to voluminous exposure in “shorting” silver[14].

All machinations to manipulate the metals market will prove to be a temporary event. We should see metals rally significantly in the light of intensifying interventions (via assorted money printing measures) in the marketplace.

With the team Ben Bernanke meeting this week (September 21^st) for an extended 2 days[15], we should expect Operation Twist, a pioneering measure telegraphed by Mr. Bernanke in his last speech[16], which aims to lower interest rates on the longer duration securities, to be formally in operation.

This could be backed by another formal QE 3.0 or by a significant interest rate cut on excess reserves (IOER) meant to disincentivize banks from parking their excess reserves at the Fed.

And considering that much of the developed world has been already been immersed into various forms of QE, we should expect improvements in global equity markets that should filter over to ASEAN markets.

Again, to repeat, this has NOT been 2008. There are hardly signs of deflationary risks that warrant an increase of cash holdings. In the US, money supply has been rampaging along with improving signs of credit conditions[17]. Elsewhere, we should expect policy directions towards an accommodative stance by keeping current levels of interest rates or perhaps even by lowering policy rates.

Central bank activism essentially differentiates today’s environment from that of 2008.

PSE Still in Consolidation Mode

The local market has indeed been under pressure, but again there have hardly been signs of major deterioration.

True, every sector has been marked by declines this week with the ALL sector suffering the largest loss due to Manulife (-6.02%).

Mining, being overextended, suffered most from last week’s profit taking. Again I view this as a fleeting event.

The Phisix has been rangebound. However, trading indicators seem to suggest of partially oversold conditions (MACD). This implies that a rebound could be in the offing.

And peso volume has been dropping as the Phsix consolidates. This serves as indication of the diminishing strength of sellers.

Market internals, despite last week’s significant profit taking, has not materially deteriorated.

If US markets will continue to rebound, then we should see the current consolidation trend in the Phisix to segue into an ascending trend.

I would certainly watch the US Federal Reserve’s announcement and the ensuing market response.

If team Bernake will commence on a third series of QE (dependent on the size) or a cut in the interest rate on excess reserves (IOER), I would be aggressively bullish with the equity markets, not because of conventional fundamentals, but because massive doses of money injections will have to flow somewhere. Equity markets—particulary in Asia and the commodity markets will likely be major beneficiaries.

As a caveat, with markets being sustained by policy steroids, expect sharp volatilities in both directions.

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[1] See Global Equity Market Performance Update: ASEAN Equity Markets as co-Leaders, September 13, 2011

[2] See Phisix-ASEAN Equities: Staying Afloat Amidst Global Financial Market Hurricane, September 11, 2011

[3] See BRICs Mulls Bailout of the Eurozone September 14, 2011

[4] See Hot: Major Central Banks to Jointly Offer US Dollar Liquidity, September 15, 2011

[5] See How Does Swap Lines Work? Possible Implications to Asia and Emerging Markets, October 30, 2008

[6] Naked trader.com Almost 40% of S&P 500 Options Expire Sept. 16, JPMorgan Says

[7] See US Stock Markets and Animal Spirits Targeted Policies, July 21 2010

[8] See US Equity Markets: Signs of Intensifying Boom Bust Cycles, September 17, 2011

[9] Bloomberg.com Asian Currencies Fell in Week on Concern Europe’s Debt Crisis Will Worsen, September 17, 2011

[10] Asianbondsonline.org Emerging East Asia CDS - Senior 5-year

[11] Wall Street Journal Emerging Market Local Currency Bonds Funds Continue To Draw Money, September 16, 2011

[12] Macleod Alasdair Central banks and the gold price goldmoney.com September 11, 2011

[13] Washington Post, UBS says rogue trader caused $2 billion loss, September 15, 2011

[14] Keiser Max BREAKING: UBS rogue trader was trying to exit a naked silver short…. [UPDATED], maxkeiser.com September 15, 2011

[15] IBTimesFX The Week Ahead September 16, 2011

[16] See US Mulls ‘official’ QE 3.0, Operation Twist AND Fiscal Stimulus, September 9, 2011

[17] See US in a Deflationary Environment, NOT! (In Charts) September 16, 2011

Phisix and the Inflationary Boom

A continual rise of stock prices cannot be explained by improved conditions of production or by increased voluntary savings, but only by an inflationary credit supply. Fritz Machlup

The Phisix has been creeping higher posting 5 consecutive weeks of incremental gains.

Year-to-date, the Phisix has accrued a nominal local currency based return of 7.2%. Since the Peso has been up by about 3.8% over the same period, a US dollar invested in the local equity market would see gains of over 10% gross and a real (inflation adjusted gain) of 5.4%, based on the latest inflation figure at 4.6%[1].

For local investors real Peso returns would translate to 2.5%.

While some signs for a possible profit taking correction may have surfaced due to the succession of winning streaks, in bullmarkets extended runs are a commonplace.

Yet momentum indicators suggest either a sectoral rotation as major issues consolidate or a continued upswing over the coming sessions.

Along with a briskly Phisix, the Philippine Peso has also shown persistent vigor to reflect on the strength of Asian currencies.

A strong Peso (above window), which is a sign of relatively stronger demand for Peso assets, is hardly a harbinger of a looming major correction.

Again the Peso’s rise is being reflected on similarly buoyant basket of Asian currencies—the Bloomberg JP Morgan Dollar Index (ADXY-lower window).

Over the recent weeks, I have been saying that the Property[2] and Financial[3] sectors could take the market’s leadership from the overheated mining sector.

As I wrote[4] last week,

And part of this phenomenon could highlight a rotation away from the mining sector and into the other laggards, perhaps to the finance and the property sector as the next major beneficiaries of the percolating inflation driven boom as previously discussed.

Well lady luck appears to be smiling anew on us as this outlook appears to have been partially validated this week.

Both the property and the financial sectors took 1^st and 2^nd spot ahead of this year’s uncontested market leader, the mining sector.

Except for the Industrial Sector, the gains of the Phisix has clearly been lifted by these two resurgent industries.

From the above, it would seem that we are on a roll, as the local markets have been unfolding exactly in accordance to our prognosis.

Yet I am seeing additional evidence of a business cycle boom phase.

The chart above from ADB[5] shows that (except for China) property prices in the ASEAN region have been on an incremental rebound and appears to have been partly fueled by circulation or bank credit.

So the region does not only show similarities in movements in equity prices but likewise in the bank credit growth and correspondingly in housing prices. The general directions have been synchronized, except for the scale.

From this perspective, I expect that the gap filling phase or a “reversion to the mean” dynamic of the property-finance tandem to remain in play as a real property boom will be financed by mostly the banking sector, given the limited options of the underdeveloped domestic capital markets.

This is one major sign of an inflation driven boom.

Another sign can be seen over at the broad market in the Philippine Stock Exchange.

The bullish sentiment has rampantly been spreading as more issues have caught the market’s attention.

While the average daily traded issues (computed on a weekly basis) has recently declined, the extraordinary breadth suggests that even third tier (non-liquid) issues are being revived with pizzazz.

Two examples:

Holding company Zeus Holding Inc. [PSE: ZHI; upper window] skyrocketed by a breathtaking 400+% in just two weeks!

Also Basic Petroleum Corporation [PSE: BSC] zoomed by stupendous 69% over the week!

[disclosure: I don’t own any of the above]

Both issues has trailed the Phisix or has basically missed the two year upside.

To analogize, these issues signify as latecomers to the party but have come crashing into the shindig in a grand entrance. To wit, the lapse in time and scale has been compensated by the recent bouts of explosive upside actions.

Yet we have seen many similar issues go ballistic, mostly piggybacking on Merger and Acquisition rumors, or joint ventures, or other forms of rationalization.

As I pointed out in September 2010[6],

As the growing conviction phase of the bubble cycle deepens, as represented by the recent buyside calls of “Golden Era”, one should expect to see heightened volatility in market actions which means more frequent explosive moves.

Yet in defying conventional wisdom, many are flummoxed by these events. As I wrote at the start of the year[7]…

while the mainstream will continue to blabber about economic growth, corporate valuations or chart technicals, what truly drives asset prices will be no less than the policies of inflationism here and abroad that leads to cyclical boom and bust in parts of the world including the Philippines.

Current market actions have only been vividly confirming this ongoing inflationary boom, where too much money has been chasing returns.

Again what mainstream hardly can comprehend or explain, paradoxically is a dynamic which I have been predicting ever since.

Understanding how the market process works is key. Living on a mythical self-imposed sense of reality won’t help[8]. In fact, it can be disastrous.

Bottom line:

Every time the Phisix attains new highs, we should expect high octane performances even from peripheral or formerly illiquid issues as money rotates from issues which has earlier outperformed to issues that have lagged and vice versa, a feedback mechanism that would result to broad market price increases. In short inflation boosted relative price actions eventually end up as general price increase.

In other words, a rising tide will lift most, if not ALL, boats.

This is my Machlup-Livermore paradigm[9].

The Phisix has simply been demonstrating how an inflationary boom works, which should also serve as an example of how inflated money works through the economy (but is more complex)

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[1] Reuters.com Philippine annual inflation at 4.6 pct in June, July 4, 2011

[2] See Expect a Rebound from the Lagging Philippine Property Sector, July 17, 2011

[3] See A Bullish Financial Sector Equals A Bullish Phisix?, May 22, 2011

[4] See Confirmation of the Phisix Breakout!, July 24, 2011

[5] ADB.org, Asian Economic Monitor July 2011

[6] See Philippine Phisix In A Historic Breakaway Run! September 12, 2011

[7] See The Phisix And The Boom Bust Cycle, January 10, 2011

[8] See Quote of the Day: Living Out of a Myth, July 29, 2011

[9] See Are Stock Market Prices Driven By Earnings or Inflation? January 25, 2009