S&P 500 and Global Equities: Behind The Best 71-Day Returns Since 1987; China’s Credit Rockets! Continued Ascent of US Primary Dealer Holdings of T-Bills

A delirious stock-exchange speculation such as the one that went crash in 1929 is a pyramid of that character. Its stones are avarice, mass-delusion and mania; its tokens are bits of printed paper representing fragments and fictions of title to things both real and unreal, including title to profits that have not yet been earned and never will be. All imponderable. An ephemeral, whirling, upside-down pyramid, doomed in its own velocity. Yet it devours credit in an uncontrollable manner, more and more to the very end; credit feeds its velocity—Garet Garett

S&P 500 and Global Equities: Behind The Best 71-Day Returns Since 1987; China’s Credit Rockets! Continued Ascent of US Primary Dealer Holdings of T-Bills

Figure1

This first chart shows that the S&P 500 has registered the fourth-best return in 71 days and the best return since 1987. (chart courtesy of Charlie Bilello)

But here’s the rub. Beneath the surface, of the top four best returns in 71-days, namely, 1975, 1930, 1987 and 1943, yearend returns were either strikingly single digit or stunningly negative.

Said differently, by the close of the year, the gains of the top four were completely or mostly reversed.

The possible reasons:

-1975 signified the tail end of 1973-1975 recession.

-1930 represented the onset of the Great Depression

-1987 saw the horrific Black Monday crash and

-1943 may have been the prelude to the post World War 2 the short recession of 1945.

Will the SPX follow the same path?

Figure 2

The next chart (also from Charlie Bilello) shows the intensifying euphoria that has engulfed global equity markets.

Forty-six of the forty-eight national ETFs including the Philippines have posted positive returns! The average returns have been an astounding 12%, the best start since 1987! (returns in USD)

1987 again!

Will global equity markets share the same fate of the SPX?

The third chart comes from Ed Yardeni’s Country Briefing: China

It shows how the Chinese government has panicked to have incited the unleashing a tsunami of credit at a scale never seen before!

Figure 3

The perspicacious Doug Noland with the nitty gritty:

China’s Aggregate Financing (approximately system Credit growth less government borrowings) jumped 2.860 billion yuan, or $427 billion – during the 31 days of March ($13.8bn/day or $5.0 TN annualized). This was 55% above estimates and a full 80% ahead of March 2018. A big March placed Q1 growth of Aggregate Financing at $1.224 TN – surely the strongest three-month Credit expansion in history. First quarter growth in Aggregate Financing was 40% above that from Q1 2018. 

Over the past year, China's Aggregate Financing expanded $3.224 TN, the strongest y-o-y growth since December 2017. According to Bloomberg, the 10.7% growth rate (to $31.11 TN) for Aggregate Financing was the strongest since August 2018. The PBOC announced that Total Financial Institution (banks, brokers and insurance companies) assets ended 2018 at $43.8 TN.

March New (Financial Institution) Loans increased $254 billion, 35% above estimates. Growth for the month was 52% larger than the amount of loans extended in March 2018. For the first quarter, New Loans expanded a record $867 billion, about 20% ahead of Q1 2018, with six-month growth running 23% above the comparable year ago level. New Loans expanded 13.7% over the past year, the strongest y-o-y growth since June 2016. New Loans grew 28.2% over two years and 90% over five years. 

China’s consumer lending boom runs unabated. Consumer Loans expanded $133 billion during March, a 55% increase compared to March 2018 lending. This put six-month growth in Consumer Loans at $521 billion. Consumer Loans expanded 17.6% over the past year, 41% in two years, 76% in three years and 139% in five years. 

China’s M2 Money Supply expanded at an 8.6% pace during March, compared to estimates of 8.2% and up from February’s 8.0%. It was the strongest pace of M2 growth since February 2018’s 8.8%. 

South China Morning Post headline: “China Issues Record New Loans in the First Quarter of 2019 as Beijing Battles Slowing Economy Amid Trade War.” Faltering markets and slowing growth put China at a competitive disadvantage in last year’s U.S. trade negotiations. With the Shanghai Composite up 28% in early-2019 and economic growth seemingly stabilized, Chinese officials are in a stronger position to hammer out a deal. But at what cost to financial and economic stability?

Beijing has become the poster child for Stop and Go stimulus measures. China employed massive stimulus measures a decade ago to counteract the effects of the global crisis. Officials have employed various measures over the years to restrain Credit and speculative excess, while attempting to suppress inflating apartment and real estate Bubbles. Timid tightening measures were unsuccessful - and the Bubble rages on. When China’s currency and markets faltered in late-2015/early-2016, Beijing backed away from tightening measures and was again compelled to aggressively engage the accelerator. 

Credit boomed, “shadow banking” turned manic, China’s apartment Bubble gathered further momentum and the economy overheated. Aggregate Financing expanded $3.35 TN during 2017, followed by an at the time record month ($460bn) in January 2018. Beijing then finally moved decisively to rein in “shadow banking” and restrain Credit growth more generally. Credit growth slowed somewhat during 2018, as the clampdown on “shadow” lending hit small and medium-sized businesses. Bank lending accelerated later in the year, a boom notable for rapid growth in Consumer lending (largely financing apartment purchases). And, as noted above, Credit growth surged by a record amount during 2019’s first quarter. 

China now has the largest banking system in the world and by far the greatest Credit expansion. The Fed’s dovish U-turn – along with a more dovish global central bank community - get Credit for resuscitating global markets. Don’t, however, underestimate the impact of booming Chinese Credit on global financial markets. The emerging markets recovery, in particular, is an upshot of the Chinese Credit surge. Booming Credit is viewed as ensuring another year of at least 6.0% Chinese GDP expansion, growth that reverberates throughout EM and the global economy more generally.

So, has Beijing made the decision to embrace Credit and financial excess in the name of sustaining Chinese growth and global influence? No more Stop, only Go? Will they now look the other way from record lending, highly speculative markets and reenergized housing Bubbles? Has the priority shifted to a global financial and economic arms race against its increasingly antagonistic U.S. rival? 

Chinese officials surely recognize many of the risks associated with financial excess and asset Bubbles. I would not bet on the conclusion of Stop and Go. And don’t be surprised if Beijing begins the process of letting up on the accelerator, with perhaps more dramatic restraining efforts commencing after a trade deal is consummated. Has the PBOC already initiated the process?

April 12 – Bloomberg (Livia Yap): “The People’s Bank of China refrained from injecting cash into the financial system for a 17th consecutive day, the longest stretch this year. China’s overnight repurchase rate is on track for the biggest weekly advance in more than five years amid tight liquidity conditions.”

Figure 4

US primary dealer holdings of T-Bills and Floating Rate Notes have been spiraling upwards. Why? Have they been accumulating USTs for their account or on behalf of clients? Have these intensifying accumulation been about the growing scarcity of risk-free collateral?

Four different charts that are related (see Garet Garrett excerpt)

The year of the pig.

From One Crisis to the Next: From Rice Crisis to Water Crisis to Power Crisis? The Return of Inflation? Has the Peso been Boosted by Massive USD Borrowings?

The ability to learn, the means of learning, the tools of learning, are abundant and infinite. It’s the desire that’s incredibly scarce—Naval Ravikant

In this issue

From One Crisis to the Next: From Rice Crisis to Water Crisis to Power Crisis? The Return of Inflation? Has the Peso been Boosted by Massive USD Borrowings?

-From One Crisis to the Next: From Rice Crisis to Water Crisis to Power Crisis?

-Will Supply Dislocations in the Face of Potential Easing by the BSP Set a Floor on the Street Inflation?

-Has the Strength of the Peso Been from Massive USD Borrowings by the BSP and Banking System?

-Bonus Charts: Lagging Money Supply Growth Reflects on Industrial Production and Imports

From One Crisis to the Next: From Rice Crisis to Water Crisis to Power Crisis? The Return of Inflation? Has the Peso been Boosted by Massive USD Borrowings?

From One Crisis to the Next: From Rice Crisis to Water Crisis to Power Crisis?

In my March 17 outlook, my prologue and closing statements were:

[From One Crisis to the Next: The Water Crisis, The Revenge of Economics!, March 17, 2019]

Haven’t you noticed that events seem to be spiraling from crisis to crisis?...

From dislocations of crisis proportions to a rice/food crisis, now to a water crisis!

The water crisis hasn’t gone away.

Though supply pressures have eased in the franchise area of Manila Water in the metropolis, the other water operator, Maynilad Water, warned of water interruptions in this Holy Week and during the dry season.

Manila Water reported that because of the activation of more deep wells, as well as the installation of 18 boosters or pumps, its supply deficit has halved. According to the Inquirer, “the water firm has now been operating 21 deep wells, which altogether provide 33.66 MLD to the Metropolitan Waterworks and Sewerage System’s (MWSS) east zone concession area. The company has a permit from the National Water Resources Board to reactivate old wells or drill new ones, for a total of 100 wells that could give an aggregate of 100 MLD. According to the MWSS, half of these wells are part of the 50-MLD Rizal Wellfield project.”

With the leadership breathing down continually on the neck of Metropolitan Waterworks and Sewerage System (MWSS), for posturing, the agency’s private sector monopolies will be in a race against the El Niño to provide sufficient water services to the public.

The water crisis serves as an unambiguous depiction of the epic failures of central planning.

More than that, drought brought by El Niño has prompted more local government units to declare a state of calamity.

From GMA/MSN: “NDRRMC executive director and Office of Civil Defense (OCD) administrator Ricardo Jalad said in an interview on Super Radyo dzBB on Saturday that 25 cities and municipalities and five provinces have already declared a state of calamity as of Friday, allowing them to use their calamity funds”. (bold mine)

Along with the unresolved water crisis, another prospective crisis has emerged: rolling brownouts from energy shortages!

From Philstar (Hannah Viola, April 13):  “Based on PowerPlant Watch, the regular demand and supply monitoring initiative of consumer advocacy group CitizenWatch Philippines, a series of almost ten yellow alerts have been recorded in the first half of 2019 alone, particularly on March 5 to 8, April 1 to 5 and 8. In comparison with the previous years, the Luzon grid experienced only seven instances of yellow alerts in 2018 and only three during the same period in 2017. Just a few days ago, on April 10, a red alert in the Luzon grid was announced for the first time due to insufficient operating reserves brought about by the forced outage of  the Sual Plant (647 MW), unplanned outage in other plants (1,702 MW in total), and limited capability of some plants due to de-ration. More disturbing is how the Luzon grid was quickly placed on red alert the next day, or on April 11, despite the assurance from the Department of Energy that there are sufficient reserves throughout the dry season. While this may seem like a small number, the issuance of two consecutive red alerts was more than those issued in the previous years. In 2018, the Luzon grid was not placed under any red alert status while only one red alert was announced in 2015 and 2017. The grid’s insufficient power reserves have consistently left Luzon, home of the Philippines’ national capital region, either on the brink of a shortage or saddled with rotational brownouts. The situation has led not only to inconvenience among consumers but also to increased electricity cost and economic loss, not to mention recurring fears of collusion among power producers.” (bold added)

The article portrays similarities to 2013 where allegations of collusions “to create an artificial power shortage and justify a major increase in electricity rates among the power plant operators.”

Figure 1

Price issues again? What happened to the law of demand and supply?

Has price caps or has the price ceiling been a factor to the industry’s supply-side limitations?

In addition to the accusations of cartel-like collusion among power generators, bureaucratic obstacles or red tape have pointed to as the culprit to the current power supply shortfalls.

From the Inquirer (April 11, 2019): “A group of consumer welfare advocates yesterday blasted the indecision of regulators and the courts on applications and cases related to new power plants as demand exceeded supply in the Luzon grid, causing rotational brownouts in some areas…In a statement, Laban Konsumer president Vic Dimagiba said petitions were pending in the Energy Regulatory Commission (ERC) and the courts, particularly for baseload power plants—generators that run round the clock—that would add capacity to the system. “They cannot keep dragging their feet and pussyfooting, and allow the system to collapse due to indecisiveness,” Dimagiba said. He said the ERC, in particular, had to step up and decide whether to reject or approve the power plants that would provide the necessary power supply in these times of red alert.” (bold added)

If price caps have caused excess demand or supply shortages, wouldn’t restricting the entry of supply exacerbate such conditions?

And hasn’t it been a paradox that less than 3-years ago, power producers spoke of and acted on supply gluts?

From the Inquirer (October 13, 2016): “The Philippines is now experiencing an oversupply in power generation capacity, which is seen to persist over the medium term—a situation that will be good for consumers but bad for electricity producers, the head of one of the country’s largest power firms said. According to Aboitiz Power Corp. president and COO Antonio Moraza, the oversupply is due, in part, to an incorrect reading by industry players of the electricity demand of the country that prompted a power plant building boom in the last few years.”

From the Manila Standard (February 5, 2017): “Phinma Energy Corp. decided to defer a planned 900-megawatt coal-fired power plant in Pangasinan amid concerns over an oversupply of coal projects, a top executive said.”

Furthermore, with the National Government controlling demand tightly via price controls, and with similar rigid controls over supply via entry, operations, and expansion, wouldn’t such lead to monopolistic cartel-like collusions?

Dr. Richard M. Ebeling quotes the great Austrian economist, Ludwig von Mises on the formation of cartels: (bold mine)

In many cases even this State intervention has not been enough by itself to being about the creation of cartels. The State has had to force the producers to group themselves into cartels by means of special laws . . . So it is impossible to maintain the thesis according to which the coming of cartels was the natural result of the action of economic forces. It is not the free play of these forces that has given rise to cartels but rather the intervention of the State. So it is a logical error to try to justify State intervention in the economy by the necessity of preventing the formation of cartels because it is precisely the State which has led to the creation of cartels by its intervention.

Because at least seven provinces along with 40 cities and towns have so far been affected by the rotating blackouts resulting from forced and unplanned outages of five generators in Luzon, the Philstar reported that the Philippine Congress has called for a probe on the spate of unexpected blackouts.

Aside from the water crisis, the brewing energy crisis signifies another manifestation of the boomerang of central planning. 

Will Supply Dislocations in the Face of Potential Easing by the BSP Set a Floor on the Street Inflation?

So unless offset by imports, the drought from El Niño would likely cause dislocations on domestic food supply, how about the economic disruptions on prolonged power outages?

Wouldn’t power outages affect the supply chain flows that may reduce output, increase operating and labor costs, thereby prompting for lower productivity, decrease in earnings and diminished investments?

Would the combined effects on the supply chain, from the drought from El Niño and reduced output, lead to higher prices?

Figure 2

And if the BSP Governor’s desire for the easing of the money conditions would materialize (figure 2, upper window, Bloomberg), wouldn’t an amplified ‘aggregate’ demand in the face of supply shocks, from power outages and El Niño's drought, not rekindle statistical inflation?

Because of a massive supply (6,045%) buildup by the National Food Authority (NFA), rice and corn inventory jumped 30.87% and 42.88% respectively. Increased supply and decreased demand have escalated the fall in rice prices last March.

But that may change in the coming months. Even the NG recognizes this.

Moreover, the return of street inflation has become more apparent.

Toll rates of Subic-Clark-Tarlac Expressway (SCTEx) and Muntinlupa-Cavite Expressway (MCX) have been slated to go up. Because of surging international oil prices, there was a hike in fuel pump prices last week.  Consumers of Meralco’s electricity will see higher bills this April.

If I am not mistaken, the domestic treasury markets have begun to smell the return of statistical and street inflation with the second week of bearish steepening. (figure 2, middle window)

This week, yields of T-Bills were slightly lower, possibly in anticipation of BSP Governor Diokno likely easing, while T-Notes and Bonds jumped mostly. The result of which has been to revert partially back to a flattened slope. The 10-year and 2-year spread as shown by ADB’s Asian Bonds Online exhibits this dynamic.

Oh, before I forget, the NG stepped up infrastructure spending in February (+26.3%) and the number of priority projects for the ambitious spend, spend and spend have reportedly been increased. Question is how will these be funded? Will the BSP carry its weight? If so, then street inflation may have found a floor.

As an aside, money supply growth comes from two sources, the banking system, and the BSP’s QE. Should banks maintain an inhibited stance in credit issuance, inflation will depend on the escalation of the speed and intensity of its direct financing of the NG by the BSP.

Has the Strength of the Peso Been from Massive USD Borrowings by the BSP and Banking System?

However, the pesos’ strong weekly (.64%) rebound seems to defy the prospects of the return of street inflation.

Aside from the domestic financial tightening, the revival of global risk ON has influenced the pesos’ rebound.

January OFW tepid remittance growth (3.4% and 4.4%), which reinforces such downtrend dynamic, can barely explain the pesos’ rebound. The BSP will announce OFW remittance data on the 15th of this month (next week).

Softening imports and contracting exports of February (and January) continues to contribute to a wide, but reduced, trade deficit (USD 2.8 billion) barely explains the pesos’ strength.

From a USD supply basis, there hasn’t sufficient growth in OFWs or likely services exports, to cover the trade deficit.

But the Gross International Reserves (GIR) data say otherwise.

Figure 3

The Philippine GIR, mirrored by the Balance of Payments (BoP), has recovered steeply in the 1Q. The GIR posted a USD 4.005 billion 3-month spike that has almost been entirely due to ‘foreign investments’. (figure 3, upper window)

Ironically, Philippine holdings of US Treasury, formerly the main source of foreign investments, have shown an acceleration in its downward trend last January. (figure 3, middle window)

Such intense liquidations support the view that the BSP has been propping up the peso.

But instead of shrinking the GIR, the latter grew.

So, aside from UST liquidations, USD inflows have originated from where?

The likely answer: Foreign Official Institutions (FOI) and Foreign Banks (FB) THROUGH the US banking system.

The Treasury International Capital Reporting System reveals of a two-month jump in total claims on the Philippines.

Last January, claims by FOIs and Foreign Banks on the Philippines vaulted 33.3% year-on-year to push growth in Total Claims up by 20.73%. FOI and FB constituted 92.9% of total claims.

So to prop up its GIR, the BSP along with the banking system must have borrowed substantially from foreign central banks and foreign banks (Eurodollar capacity). The surge in inflows of US Dollars not only pushed Philippine Treasury yields down, but also firmed up the peso.  

Since such US Dollars borrowings would have to be paid and settled in US Dollars, then the BSP has only expanded its USD short exposures. As Alhambra’s Jeffrey Snider explained, ““short” relates to the funding mismatch (maturity) between short-term interbank borrowing (globally) on the liability side supporting and maintaining longer duration loan or security assets. Once you create those “dollar” assets, you are on the hook for funding them, in “dollars”, until they are disposed of – voluntarily or not.”

Should street and statistical inflation revive or should the Philippine economy languish, will such creditors reduce funding requirements of the Philippines? Will they call such loans or demand to be repaid immediately?

From the Food crisis to the still water crisis, will the present power shortages morph into a crisis too?

What’s next?

How about the economic effects of an inverted yield curve? What should it bring about?

How will all these add up together?

Bonus Charts: Lagging Money Supply Growth Reflects on Industrial Production and Imports

Figure 4

Industrial production has once again entered the contraction zone (-5.5% last February).

The sustained slowdown in overseas demand through exports must have contributed to the slack in industrial production.

Imports also contribute to industrial production. If the PSA’s data has anywhere been accurate to the real world, then the downtrend in industrial production has played a significant role in stagnating imports.

With the steadily weakening rate of money in circulation, both industrial production and imports have reflected on them.

Don’t worry, the frail industrial and export and import data will magically transform into a mighty GDP.