I said quoted Superman last week on the Phisix: Up, up and away!
And so it seems.
This week, the Phisix soared by a whopping 2.7%. Woot! This adds to the accrued year to date gains now at a mammoth 24%. Woot! This comes amidst a seeming return of the “Risk On” environment in the global equity markets.
If the current rate of returns at 5-6% a month will be sustained, this means that Phisix 10,000 will be reached by this yearend. Woot!
The Phisix Ascendancy. Malaysia as Periphery to Core?
The Philippine stock market has now assumed the role of the undisputed leader of Southeast Asia as three of our neighbors stumbled over the week.
In contrast to the Philippines, Indonesia’s downgrade by the S&P[1] has been attributed to this week’s modest decline. I am confident that such downgrade will unlikely to deter the Indonesia’s mania phase from unfolding.
But developments in Malaysia seem interesting and may have diverged from other ASEAN economies.
Since the year’s start, Malaysia’s equity benchmark, the KLCI, has been zigzagging between positive and negative territory. This could partly be due to the pre-elections uncertainty which culminates today, or could be due to signs of puffing on her homegrown property bubble.
Charts from global property guide[2] indicate that based on year on year changes, Malaysia housing prices have begun to materially decelerate (left). Malaysia’s home price index has ramped up as the global central banks flushed the world with a tsunami of money in 2008.
Malaysia has also cut policy interest rates[3] from about 3.5% in 2008 to 2% in 2010, but raised them back to the 3% level in 2011. Nonetheless the banking system’s average lending rates are at the lowest levels (chart not included).
Housing loans now have grown to account for 25% of the GDP. Part of the slowdown could be due to recent anti-speculation or anti-bubble policies. But the fastest growth segment of both commercial and Islamic banks has been from unsecured loans or loans based on borrowers creditworthiness rather than backed by collateral as previously discussed[4].
Yet these mostly represent the demand side of Malaysia’s housing market. Housing is just a segment of the property markets which also includes office and commercial properties. I also lack data on the supply side to make further comments.
Yet it would seem that should Malaysia’s economy substantially slow, this heightens the risk of a regional bubble bust.
Are developments in Malaysia’s housing signs of the periphery to core dynamics?
We will see.
Nonetheless major global equity benchmarks have been reenergized by more central bank actions, particularly the ECB’s interest rate cut aside from plans to adapt a negative deposit rate policy[5].
Notice that the announcements of easing policies from central banks of developed economies have become more bolder and more frequent.
The Reflexivity Theory Nearly in Full Circle
The escalating vibrancy of the Phisix only continues to prove my point: we are in manic phase of a bubble cycle.
The 3-year chart (top) of the Phisix depicts of the 3 phased transition of the current uptrend which appears to be accelerating. A closer look via the six-month chart shows of renewed signs of parabola or the steepening of the price trend slope or what seems as a transition to a vertical ascent. Such price actions reveal of the rapidly expanding risk appetite and of the growing aggressiveness of market players to bid up equity prices.
So who says markets are about the conventional wisdom called “valuations”? Who says that there is such a thing called “expensive” in an environment where the public has decisively determined that there is no other way but up for Philippine assets?
The mainstream apparently doesn’t get it. Such dynamics has not been about statistics or about chart patterns. Instead all these have been about incentives and actions, where incentive drives people’s actions.
Why should the 5-6% statistical economic growth and supposed “fiscal discipline”, which are, in reality, masked by credit boom-embellished-growth data, justify a sustained upside trajectory of asset prices?
The domestic market has apparently lost its function as discounting mechanism and has transformed been into an object of speculative frenzy, underpinned by the prevailing bias of new paradigm, new order or “this time is different” mindset.
By prevailing bias, this means a self-reinforcing trend which tends to not only to influence market psychology channelled or expressed through prices but also through “fundamentals”[6].
Rising prices reinforce the belief of ‘good governance’ economics and “controlled deficits” meme. The deepening of public’s conviction has led bolder, more audacious and more adventurous moves from market players. Their actions raise the price levels of equity securities, most especially the popular ones.
Rising price levels has also prompted for the trifecta upgrades from the big three US credit rating agencies. This, in turn, boosts the craving for more equity market speculations. Thus, high prices will rationalize actions that will lead to even higher prices or the deepening of the price chasing or yield chasing dynamics: the mania phase.
Such two-way feedback loop mechanism between one, expectations, which are shaped by prices, and two, by the outcome, as signified by people’s responses and actions to the changes in prices, represent as the “reflexivity theory” as introduced by George Soros. The “reflexivity theory” essentially takes into account the sequential transformation of people’s psychology during the bubble cycle.
Yet the two way reflexive feedback loop that runs from expectations to outcome and from outcome to expectations “gives rise to initially self-fulfilling but eventual self-defeating prophesies and process”[7] and thus the boom bust cycles.
The crucial psychological features[8] of boom bust sequence can identified as
-The Unrecognized trend
-The beginning of a self-reinforcing process
-The successful tests
-The growing conviction resulting in a widening divergence between reality and expectations
-The flaw in perception
-The climax
-A self-reinforcing process in the opposite direction
Today’s actions suggest that the Phisix operates anywhere between “the flaw in perception” to “the climax”
Credit markets are equally affected by the reflexive bubble behavior, again Mr. Soros, “when people are eager to borrow and when banks are willing to lend, the value of the collateral rises in a self-reinforcing manner and vice versa”[9]
In short, the reflexive feedback loop mechanism also works between markets and credit.
Phisix at 7,200 likewise means another month of significant expansion of credit growth.
The Philippine central bank, the Bangko Sentral ng Pilipinas (BSP) correctly notes that overall credit growth moderated in March[10]
Loans for production activities—which comprised more than four-fifths of banks’ aggregate loan portfolio—grew at a slower pace of 14.2 percent in March from 15.1 percent (revised) in February. Similarly, the growth in consumer loans eased to 10.8 percent in March from 11.9 percent in February due mainly to the slowdown across all types of household loans.
The expansion in production loans was driven primarily by increased lending to the following sectors: real estate, renting, and business services (25.2 percent); financial intermediation (28.8 percent); transportation, storage and communication (26.2 percent); wholesale and retail trade (10.4 percent); and, electricity, gas and water (15.4 percent). Meanwhile, lending to agriculture, hunting, and forestry (-10.3 percent) continued to decline in March.
But looking at the average omits the specifics. I would call this as hiding beneath the statistical averages.
Financial intermediation and real estate loans, critical areas of the property stock-market bubble remains at same levels or even slightly higher. These sectors have been expanding by more than 25% even when statistical economic growth has only been 5-6%.
While growth in loans to the wholesale and retail trade shrunk in March, construction loans surged at still an astonishing rate of near 50%. I use wholesale and retail trade as gauge on the shopping mall bubble.
A better picture can be seen in the changes in the sectoral share of loans by the banking system.
By the end of 2012, the construction, trade, financial intermediation and real estate loans constituted 45.97% of all the production loans issued.
By March, this figure has swelled to 47.79%. In short, the growth of loans of these bubble sectors has been outpacing the rate of growth of loans from the other non-bubble sectors. And if such rate of growth will be sustained, by the yearend, the share of loans by the banking system on these bubble sensitive sectors will easily become the dominant force and will expose the banking system to unnecessary credit risk.
This despite all the blarney about the banking system as having adequate “capital” ratios. Banks in Cyprus supposedly passed the banking stress test held in 2011. The Bank of Cyprus also received many awards in 2011-2012[11]. Today, bank depositors in Cyprus will see large haircuts on their money.
Easy money from bank lending has also been reflected on liquidity conditions. Again the BSP on March activities[12].
Domestic liquidity (M3) increased by 11.4 percent year-on-year (y-o-y) in March to reach P5.1 trillion. This growth was faster than the 9.4 percent (revised) expansion recorded in the previous month. On a monthly basis, seasonally-adjusted M3 also expanded at a faster pace of 1.5 percent compared to the 0.2 percent (revised) month-on-month growth in February.
The growth in money supply was driven largely by the sustained expansion in net domestic assets (NDA). NDA increased by 20.4 percent y-o-y in March from 16.5 percent (revised) in the previous month due largely to the continued increase in credits to the private sector, reflecting the robust lending activity of commercial banks. Claims on the private sector increased by 12.7 percent in March. Similarly, claims on the public sector increased by 12.3 percent in March, reversing the 6.5 percent decline (revised) in the previous month, a result of the increase in credits to the National Government (NG) and the decline in NG deposits.
Yield chasing tends to gravitate on the most popular sectors. Foreign money via portfolio investments has also participated in them. Again from the BSP[13]
Capital inflows went to PSE-listed securities (US$2.0 billion or 84.2 percent), Peso GS (US$351 million or 15.0 percent) and Peso time deposits (US$18 million or 0.8 percent). For PSE-listed securities, the main beneficiaries were holding firms (US$510 million), property companies (US$454 million), banks (US$333 million), telecommunication firms (US$185 million), and food, beverage and tobacco companies (US$183 million).
The biggest beneficiaries from the combined credit growth, portfolio flows and yield chasing activities can be seen mainly in the property, holding and financial sectors.
So we have the reflexivity theory running nearly in full circle.
The Concentrated Economy: Economic Boom and Booming Joblessness
When the S&P’s upgrade of the Philippines hit the headlines on Thursday, ironically, at the lower section of the same front page, I saw an article saying that domestic unemployment continues to swell.
From the Inquirer.net[14]
Joblessness in the country worsened in the first quarter of the year, the latest Social Weather Stations (SWS) survey found, with an economist tracing the rise in unemployment rate to fresh graduates joining the labor pool.
Filipino adults without jobs numbered 11.1 million, up 10 percent from the 10.1 million recorded at the end of 2012, results of the survey that SWS conducted from March 19 to 22 showed.
Wow a “boom” in joblessness.
Looking at the statistical unemployment figures[15], one would note that the biggest improvement came during 2005 where jobless rate fell from 14% to current levels, which paradoxically was prior to this booming regime.
Yet from 2006-2012, unemployment seems to have fluctuated in a range of 6.9 to 8%.
I do not trust surveys and unemployment data for the simple reason that significantly more than 40% of the Philippine economy has been informal or shadow or underground[16]. So if informal economies can hardly be measured, then the likelihood of substantial errors from statistical estimates.
Nonetheless what arouses my curiosity is that the much ballyhooed economic boom tagged as the “Rising Star of Asia”[17] seems to have been “concentrated” on few sectors of the economy. And this is most likely the reason behind the supposed “boom” in joblessness, as pointed out by the survey.
Even the government’s statistics has not shown any material improvement in joblessness, despite Phisix at 7,200, the Peso at 40s or 6.6% GDP growth in 2012.
Of course, such adverse information has been and will be ignored by the brainwashed gullible public. Hardly any of domestic media seems to have carried the recent warnings of ASEAN asset bubbles by the IMF[18] or from a report by the CNBC[19].
Apparently real world developments have been vacuumed into a vortex. People with rose colored glasses will think that all these signify as mere political rant, or that such systemic threats will not be enough to undermine today’s blissful nirvana, or political authorities will ride like the knight to save the damsel in distress in time, or that bad events will hardly befall on them (denigration of history).
Yet all these suggest that people openly embrace illusions in order to escape reality. As Nobel laureate psychologist and author Daniel Kahneman explains[20],
The illusion that one understands the past feeds further illusion that one can predict and control the future. These illusions are comforting. They reduce the anxiety that would experience if we allowed ourselves to fully acknowledge the uncertainties of existence. We all need for the reassuring message that actions have appropriate consequences, and that success will reward wisdom and courage. Many business books are tailor-made to satisfy this need.
Ironically despite the credit upgrade, which has been anchored mostly on strong external position and on the supposed improvement of debt burden, the credit rating agency S&P underscored what seems as the same theme of “concentrated growth”
S&P estimated that the country’s per capita income (the total value of the economy’s output divided by the population) would settle at $2,850 this year, a level lower than those of most countries with the same credit rating.
“The Philippine economy’s low income level remains a key rating constraint. The concentrated nature of the economy, infrastructure shortfalls and restrictions on foreign ownership, which deter foreign investment, are factors that hamper growth,” S&P said.
The good part is that in order to attract investments, the S&P recommended liberalization of the “regulatory environment in a manner that allows easier entry of foreign investors, according to S&P.” The S&P also recommends more infrastructure spending.
The S&P likewise acknowledges of the fundamental shortcomings of the Philippine political economy but bizarrely rewards or subsidizes such via a credit upgrade. By doing so, there will be lesser incentives for the incumbent officials to embrace real economic reform via liberalization.
Think Europe. Central bank’s backstopping (or subsidies) of the banking system which has led to lofty financial markets have prompted politicians and the mainstream to rationalize the jettisoning of reforms based on phony “austerity”[22], thereby resuscitating the risks of prolonged depression as well as the risks of a breakup of the euro.
Perhaps the S&P thinks that by putting their stamp of approval on the Philippine government they will heroically be able to convince investors.
Or perhaps, the S&P’s sees the need to be a part of the bandwagon because these have been the chic.
The trenchant iconoclast and Black Swan author Nassim Nicolas Taleb warned of folly from the groupthink[23]
Alas, one cannot assert authority by accepting one’s own fallibility. Simply people need to be blinded by knowledge—we are made to follow leaders who can gather people together because the advantages of being in groups trump the disadvantages of being alone. It has been more profitable for us to bind together in the wrong direction than to be alone in the right one. Those who have followed the assertive idiot rather than the introspective wise person have passed us some of their genes
Ivory Tower Prescription: Solve Investment Problems with More Interventions
So if investments have been the problem, how does the BSP governor, Amando Tetangco Jr. propose to solve them? The following article gives a clue.
To avoid the middle-income trap, one must increase investments and expand the economy’s absorptive capacity. Now is a very good time to do that given the low interest rates and sufficient liquidity that can be tapped for investment activities
Government spending has gone up over the last three years, and it has significantly contributed to the country’s growth. The private sector should now invest more and serve as the main growth driver of the economy
Some important nuggets of wisdom from such comments:
One, as pointed out last week, aside from sectors driven by massive credit expansion, government spending has been artificially bolstering the statistical economy. This is the reason the why the Philippine government has been tightening the noose on taxes and why the government has launched a shame “class warfare” campaign against wealthy Chinese and members of the Forbes billionaires list.
Does it not seem odd or a logical self-contradiction to think that taxes increases have been thought as being compatible with investments?
Raising taxes increases a firm or an enterprise’s cost of doing business which also means the reduction of the rate of profitability or increases the hurdle rate required for a business to survive, all these extrapolates to penalizing investments. So how will raising taxes lead to more investments?
Yet there are also other political aspects serving as obstacles to promoting businesses, such as more regulations, mandates, inflation, bureaucracy, welfare and other political interventions.
Does the good governor also not realize that by the government’s engagement of class warfare rhetoric translates to the heightening risks of political instability? Will companies invest in economies where property rights are not secured and whose assets are at the risks of arbitrary confiscation from populist policies?
The sad part is that ivory tower based experts have little idea of what goes on in the real world and have been blinded by math based models.
Two, the good governor appears to be saying join the bubble! Interest rates will forever be low. The laws of economics do not exist in the Philippines.
But an economy operating in bubbles would translate to relative price instability. And price instability will impact economic calculation. Price instability will be pronounced especially in the input costs of sectors experiencing bubbles. Economic calculation problems will reduce the investor’s motivation to invest. People will be induced to speculate more in financial markets than to invest in productive activities.
And this could be why the seeming preference by foreigners on portfolio flows (US $3.911 billion; 2012) rather than to foreign direct investments[25] (US$1.053 billion; 2012) as shown above.
In short, price instability and distortion in the capital structures leads to a shrinking of the markets or real economy and capital losses. How then will these attract investments?
Third, the middle income trap is a macroeconomic hooey. Just take a look at the Phisix. Do the punters and speculators stop buying the Phisix after hitting certain income or price level? Or are they “trapped” at certain income or price levels? Apparently not.
On the contrary, the yield chasing phenomenon into voguish themes based on flawed perception of reality that has been enabled and facilitated by credit expansions has been dramatically escalating. This signifies of the deepening of the mania phase. Such mania has been frequently characterized as “greed”.
While people operate within their own “comfort zones” or limits on the activities they engage in, these are subjectively and individually determined. These cannot be captured by aggregates or by statistics as they are constantly changing.
Yet when people’s income rises or when the middle class grows, they don’t really get “trapped” or get caught in a stasis which is a very foolish way to see the world.
Instead, political officials see and use such as opportunities to impose expansions on myriad political programs. Such diversion of productive resources to non-productive use essentially becomes the “trap”.
As I previously pointed out[26],
the more intervention, the lesser the capital accumulation or reduced economic growth. When politicians become greedy enough to divert much wealth into policy driven consumption activities then productivity diminishes. And that's where the so-called statistical 'trap' comes in.
The fallacious middle income trap theory does not even see people as human beings but as some statistical abstract, who are incapable of thinking.
The problem of investments will not be solved by interventionist policies, but by the promotion economic freedom through the dismantling of anti-competitive laws that benefits the concentrated few.
Philippines Government Balks at ASEAN Integration: Delays Joining ASEAN Trading Link
But real reforms haven’t really been on the cards.
Just take a look at the latest ASEAN integration talks. The Philippine president threw cold water on the possibility of a free trade zone in 2015
Southeast Asia's efforts to create a single market by 2015 are in their hardest phase owing to protectionist reflexes on sensitive sectors, Philippine President Benigno Aquino said.
Despite the challenges, however, leaders of the Association of Southeast Asian Nations are working hard to meet the target, Aquino told reporters on Wednesday night, April 24, in Brunei where he is attending ASEAN's annual summit.
"They have finished with the easy parts but the accomplishments will not be as fast as in discussing the hard parts. When you reach that point, there can be some protectionist measures taken by each economy," Aquino said.
"But since we are focused on reaching the target, everyone who believes that one community is beneficial to everybody concerned will really try hard (to reach the goal)."
“Protectionist reflexes on sensitive sectors” represents as the “concentrated” segments of the economy that are controlled by the unholy alliance of political elites and their cronies. They are the key beneficiaries of today’s central bank asset market friendly policies. Many of them are into the yield chasing bubbles in the real economy. And so the unevenness of the much touted economic boom.
Yet like typical politicians, promises have been made but fulfilment will be pushed into the future.
Proof?
Take the ASEAN Trading Link[28]. This is milestone pan-Asian financial platform project aimed at linking 7 stock exchanges from 6 countries that would allow more than 3,600 companies to be traded within the ASEAN region.
Think of trading Thai, Malaysian, Singaporean, Vietnam, Indonesian stocks under the PSE platform. Integrating these exchanges would mean vastly expanded supply of equities (more choice), greater access to capital and investors (bigger markets), lower transaction costs, trading efficiency, promote competition and transparency, more integrated economies which should promote REAL economic growth, and many other multiplier effects as cross cultural relations and more. Think about communicating with more ASEAN people due to cross border trading (e.g. stock market forums, or annual meetings)
As of 2012, Thailand has joined Singapore and Malaysia[29]. Vietnam has conducted a roadshow on INVEST ASEAN 2013 and will join sometime within the year[30].
But the Philippines for two years or from 2011[31] has resorted to dilatory manoeuvres to defer on participating in the trading link. In 2012 the PSE, a monopoly regulated by the SEC, will be delayed due to flimsy reasons; supposedly for getting the system into place and for updating regulations[32].
Let me guess, should there emerge a crisis from anywhere that will affect the region, this will again be used as pretext for postponement.
Yet the refusal to integrate with the region can be seen as parallel to the absence of spot or commodity futures markets. Reason: vested interests. We are the only major ASEAN country without commodity markets. That’s because commodity markets will displace the highly connected middlemen.
Such refusal to equitably distribute economic opportunities via marketplace particularly through economic freedom is simply a sign of protecting economic interest of the politically connected or cronyism.
Good governance? Duh!
This also means that the statistical growth based on government spending, concentrated “crony” based economy and credit driven expansion all adds up illusions from a credit driven asset bubble.
George Magnus: Asia’s Vulnerabilities
The prominent economist George Magnus, who coined the Minsky Moment, recently wrote that Asia needs to rely on real reforms than from “miracles”. He states that one of the six major vulnerabilities of Asia as[33]:
Asia's 'financial' indicators are flashing warning signs, even if there does not appear any immediate threat of instability, and many financial regulation lessons from the Asia crisis have remained 'learned'.
But excluding China, the ratio of credit to GDP has risen to over 100% — higher than it was in 1997. Also, land loan to deposit ratios in Asian banking systems are rising significantly again.
Those who refuse to learn the lessons of history are bound to repeat them.
Yet the other vulnerabilities cited by Mr. Magnus are China’s economic performance, the export centric models of ASEAN and East Asian giants, more complex Asian economies, India’s demographic dividends, and income inequality.
Except for China, I am not so concerned for the others as these problems that are mostly products of interventions which economic liberalization should be able to address. For instance, wealth or income inequality, as shown above, has been products of cronyism and corporate protectionism or corporatism.
While the public is being deceived by an artificial boom masked by credit expansion, the real beneficiaries are the financial asset holders, since central bank policies essentially provide subsidies to these assets at the expense of the real economy whether in the US, or Philippines or elsewhere.
As analyst Doug Noland enunciates of the nature of inflationism[34]
Once its takes root, monetary expansion enjoys powerful momentum and powerful constituents. The bias is always to get bigger, with system deficiencies amply available for justification and rationalization.
Record US Stocks, Near Record Net Margin Debt
Finally as the US stock markets soar to unprecedented heights this chart is a must look
US Stock markets has likewise been driven by a credit bubble, as margin debt nearly hits record highs[35]. Margin debt is just one of the many symptoms of blossoming credit bubble in the US. But such would be a subject for another day.
For now, the mania phase seems as gaining more momentum.
Up, Up and Away!
Trade cautiously.
[9] Soros ibid p .23
