"The Fed is Done:" Asian-Pacific Currencies, Bonds and Stocks Soar!

  

Credit expansion cannot increase the supply of real goods. It merely brings about a rearrangement. It diverts capital investment away from the course prescribed by the state of economic wealth and market conditions. It causes production to pursue paths which it would not follow unless the economy were to acquire an increase in material goods. As a result, the upswing lacks a solid base. It is not real prosperity. It is illusory prosperity. It did not develop from an increase in economic wealth. Rather, it arose because the credit expansion created the illusion of such an increase. Sooner or later it must become apparent that this economic situation is built on sand—Ludwig von Mises 

 

In this issue 

"The Fed is Done:" Asian-Pacific Currencies, Bonds and Stocks Soar! 

I. "The Fed is Done" Spurred a Revival of a Global Asset Mania 

II. The Plunge in the US Dollar Powered Asian Currencies and the Philippine Peso 

III. Global Risk ON: Asian Bonds Rallied, But Philippine Treasury Yields Increased  

IV. Global Stock Market Mania Spills Over to Asia-Pacific 

V. The Philippine PSEi 30’s Tepid Gains 

VI. Manic Markets Can Only Disguise Risk  

 

"The Fed is Done:" Asian-Pacific Currencies, Bonds and Stocks Soar! 

 

Sensing the comeback of the easy money regime, rampaging bulls powered a meltup in global and Asian currencies, bonds, and stocks. 

I. "The Fed is Done" Spurred a Revival of a Global Asset Mania 

The Fed is 'done,' a Bloomberg email headline noted. 

 

The Fed’s pause absent its hawkish undertones, a supply shift in US Treasuries towards T-bills, and a disappointing payroll report, among other unimpressive economic data, spurred this week's remarkable upside volatility in the US and global equity markets.   

 

Figure 1  

The S&P 500 vaulted 5.85% this week for its best showing since November 2022.   Simultaneously, the USD dollar index (DXY) plunged 1.47% while the 10-year UST yield also dived by 5.54%. (Figure 1) 

 

Or, interpreted as a crucial shift into an easing of financial conditions, US capital markets roared.    

 

The week's precipitate boom incited a massive squeeze of shorts, prompted the closures of hedged positions, and revved the trend-following momentum (FOMO). 

 

It also reveals the heft, breadth, and dominance of the US dollar standard system, projected by expectations of Fed policies transmitted into market actions, responses by global central banks, the eurodollar system and the depth of global financialization, which altogether manifests the mounting fragility from a system anchored on escalating leverage from the socialization of financial markets via central bank policies.  

 

Why, then, has the global financial community been fixated or obsessed with the Fed's policies?  

 

Figure 2 

 

And why have many global central banks been on a rate-cutting spree ahead of the FED?   Have they "defeated" inflation?  Or have their economies been in trouble? See my tweet above. (Figure 2, upper window) 

 

Though the latest numbers of central banks slashing rates are in the non-crisis range experienced in 2013-15 or still way below the spikes of the Great Financial Crisis (2008-2009) and the Pandemic recession (2020-2021), one cannot discount further rate cuts since easy money policies are the only mechanism that contemporary central bankers use to address economic downturns and financial stresses.  

 

Also, the last decade or so can't be a relevant template because it operated on a backdrop of disinflation. 

 

II. The Plunge in the US Dollar Powered Asian Currencies and the Philippine Peso 

  

As proof and in validation of our thesis that the latest BSP rate hike was about the Philippine peso, the Bank for International Settlement recently published the tools of Asian central banks. (Figure 2, graph) 

 

Facing the dual challenges of tight global financial conditions and high inflation since 2022, most Asian EMEs have raised policy rates, but more modestly than in other regions. They have also relied more on a variety of complementary policy tools (eg FX intervention and bond market intervention (BIS, November 2023) 

 

Figure 3 

 

The easing wave hit the global financial sphere; the best-performing currencies in Asia-Pacific included the Philippine peso.  (Figure 3, topmost chart)

 

Even with just two trading sessions in a holiday abbreviated week, the spread abruptly and sharply widened from the serendipitous plunge in the 10-year UST yield in the face of a jump in domestic counterpart.  (Figure 3 middle window)

 

The Philippine peso had its 5th best week since 2020 as the USDPHP plummeted (-1.5%).  (Figure 3, lowest graph)

Figure 4 

 

While the Australian and New Zealand dollar rocketed by 2.8% and 3.2%, the cliff dive of the DXY resonated not only with the USDPHP but also with USDTHB (Thai baht).  (Figure 4, upper and lower windows)

 

In any case, the week's drastic moves have yet to become decisive.  Or, the mid-term trends remain intact. 

 

Nonetheless, momentum and Friday's added decline of the DXY and 10-year US Treasury yields point to a breach below the USDPHP 56 level.  

 

One week doesn't a trend make.  Importantly, domestic fundamentals should eventually reassert their force over market impulses. 

 

III. Global Risk ON: Asian Bonds Rallied, But Philippine Treasury Yields Increased

 

Figure 5 

In the meantime, the rally of the 10-year US Treasury (declining yield) reverberated in Asia.  Except for the Philippines and Japan, yields of 10-year sovereign bonds fell.  (Figure 5, topmost pane) 

 

This week's steep volatility has barely altered the yield uptrend in most of the 10-year ASEAN bonds. (Figure 5, middle chart) 

 

In the Philippines, the weekly increases in local Treasuries—primarily on the front through the belly—flattened the curve.  (Figure 5, lowest window left) 

 

Again, as a caveat, two trading days this week translate to possible distortions as many participants may be on holiday. 

 

In addition, the re-emergence of risk-ON sent Asia's credit default swaps CDS tumbling, which implies reduced concerns over the region's credit risks.  (Figure 5, lowest graph, right) 

 

IV. Global Stock Market Mania Spills Over to Asia-Pacific 

Figure 6 

 

The Asian-Pacific region's equity markets also resonated with the sudden boom in the bond markets.   

 

Of the 19 national bellwethers, 17 closed the week higher, with an average return of 1.51%.   

Outside Pakistan, the benefits of the perceived financial easing fell on the laps Developed Asian bourses.  

 

As the IMF and Pakistan negotiated the 2nd tranche of the $3 billion package, its benchmark KSE 100 soared to an all-time high.  

 

And even as the 2nd biggest weekly gainer, New Zealand's NZ50 remained in a downtrend, while Japan's Nikkei 225 drifted on a flag formation. 

 

China's SSEC (+.43%), Indonesia's JKSE (+.44%), and the Philippine PSEi 30 (+.46%) were among the lesser recipients of the easing conditions.  

 

On the other hand, the euphoria eluded the indices of Laos (-2.58%) and Bangladesh (-.13%).  

 

V. The Philippine PSEi 30’s Tepid Gains 

 

At the PSE, the breadth was slightly positive for the broad market (200 advancers versus 144 decliners) and the main index, the PSEi 30 (18-10 and 2 unchanged). 

 

Mainboard volume jumped 24.9% (average daily) from a week ago to Php 3.59 billion.   Yet despite its increase, it has been a long-term downtrend—a reflection of the sordid state of decadent savings.  

 

The coming week should be data-heavy as authorities announce October's statistical inflation (CPI) and the national account (GDP) for the 3Q.  

 

VI. Manic Markets Can Only Disguise Risk  

 

All that said, the easing of financial conditions may goose up the global capital markets for a while. Seasonal factors may contribute to it.    

 

But a capital markets boom defeats the Fed and central bankers' goal of arresting inflation because this would result in the opposite—combust demand in the face of deglobalization and malinvestments.  

 

If markets are expecting "bad news" (slowing or recessionary economy) to transform into good news (asset boom), this could mean a "watch out below" moment. 

 

The world seems to operate in two dimensions (Duoverse).  The first thrives on a blissful oblivion (a bubble) unfazed by reality.  Or, as the preeminent statistician, author, and philosopher Nassim Taleb described, "denigration of history," where "gamblers, investors, and decision-makers feel that the sorts of things that happen to others would not necessarily happen to them." (Taleb, 2001)

 

This week's mania rekindled the hope of a credit-driven asset bubble from the crowd desperate for inflationism. 

 

The next is ground reality: mounting socio-economic strains partly vented as bellicose geopolitical relationships and its feedback mechanism on the back of unprecedented credit-financed malinvestments. 

  

Manic markets can only disguise risk but not avoid or eliminate it. It would only exacerbate financial and economic maladjustments.   

 

More than ever, risks from existing and developing imbalances should reveal themselves in the fullness of time.  

 

 

_____ 

References: 

Prudent Investor, BSP’s Off-Cycle/Emergency Hike was about Protecting Deficit Spending via the Philippine Peso October 29, 2023 

 

Pietro Patelli, Jimmy Shek and Ilhyock Shim, Lessons from recent experiences on exchange rates, capital flows and financial conditions in EMEs BIS Bulletin November 2, 2023 Bank for International Settlements 

 

Nassim Nicholas Taleb Fooled by Randomness: The Hidden Role of Chance in Life and in the Markets, Random House Paper Back, p.26  

 

USD-PHP Hits Eleven Year High! The Government’s Ambitious Infrastructure Projects Should Aggravate on the Peso’s Predicaments

The USD-Php beat the Phisix to a new record.

Up .5%, the USD-Php soared to 50.47 a level last reached in September 2006, or an ELEVEN year high!

Among Asian contemporaries, the USD-Php was the strongest again this week (peso weakest)

The domestic currency’s weakness has been more than the USD. It has been weak against a broad spectrum of currencies.

 

Among the currency majors, with the exception of the Japanese yen, the Philippine peso has attenuated against the euro, pound and the yuan over the past year (upper charts). The yen has risen against the pesoin January but has traded rangebound since May. (But the yen-php remains up on a year-to-date basis)

Including all the components of the Bloomberg Dollar index (BBDXY), the Philippine peso has diminished against the Mexican peso, the Australian dollar, and the Swiss franc. The Canadian dollar has only recently spiked against the peso. Though the Brazilian real rose against the peso in the first two months of the year, such gains have dissipated. Or the peso has gained only against the real year-to-date. The real’s weakness has largely been due to corruption scandal that has surfaced to plague Brazil’s new administration.

The peso has condescended even against the ASEAN neighbors, namely the ringgit, baht and rupiah (lower window).

Despite the much ballyhooed G-R-O-W-T-H mantra, the broad spectrum of the peso’s weakness has been amazing.

Contrary to the public wisdom, the sustained softening of the peso entails that the demand for the peso (and peso related assets) continues to wane.

Moreover, while there has been a surfeit of domestic liquidity, there appears to be increasing scarcity in the context of USD liquidity in the domestic financial system.

And while local experts fixate on the FED’s “hawkishness” the international counterparts have raised the issue of USD flows in terms of remittances and of trade deficits. Hardly has there been any meaningful discussion on relative supply side factors.

On remittances. Unless much of the domestic population will be sent overseas, the law of diminishing returns will continue to dominate remittance dynamics predicated on the sheer scale of OFWs and overseas migrant workers.

Additionally, incomes of OFWs and immigrants depend or are leveraged on the global economy. With global debt at a staggering US $217 trillion or 325% of GDP in 2016(!), the burden of debt servicing will hardly generate enough room for investments and therefore provide the necessary fulcrum for growth dynamics. Furthermore, since much of these debts had been used to finance overcapacity, the latter will also serve as obstacles to real economic growth. Both these factors parlay into constricted demand.

Moreover, increased risks of protectionism and political aversion to migrants will likely serve as added hurdles to increased overseas deployment. Given these factors, remittance growth should be expected to grow incrementally, stagnate or even decline.

This brings us to trade deficits.  The government proposes an aggressive infrastructure spending program to the tune of Php 8 to 8.4 trillion over the tenure of the incumbent administration (2017-2022).

To put in perspective the scale of the proposed spending, 2016’s NGDP was at Php 14.5 trillion. The personal savings as of May was Php 4.09 trillion. Total resources of the financial system as of April totaled Php 17.4 trillion with banking system’s resources at Php 14.142 trillion. This means that that the proposed infrastructure spending program would equal 55% of NGDP, 195% of personal savings and 46% of the financial system’s resources. And that’s just infrastructure alone.

Since the government’s massive infrastructure spending alone will compete and eventually “crowd out” the private sector on resources and on financing, these most likely will lead to even bigger trade deficits (greater imports than exports). With insufficient dollar flows from remittances and from foreign investments (as consequence of “crowding out”), the government’s current dollar liquidity predicament will likely intensify. The government will most likely finance such liquidity shortages with more borrowing from both local and international sources of USDs, the BSP will probably increase its usage of derivatives “forward cover” and possibly resort to access of currency swaps with other central banks.

So the government will not just be borrowing to finance its ambitious spending programs, it will also expand its leverage on the USD for liquidity purposes. At the end of the day, increasing dollar indebtedness would redound to magnified “US dollar shorts”.  

And while popular politics remain fixated on free lunch funded pipe dreams, raging global asset markets may have been forcing global central banks to have second thoughts on the continued provision of easy money.

Fed officials as Ms. Janet Yellen warned last week of expensive price valuations. San Francisco Fed John Williams said the stock market "seems to be running very much on fumes" and that he was "somewhat concerned about the complacency in the market." (Bloomberg)

Ms. Yellen’s vice chair, Stanley Fisher “pointed to higher asset prices as well as increased vulnerabilities for both household and corporate borrowers in warning against complacency when gauging the safety of the global financial system.” (Bloomberg)

The Bank of England “ordered banks to hold more capital as consumer debt surges” (The Guardian) while its governor Mark Carney gave the case of raising interest rates (Marketwatch)

European Central Bank’s Mario Draghi hinted that tapering of QE may be in the offing by saying “deflationary forces had been replaced by reflationary ones”.

Mr. Draghi’s statement sparked massive selloffs in bonds, and a huge spike in the euro!

ECB officials tried to downplay Mr. Draghi’s statement to no avail.

The Swedish Central Bank is widely expected to ditch its easing bias next week.

Last weekend, prior to the spate of hints by central banks, the Bank for International Settlements, the central bank of central banks, urged major central banks to press ahead with interest rate increases (Reuters)

And with major central banks signaling a concerted tightening, it’s a wonder how the Philippine government can be able to finance their proposed grandiose project.  

Aside from domestic USD liquidity issues, if the BSP continues to maintain current historic subsidies in the face of global tightening, the peso will depreciate further. Monetary subsidies include the RECORD lowest interest rate and the RECORD monetization of National government debt which went up by 8.9% in May 2017 from April’s 4.3%.

But if the BSP raises its rates to align with actions of the other major central banks, then just what happens to the much touted aggressive infrastructure spending projects?

Oh by the way, I noted in early June that the BSP has imposed a tacit tightening through a pullback in the monetization of national government’s debt. (Oh My, Has the BSP Commenced on Tightening??? June 4, 2017).

Apparently, the slowing domestic liquidity growth (11.3% in May) has percolated to impact consumer (+23.6%) and industry loan (+17.6%) growth too (lower window).

Nevertheless, the BSP seemed to have used QE (Php 31.783 billion) anew this May to finance the National Government May’s fiscal deficit (Php 33.421 billion). The doubling of growth rate has similarly reflected on M3.

Getting hooked to debt monetization translates to a policy of devaluation.

Oh, before I close, here is a SHOCKING quote of the day from Ms. Yellen (Reuters, June 27, 2017)

U.S. Federal Reserve Chair Janet Yellen said on Tuesday that she does not believe that there will be another financial crisis for at least as long as she lives, thanks largely to reforms of the banking system since the 2007-09 crash.

"Would I say there will never, ever be another financial crisis?" Yellen said at a question-and-answer event in London.

"You know probably that would be going too far but I do think we're much safer and I hope that it will not be in our lifetimes and I don't believe it will be," she said.

Writing on the wall?