Yellen’s Most Dovish Rate Hike

The US Fed hiked interest rates for the second time in three months last week

But instead of a perceived tightening, the perception of a dovish rate hike prompted for a decline of the USD which combusted global risk assets.

Alhambra’s Joseph Calhoun handily wins the quote of the week: The market was starting to price in four (today’s plus two more) and that had to come out of the market after the meeting. This was the most dovish rate hike in the history of rate hikes. Greenspan’s old conundrum was that long term rates weren’t rising as the Fed hiked. The conundrum today is that even short term rates aren’t rising as the Fed hikes. Two year note yields are right back to where they were after the December rate hike. 

Ms. Yellen actually poured oil into the fire when she said: “Even after this increase, monetary policy remains accommodative, thus supporting some further strengthening in the job market and a sustained return to two percent inflation”

She also introduced the word “symmetric” in the FOMC statement which meant flexibility in their inflation targeting: “And it's a reminder, 2 percent is not a ceiling on inflation. It's a target. It's where we always want inflation to be heading. And there will be some times when inflation is above 2 percent, just like it's been below 2 percent. We're not shooting for inflation above 2 percent. But it's a reminder that there will be deviations above -- above and below when we're achieving our objective.”

I have recently opined that the likely reason for the rate hikes may hardly be due to the reading of statistical tea leaves like output gaps but rather that the Fed behind the curve. [Has the Fed “Fallen Behind the Curve”?(March 11, 2017)]

From the perspective above, it’s easy to see the likely factors or influences that may have altered the perspective of the majority officials of the US Federal Reserve.

If the FED has indeed been behind the curve, timid rate hikes will only further bolster the underlying risk appetites.

And Ms. Yellen’s observation that this may “potentially require us to raise rates rapidly sometime down the road” may become self-fulling prophecy.

This is what I meant by falling behind the curve.

Instead of impeding further ramps in asset prices, half-hearted rate increases serve only to accelerate a feedback loop.  In 2004-2006, the Fed raised rates by 17 times! Yet prices of property and the S&P escalated further. US housing prices topped a few months before the Fed’s last rate hike.

In sales, this would be equivalent to “selling a price increase”. In anticipation of a price increase, buyers would buy more quantity of items than they would under normal circumstances. By the same token, timid rate hikes, instead, whet the people’s appetite to load up on debt which they use to chase after asset bubbles. That’s what happened during the last credit cycle which ended with the Lehman bankruptcy.

Yet in the previous cycle, the FED raised rates about four years after (or in 2004) it began cutting rates in 2001 in response to the dotcom bust.

In the current cycle, the Fed hiked rates in late 2015, seven years after it began to slash rates in 2007 in response to the Great Recession.

Seen from the context of the S&P, the first time the Fed increased rates the bull market was only 1 and a half years old or at its first leg.

In the current setting, the Fed increased rates in December 2015 when the bullmarket was about 7 years old!

The point here is that modern day central banks are afraid to take the proverbial punch bowl away because of they are in mortal dread of debt deflation. Debt signifies a monster which they have created, which ironically, they have been afraid to confront.

Yet the question is if the aging US bullmarket would still have the stamina to carry through amidst the tremendous amount of malinvestments that have been acquired or accumulated through the years.

As I have been pointing out here, near vertical record US stocks has been founded from increasing questionable quality. It has been practically been pillared on hope backed by rationalizations and by the herding effect predicated on the fear of missing out.

In the 4Q US flow of funds, US stocks were driven secondarily by corporate buybacks and primarily by retail investors who chased after passive funds.

Here’s Mr. Ed Yardeni with the details:  (bold mine)

(1) Supply-side totals. Net issuance of equities last year totaled minus $229.7 billion, with nonfinancial corporate (NFC) issues at -$565.7 billion and financial issues at $269.7 billion. The increase in financials was led by a $283.9 billion increase in equity ETFs, the biggest annual increase on record. The decline in NFC issues reflected the impact of stock buybacks and M&A activity more than offsetting IPOs and secondary issues. 

(2) Demand-side total. To get a closer view of the demand for equities, let’s focus now on the quarterly data at an annual rate rather than at the four-quarter sum. This shows that equity mutual funds have been net sellers for the past five quarters, reducing their holdings by $151.3 billion over this period. Over the same period, equity ETFs purchased $266.4 billion, with their Q4-2016 purchases a record $485.4 billion, at a seasonally adjusted annual rate. Other institutional investors have been selling equities for the past 24 consecutive quarters, i.e., during most of the bull market! Foreign investors have also been net sellers over this same period. 

So smart money sold while retail investors piled in.

The normally bullish Mr. Yardeni concluded: “The bottom line is that the current bull market has been driven largely by corporations buying back their shares, as I have been observing for many years. More recently, we have been seeing individual investors increasingly moving out of equity mutual funds and into equity ETFs.Both kinds of buyers tend to be much less concerned about historically high valuation multiples than more traditional buyers are. We may be witnessing the beginning of an ETF-led melt-up, which may simply reflect individual investors pouring money into passive stock index funds. Lots of them seem to bemore interested in seeking out low-cost funds rather than cheap stocks. In this case, valuation multiples would lead the melt-up, until something happens to scare investors out of those passive funds, which could trigger either a correction or a nasty meltdown. It is obviously a bit late in the game to start only now to be a long-term investor given that stocks aren’t cheap no matter how valuation is sliced and diced.”

And there’s one thing I forgot to mention last week.

The US treasury injected hundreds of billions of funds into the system in anticipation of the expiration of the US debt ceiling last March 15 from the start of the year. Since this has almost been similar to a credit easing, this may have driven the record-breaking “Trump bump trade”. Unfortunately, this is a liquidity illusion. The first reason: the Fed’s hiking cycle would mean trimming of excess reserves in the system. The next reason is that when the debt ceiling will be lifted, the US treasury will likely sell huge amounts of debt into the system which means it would entail draining a lot of liquidity in the system.

 

And just how will a drain in liquidity impact the already pressured US retail industry led by the restaurant and the department stores? Retail sales grew at the weakest pace in 6 months last February.

Even worst, credit instruments to shopping malls seem as Wall Street’s next biggest shorts!

From Bloomberg (March 13, 2017):

Wall Street speculators are zeroing in on the next U.S. credit crisis: the mall.

It's no secret many mall complexes have been struggling for years as Americans do more of their shopping online. Now they're catching the eye of hedge-fund types who think some may soon buckle under their debts, much as many homeowners did nearly a decade ago.

Like the run-up to the housing debacle, a small but growing group of firms are positioning to profit from a collapse that could spur a wave of defaults. Their target: securities backed not by subprime mortgages, but by loans taken out by beleaguered mall and shopping center operators. With bad news piling up for anchor chains like Macy's and J.C. Penney, bearish bets against commercial mortgage-backed securities are growing.

Wow, if US shopping malls become the epicenter of a crisis, this will likely spread across the globe the world! Guess what would happen to Philippine malls???

As a final thought, it wasn’t just the FED that hiked rates. Countries which had their currencies pegged to the USD like Hong Kong, UAE and Kuwait raised interest rates. China’s PBOC raised rates on repos (open market operations) and medium lending facility 10 hours after the FED hiked. While the BOJ kept policy unchanged, rumors floated of a “stealth tapering” where the BoJ would miss hitting its annual LSAP targets.

With global stocks on a tear as liquidity is being withdrawn, just how sustainable can this environment be?

As a final note, the Geert Wilders, the far-right contender lost the Netherland’s national elections last week.

GDP Week’s Pump-Dump-Pump; Bubbles, Rather Than Mr. Trump Is The Key Threat to Philippines; Ochlocratic Governance

GDP Week’s Awesome Volatility: Pump-Dump-Pump Fest

It’s GDP week. 

ACTIVITIES during the GDP week are usually characterized by HUGE volatilities. This happens usually two to three days prior to the GDP announcement.

 

During the past pre-7 GDP announcements, there were 6 massive pumps, 1 dump, and curiously a nonevent(2Q GDP 2016). In the past, I have shown some of them.

One may say that the market may be speculating on GDP outcome. Perhaps, but I would be a skeptic on this. Reason? Even if there had been little improvement on the GDP, it’s always been a massive pump (with two exceptions). And if this were true, then why the snub on 2Q 2016’s 7% GDP?

Of course, the character of activities differentiates every GDP week.

It’s been a truly rollercoaster week.

 

The week’s first session started with a dump, an afternoon delight pump and an awesome mark-the-close dump. Perhaps in expectations of a closing pump, sellers wanted out at higher prices. But the pump didn’t come, so the .23% dump

Even more incredible is Tuesday’s massive early push which hit a high of about 1.1%. But then, the high was not able to hold. So the rest of the session went into a slomo dump which culminated with a fantastic dump. A lot of the day’s weakness came when JFC’s 3Q eps was announced which incited a nearly 10% crash.

 

Tuesday’s session became THE template for the succeeding GDP pump. Yesterday, Wednesday, to ensure gains, bulls and index manipulators pumped the index early on (to about 2.1+%) and spent the day defending the 1.5%-1.7% (margin) channel. They succeeded. The PSEi miraculously closed with NO pumps or dumps—a rarity.

Today, prior to the GDP announcement, another colossal charge sent the PSEi up by over 2.1%. But then again, post GDP disclosure, buying momentum waned. Sell on news emerged.

The PSEi’s gains retraced to a low of .78%. But here the bulls and index managers set the limit of decline. And from here they repeatedly attempted to cross the 1.0% gains post lunch to no avail.

So what can’t be achieved in the markets had to be accomplished through marking the close.

Of course, given the streak of huge selloffs which reached oversold levels, it would be understandable to expect a sharp knee bounce too.

But the nature of rebound is what has been interesting. All FOUR sessions had volatility of 2% for the day. It’s a sign of instability. And more than instability, it reeks of desperate attempts to shore up the index—via individual pumps which had been camouflaged by index. It's a sign of insider tips too.

Also given that a vast majority of listed PSE issues have reported their 3Q eps early this week (including 28 of the 30 PSEi issues), GDP should have been MOOT.

But then again, for the purpose of BOOM BOOM BOOM asset GDP, statistical report has served as Pavlovian conditioning for asset pumps. Or, each time the establishment comes out with G-R-O-W-T-H statistics, the public has been programmed to panic buy. 

Bubbles, Rather than Mr. Trump, Is the Prime Threat to the Philippines

This brings us to the headlines which say that US president-elect Donald Trump supposedly signifies a threat to the Philippine economy. Aside BPO, apprehensions over the deportations of Philippine citizen illegal migrants have become a cited reason for such risks from Mr. Trump’s policies.

First of all, Mr. Trump has yet to be inaugurated. So whatever he does will remain speculative or guesses.

Second, I don’t think Mr. Trump has been plagued by a political ideology. Or he doesn’t seem to espouse any strong political philosophy. This is unlike Philippine counterpart who is an avowed leftist/socialist.

This means that Mr. Trump could most likely make his political decisions based on his position and experience as a businessman and a dealmaker than pursue his campaign rhetoric

He will most likely treat the US economy similar to USA Inc.  But the difference is that his experience based on privately owned firms has been about profit and losses, while the political economy via the latter isn’t.

So he should be expected to make many alterations in decisions, especially since he has ZERO experience in politics.

Yes, four of Mr. Trump’s firms experienced bankruptcies. So whether he will use this experience to avoid a bankruptcy (through less debt) or be attracted to (and gorge on) debt is something we will find out. The latter seems to be the propensity.

And as I wrote last weekend, Mr. Trump anti-establishment image may just be a mirage. If so, his actions will be rooted on pleasing several special interest groups—which entails more compromises (or logrolling).

Finally, let me put a short economic perspective on the deportation issue. There is said to be some 11.1 million illegal immigrants, according to Pew Research. Illegal immigrants earn something like $36,000 a year (median household income) which is below US born residents at $ 50,000 according to another Pew Research (2009).

To simplify matters, let us say illegal immigrants earn about $399.6 billion a year (36K x 11.1 million). While most are consumed in the US, some are sent back to their home countries. The US accounted for 23% or US 133.5 billion of US $582 billion of external remittance flows in 2015, according to another Pew Research data

Let me construct a hypothetical scenario. Should Mr. Trump successfully deport all 11.1 million in a month, then this means US domestic consumption anchored on the $400 billion will evaporate. This also means that the final consumption financed by remittances sent by illegal immigrants would also cause dislocations at remitter’s home economy.

So US domestic economy will be affected. Additionally, dislocations from the cessation of remittances will also impact recipient economies even more.  And since deportees will have no jobs or jobs with less income when they return to their homelands, they will add to the economic and social burdens from such disruptions. Or the former illegal immigrant and recipient of their remittances will experience income shortages. So aside from the US, the global economy will likely suffer.

And this excludes other effects like disruptions on the division of labor, credit issues and other social concerns (e.g. business sentiment).

And what if a terror event occurs; will the ‘far right/nationalist’ Mr. Trump expand his coverage to include even those with legal documents?

Some will say that reduced labor pool will cause US wages to rise. That may be true only if demand for US products remain unaffected. But this won’t be true. Dislocations will not only affect demand but also spilloverto supply (whether for exports or for domestic consumption). Whatever higher wages (for some) that accrue from a reduced labor pool would only diminish profits for enterprises and disposable income for the employers (including informal employers say household employing babysitters).

Moreover, Mr. Trump’s proposed infrastructure spending’s impact will be localized and have long term effects compared to deportation whose impact will be immediate.

And there’s the political impact, Mr. Trump will need bigger bureaucracy and support from states. Yet several cities has been reported to resist such immigration policy

So whom will Mr. Trump be a threat to if he rigorously applies this? Well the answer is he will first be a menace to the Americans—his constituents. Then he would be a threat to the world. The last would be the 271,000 Philippine illegal immigrants.

Will Mr. Trump’s USA Inc. benefit from such undertaking? The answer is NO. So while Mr. Trump may build his walls, the implementation may be for symbolism purposes. He is most likely to ease with his hardline stance on immigrants and focus only on select groups.

Again I expect Mr. Trump’s business perspectives to prevail.

The reality is that the crashing BOOM BOOM BOOM assets have only incited such absurd pseudo-economic uproar.

This means that the kernel of the threat will hardly emerge from Mr. Trump, but from economic sophistry founded on bubble or BOOM BOOM BOOM psychology.

 

7.1% GDP? Bond markets don’t seem to agree or have not been persuaded.  Philippine credit default swaps (CDS) via Deutsche Bank, or the cost to insure Philippine debt has risen to near January highs. As I havewritten earlier, a sustained rise by CDS past the January highs will likely spur downgrades.

So Philippine government needs to churn out more and more POSITIVE news… or else!

Oh by the way, the USD peso closed today at 49.56—that’s almost at 2008 highs (49.99 November 20, 2008, actually my yearend target).

Example of Ochlocratic (rule of mob) Governance

If there is anything that can be expected from the present leadership, it is the penchant to use trial by publicity or appeal to masses to resolve even intergovernment or administrative gridlocks.

From Manila Times:

President Rodrigo Duterte on Monday lashed out at officials of the Bangko Sentral ng Pilipinas (BSP) and the Anti-Money Laundering Council (AMLC) for being “hard to deal with” and for protecting money launderers.

In his speech during the 80th founding anniversary of the National Bureau of Investigation, Duterte told the BSP and AMLC officials to cooperate with his administration or he will look into their shortcomings. 

“The Secretary of Justice now says that you are hard to deal with. You better go to the Secretary of Justice or I will go to you. I will call for you and you have to answer so many questions to me,” the President said. 

“You choose, either we cooperate in this government as a Republic to protect and preserve our people or do not make it hard for us, otherwise I will make it hard for you,” he added.

Phone call/s or meeting/s could have been an option for resolution or agreement for both the executive branch and the supposed independent political agencies. Apparently, this hasn’t been the case.

I have a different interpretation of this than what has been projected from the above. By appealing to the masses through the stepping on the toes of the BSP and AMLA, the leadership appears to exert dominance on such institutions for them to submit to his total control. Or, the leadership wants to portray himself as morally upright. And popularity will thus be used as the instrument to exercise control over these institutions. Crowd popularity over institutional matrix management.

Eventually, it means the BSP’s (and AMLA’s) pandering to the leadership’s whims. This also postulates that supposed “independence” by the BSP will be exposed for what it is.

For example, the president in the future might say “More money is needed for my political projects”. Cowed by the leadership’s intimidation, the BSP’s responds “Ok sir, well just print money for you”!

This should be a wonderful example of ochlocratic (rule of the mob) governance.