Past 7,400, Phisix Sets New Intraday High as Peso Tailspins!

First a note to my valued Email Subscribers

Only a maximum of 3 blog posts can be delivered to your mailbox per day. But since today I have done more than three, they may be truncated. The messages sent I think are published based on Last IN, First OUT (LIFO)

Nonetheless here is the complete list of post for today aside from the below:

-Hong Kong Monetary Authority Warns of High Risk from Interest Rate Hikes

-Deterioration of Market Internals: The Global Stock Market Bullish Mirage

-Simon Black: Some of the dumbest taxes throughout history

-Bank of Japan’s Record August Stock Market Pump!

Now back to the regular program.

As I said yesterday: No walls would stand in between the zombies and their victims…And similarly no walls will stand in between yield hungry bulls and the 7,400 or even 8,000 levels.

Well the May 15th 2013 intraday high of 7,403 had been breached at the early session. Today’s high was at 7,413. 

Nevertheless, the bulls lost ground and gave way to profit takers, thus the –.83% close.

The intraday chart from Technistock.net shows of the 119 points (almost 2% swing) rollercoaster ride. 

I discovered that the property sector contributed mostly to yesterday’s awesome “pump”. This had been seconded by the Industrial and Holding sector. 

Interestingly, the failure to hold the 7,400 levels came with a seemingly broadbased selloff. Yesterday’s major gainers gave back 30-50%, while financials and services produced negative returns after two days. 

In short, the Zombie like stampede had been concentrated to a few big market cap companies, and hardly signified a rising tide lifts all boats.

This Pavlovian manic stampede has not just been a Philippine phenomenon, Thailand’s SET and the Indonesian JCI shares almost the same trait.

Thailand’s SET looks very much like the Phisix chart, except that the bulls has still some 3+%  to work with, for the Index to reach the May 2013 highs. 

Meanwhile, Indonesia’s JCI reached the May highs early September, has fallen back marginally twice. At the moment the bulls have been testing those resistance levels anew. Will the third attempt clear the hurdle?

On the other hand, the recent milestone highs in Malaysia’s KLSE seem to be losing ground.

For the Philippine stock market, for me, price levels are not the concern right now, financial stability is.

What I understand is that given the intense degree of overvaluations and debt buildup, which comes in the face of a radically changing monetary environment, the higher the price levels of the Phisix, the more intense the manifestations of imbalances have been.

So regardless of what happens over the interim, history teaches us that the obverse side of every mania has been a crash. This has been true, for the last 49 years--as seen in 2 major secular or generational cycles as with their respective intra-cyclical trends. The 2003-2014 is the bull phase of the Third generation or the latest stock market cycle. And I don’t think this time will be different.

In May 15th 2013 when the Phisix reached the first 7,403 highs, the peso which was on a firming trend, closed at 41.20 against the US dollar.

How today’s conditions have been a stark opposite of 2013!

Today, as the Phisix set a new intraday high, the Philippine peso, which has been on a weakening trend, was WALLOPED!

One can say that this has partly been a regional thing. But what has been striking has been that among regional currencies, where losses were at the .20+% range, the peso felt the brunt of the meltdown. Today the peso lost .7% against the US Dollar!

And between the two Phisix highs of 7,400 in 2013 and 2014, today’s peso has been down by about 8% against the May 2013 version! That's an example of divergence.

The mainstream can babble blindly about G-R-O-W-T-H, but if the local currency is to take more beating, then expect G-R-O-W-T-H to shrivel as a weak peso will add to the price inflation pressures AND aggravate on the debt servicing burden of the many foreign denominated loans as discussed last week. 

So the bulls are in essence grasping at the straws.

Manias are about popular delusions which is why when reality sets in, a rude awakening always prompts for a disorderly adjustment or a crash. Since people hardly ever learn from previous mistakes, the consequence of repeating previous mistakes has been to make history rhyme. And that's why they are called cycles.

English writer Aldous Huxley nailed it when he wrote

That men do not learn very much from the lessons of history is the most important of all the lessons that history has to teach.

Hong Kong Monetary Authority Warns of High Risk from Interest Rate Hikes

I have been saying here that political authorities CANNOT deny the existence of bubbles anymore so they resort to:

I recognize the problem of addiction but a withdrawal syndrome would even be more cataclysmic.

Well, Hong Kong’s monetary board sees their economy as acutely dependent on the sustenance of bubbles and thus fears of interest rate increases

 

From the Dailymail.com.uk (bold mine)

Hong Kong's de facto central bank warned on Tuesday that the city's lenders might face "very high" risks from rising interest rates, which will threaten to drain liquidity at a time banks have heavy loan commitments.

Arthur Yuen, deputy chief executive of the Hong Kong Monetary Authority (HKMA), told the Hong Kong Institute of Bankers' annual conference that the U.S. Federal Reserve's decision to end its asset-purchase programme could create "liquidity risks" for Hong Kong banks.

The Hong Kong dollar is pegged to the U.S. dollar, so Hong Kong's domestic interest rates should rise in line with American ones. Still, economists have warned that rising U.S. rates could suck funds out of emerging markets, depressing asset prices in Asia.

Higher interest rates and possible outflows would add stress to the loan books of Hong Kong banks, which some analysts fear are already too exposed to borrowers in China, where non-performing loans have been increasing. In April, the HKMA said that Hong Kong bank lending to mainland-related customers rose 30 percent in 2013 to HK$2.276 trillion.

On Tuesday, Yuen said: "With these uncertainties in the interest rate cycle, we do think that the liquidity risk associated with banks in Hong Kong is still at a very high level - and with interest rates likely to reverse back to a more normal level, credit risk will also be a factor we need to look at."

A "landscape of uncertainties of liquidity and credit risk arising from interest rate cycle" has emerged at the same time as the Hong Kong banking industry has experienced near-historic levels of credit growth, said Yuen.

If you haven’t noticed the frequency of alarmism on “bubbles” from international political institutions have been intensifying. It's now almost on a weekly basis!

The BIS, IMF, OECD, RBA, ADB even the US Fed’s chairwoman Janet Yellen or even the Philippine BSP chief has expressed such concerns. Although their worries have been aired in different forms, which has mostly been described as overvaluations, complacency or low volatility or high risks from variable activities (e.g. geopolitics). 

Yet most of what these authorities caution about have been symptoms of bubbles.

Hong Kong’s markets should hardly be affected by interest rate increases IF their economy has been sound. The problem is it isn’t. Like everywhere else, Hong Kong’s economy has been subsidized by zero bound rates that has spawned bubbles in asset markets.

Zero bound rates has allowed marginal unviable projects, that would have NOT existed under normal conditions, to exist. In short, zero bound has democratized credit activities which has spread to include a vast number of subprime or less credit worthy borrowers.

And because subprime borrowers have been DEPENDENT on zero bound, an increase in interest rates will expose on such financial vulnerability. 

And when credit concerns become an issue on a wider scale (or affects many firms), this may cause systemic liquidity to ebb as borrowers delay payments or if they default, while lenders suffer balance sheet and capital losses. 

So the HKMA problem has been one of credit risk, where raising rates will undermine marginal subprime borrowers that causes a liquidity contraction that risks a spillover to the other parts of the economy.

Hong Kong even has a parking lot bubble.  Asset bubbles have even morphed into populist anti-free market political sentiment leading to public demand for government interventions.

Interest rate don’t need to rise in order to expose on such problems as I previously explained. 

The HKMA has already expressed concerns over the deteriorating quality of debt by corporate borrowers about a year back. That’s even when interest rates have remained flat since 2009 as shown above.

NPLs have been rising especially for loans to mainland Chinese companies as noted in the news above. These are examples of subprime or high risks credit activities that has been supported by zero bound that are now jeopardized by current unsustainable debt levels.

But the chicken eventually comes home to roost. Eventually bubbles implode because of the sheer unsustainable weight from overleverage or from interest rate increases or a combo of both.

Such is an example of the natural limits of zero bound regime or even from debt acquisition.

As the great Austrian economist Ludwig von Mises warned decades back, (bold mine)

But the boom cannot continue indefinitely. There are two alternatives. Either the banks continue the credit expansion without restriction and thus cause constantly mounting price increases and an ever-growing orgy of speculation, which, as in all other cases of unlimited inflation, ends in a “crack-up boom” and in a collapse of the money and credit system. Or the banks stop before this point is reached, voluntarily renounce further credit expansion and thus bring about the crisis. The depression follows in both instances.

HKMA's warnings are simply about the reluctance to stop "near-historic levels of credit growth". But eventually the markets will bring to limits these financial abuse. 

Yet all these resounding warnings from various international political authorities are just writings on the wall.

Deterioration of Market Internals: The Global Stock Market Bullish Mirage

I have earlier noted of the seeming deterioration and divergences in the market breadth in the US and Europe as ominous signs for the global stock market

The Gavekal team does a fantastic work of dissecting the MSCI World Index on their post “Bull Market Mirage”

The devil is in the details as they say. Some highlights (bold mine)

-Nearly 18% of the stocks in the MSCI World index are down more than 20% over their one year highs.  A further 33% of stocks are down between 10-20%.  So, 51% of all stocks in the MSCI World index are down at least 10% from one year highs.

-29% of European stocks are down more than 20% from one year highs, and 68% of European stocks are down more than 10% from one year highs.  The odds of picking a loser have been high in Europe.

-18% of Asian stocks are down more than 20% from one year highs and an additional 40% are down 10-20% from one year highs.  So, 58% of all Asian stocks are down more than 10% from one year highs.

-By contrast, only 11% of North American companies are down more than 20% and 65% of all North American companies are down less than 10% from one year highs.

Gains in big cap issues has camouflaged on the ongoing internal corrosion

So, roughly 75% of the companies in the MSCI World index have underperformed by 10% over the last four years.  This means only 25% of the stocks in the MSCI World Index have driven the performance of the whole index.  Leadership in the global equity market has been quite narrow, with cyclicals underperforming.

See their charts here

Since the MSCI World Index has been about large and middle market caps with 1,613 constituents, the evolving divergence of small caps in North American stocks have not been shown here.

We will see if current trends will worsen or if they will reverse.

It is getting to be alot interesting by the day...

Simon Black: Some of the dumbest taxes throughout history

From the ever eloquent Simon Black at the Sovereign Man:

In the days of ancient Rome, it was tradition for the upper class to liberate their slaves after a set number of years.

The Roman government, however, looked at this as an opportunity to generate revenue, and they taxed the newly freed slave on his freedom.

I can’t imagine anything more repulsive than paying tax on freedom. But they gave it a pretty good try–

In 1696, the English government under William III (William of Orange) passed a new law requiring subjects to pay a tax based on the number of windows in their homes.

Not willing to pay such a ridiculous tax on something as basic as sunlight, many Englishmen simply reduced the number of windows in their homes.

There was less light… and less ventilation… which ultimately became a public health problem.

To follow that up, England introduced a tax on candles in 1789. Making your own candles was outlawed unless you first obtained a license and paid tax on your own homemade candles.

As you could imagine, most people just did without.

Coupled with the window tax, this was a very dark time for England. And it took until the mid 19th century for the government to realize its stupidity and repeal the taxes.

But if that sounds excessive, consider the Johnstown Flood Tax.

In 1936, the town of Johnstown, Pennsylvania was devastated by nasty flood, and in its efforts to ‘do something,’ the state assembly imposed an emergency, ‘temporary’ tax of 10% on all alcohol sold in the state.

This ‘temporary’ tax remained in place for nearly three decades, at which point it was raised to 15% in 1963, and again to 18% in 1968.

The ‘temporary’ tax still exists today, proving once again that there’s nothing more permanent than a temporary government measure.

Read the rest here

For as long people’s lives are politicized there will be “dumbest taxes or legal mandates”. That’s because populist politics have always been directed at addressing the symptom rather than the disease.

I am sure there are examples in the Philippines.

Bank of Japan’s Record August Stock Market Pump!

As I have been saying today’s world has been a picture of oxymoron or may I say parallel universes

In the case of Japan. FALLING statistical growth equals RISING stocks

One can say that part of this pump has been due to Bank of Japan’s interventions which according to this report Japan's central bank now owns a record 1.5% of Japan’s listed market value as of August.

From the Nikkei Asia (bold mine) 

The Bank of Japan is growing into its role as a key source of support for the country's stock market, as it has stepped up purchases of exchange-traded funds to bring its equities portfolio to an estimated 7 trillion yen ($63.6 billion) or so.

The central bank bought 123.6 billion yen worth of ETFs in August, the largest monthly tally so far this year. At one point, it snapped up ETFs in six straight sessions amid weak stock prices.

The BOJ tends to make 10 billion yen to 20 billion yen worth of purchases when stock prices fall in the morning. The bank has not made any purchases so far in September because the market has been rallying.

According to BOJ data, the market value of individual stocks and ETFs that it held as of March 31 came to 6.15 trillion yen. Given its purchases since then and the market rally, the value is estimated to have increased to a whopping 7 trillion yen or so by now.

That figure accounts for 1.5% of the entire market value of all Japanese shares, or roughly 480 trillion yen. It also means the BOJ may surpass Nippon Life Insurance, the largest private-sector stock holder with some 7 trillion yen in holdings, as early as this year and emerge as the second-biggest shareholder behind the Government Pension Investment Fund -- the national pension fund with 21 trillion yen.

The BOJ started outright purchases of shareholdings from banks back in 2002 with the aim of stabilizing the country's financial system. To prevent stocks from tumbling steeply, it also began buying ETFs in 2010. The bank does not buy individual shares now, but it doubled its annual ETF purchases to 1 trillion yen when it introduced unprecedented levels of monetary easing in April 2013.

So the "1% rule" noted by traders as BoJ buying guide has been in effect. 

Of course 1.5% of Japan's total market value can be seen by the apologists as relatively small. But the point here is the BoJ has NO business in intervening in the markets!

As I recently wrote: 

The opportunity cost of central bank intervention to boost the stock market has been the economy.

Now you know why textbook stockmarket investing has been wrong. Better have a contact on the trust department of your respective central bank.

Resources spent by the BoJ to support the stock markets should have been resources used to promote real economic growth. What the BoJ has done instead has been to artificially boost the markets via boom-bust cycles. 

And rising stocks as the statistical GDP shows have been based on rickety financial and economic foundations. Or simply said instead of stabilizing the financial system, the BoJ only has increased systemic fragility.

Think of it what happens to the BoJ’s balance sheets if the stock market crashes. 

Moreover by intervening in the markets, price discovery based on real fundamentals have been substituted for merely chasing the markets. The temporary absence of risks from government subsidies has engendered a one-way trade mentality. It's also a sign of misallocation of resources.

Therefore the contortion of stock market prices increases risks of financial instability rather than stabilizing them.

Yet central bank around the world have been intervening at a furious record pace, I recently noted that The Global Public Investor (GPI) 2014 publication, for the first time, takes a broad look at some $29.1 trillion in investments held by hundreds of public-sector institutions in more than 160 countries. Among those entities are 157 central banks, 156 government pension funds, and almost 90 sovereign-wealth funds.

It’s a sign where stock markets have been used as communications instrument to convey political goals. 

Booming stocks attempts to exhibit that government policies have been working. Alternatively, booming stocks masks the flaws of their actions. Finally, booming stocks buys government time from conducting genuine economic reforms.

Some worry about pump and dump on the micro level, should we instead fret over a systematic pump that may soon lead to a massive dump?

Mania Galore: Panic Buying Day at the Philippine Stock Exchange!

Since the breach of 7,000 psychological threshold, there have been periodic panic buying bouts to bring the Phisix past 7,400. Just recently I wrote,

Market participants has not only been disregarding risks and flagrantly overpaying for excessively overvalued securities predicated on the “g-r-o-w-t-h” signals, importantly markets appear to have been conditioned to believe that prices will not only rise forever but will EXPLODE to the firmament soon. At any rate, the snowballing psychology from the 'fear-of-missing out' has been prompting for an orgasmic scramble to bid up prices AT ANY LEVEL!

Orgasmic scramble has indeed highlighted today’s trading activities at the PSE.

After perhaps a hearty lunch, the energized consensus collectively decided to bring the index closer to the May 2013 highs, so the relentless push by hitting up bids at almost any levels!

As one can see from the intraday chart from technistock.net, it had been vertical lift off after the lunch recess going to the closing bell. It was raw emotion in action!

As I observed before, the vertical ascent or scaling up can be analogized with Zombies in the movie World War Z. When zombies hear of humans chants across the Jerusalem Wall, they frantically pile on top of each other in a race to reach and infect their would be victims. 

No walls would stand in between the zombies and their victims.You can see the video below....

And similarly no walls will stand in between yield hungry bulls and the 7,400 or even 8,000 levels.  

Neither the BSP governor Tetangco’s warning on “chasing the markets” nor any bubble alarm bells from parties, like the BIS, IMF, OECD and even the ADB will matter. This time has got to be different!

All these are signs of an intensifying mania in progress. As I recently wrote:

Manias, which operate around the principle of the “greater fool”, signify a self-reinforcing process.

Rising prices induce more punts which lead to even higher prices as the momentum escalates. Suckers draw in more patsies into a mindless wild and frenetic chase to scalp for marginal “yields” and or from the psychological fear of missing out and or from peer pressures all predicated on the belief of the eternity of a risk-free one way trade. The intensifying hysteria will continue to be egged on by the beneficiaries from such invisible political redistribution both in public and private sectors, supported by bubble ‘expert’ apologists and media cronies.

Therefore, recklessness will compound on the accrued recklessness. Again this isn’t just a problem of overvaluations (from which the BSP’s perspective has been anchored) which merely is a symptom, instead this represents deepening signs of intensive misallocations of capital expressed through the massive contortion of prices and the disproportionate distribution of resources on a few sectors at the expense of the others that which has mostly been financed by debt accumulation, thereby elevating risks of financial instability or an economic meltdown. The BSP’s increasing use of communications with sanitized “alarm bells” signify on such emerging risks

And like typical Ponzi schemes, the manic process goes on until the ‘greater fools’ run out, or that every possible ‘fool’ has already been “IN” (crowded trade), or that borrowing costs has reached intolerable limits to expose on foolhardy speculative activities

But history’s lessons reveal that the obverse side of every mania has been crash. No instance in the past 49 years has disproved this axiom whether seen in cyclical or secular trends.

Humor: Working for the Goverment

(source: Dan Mitchell)

Why GDP Measures Waste and Not Growth

I have saying that contra mainstream impression, statistical measure of growth the GDP hasn’t been immaculate, in fact given that they are government constructs, they latently imbue political color, as I recently wrote (bold original)

So if politics has been the underlying force behind the statistical GDP then naturally since GDP have been conducted by governments then the most likely their output may curry in the direction of the political flavor of the moment.

In the Philippines, for instance, the International Labor Organization (ILO) estimates that anywhere 40-80% of the labor force are in the informal or shadow economy. The informal sector signifies part of the economy that is not taxed, monitored in any form by the government, according to Wikipedia.org, therefore not included in the GNP. This means that even statistical estimates of labor participation in the informal economy should be doubted since, if we follow Wikipedia's definition, they have NOT been monitored. How can subjects that are not monitored be quantified or aggregated?

Moreover, how can statistical growth accurately measure output when about half of the labor force are in the informal economy? So what Philippine GDP has been showing has been the performance of the sectors mostly controlled by the politically connected elites. So with the BSP's invisible redistribution scheme via aggregate demand (credit expansion) policies, which had been implemented in 2009, and which have been part of Financial Repression policies, naturally the beneficiaries of the transfer will experience G-R-O-W-T-H. But at what costs? Such costs (like bubbles) are not seen in the GDP.

But aside from the political and statistical context, there are other economic issues which the mainstream growth measures doesn't cover, which makes the even more GDP defective.

Economic analyst Charles Hugh Smith in his blog explains why instead of measuring growth GDP measures waste: (bold and italics original)

Any system that has no way to measure, much less prioritize, opportunity costs and maximization of utility is not just flawed--it is terribly misguided and structurally destructive. 

We're told the gross domestic product (GDP) measures growth, but what it really measures is waste: capital, labor and resources squandered in quixotic pursuit of waste masquerading as "growth."

50 million autos and trucks stuck in traffic, burning millions of gallons of fuel while going nowhere? Growth! All that wasted fuel adds to GDP. Everyone who works from home detracts from "growth" since they didn't waste fuel sitting in traffic jams.

Repaving a little-used road: growth! Never mind the money could have been invested in repairing a heavily traveled road, or adding safe bikeways, etc.--in the current neo-Keynesian system, building bridges to nowhere is "growth."

GDP has no mechanism to measure mal-investment or the opportunity costs of squandering capital, labor and resources on investments with marginal or even negative returns.

Buying a new refrigerator that could have been fixed by replacing a $10 sensor: growth! GDP has no mechanism for calculating the utility still remaining in roads, vehicles, buildings, etc. that are replaced--throwing away all the fixed-investment's remaining utility to buy a new replacement is strongly encouraged because it adds to "growth."

Building and maintaining extraordinarily costly weapons systems that are already obsolete: growth! The gargantuan future costs of interest paid by taxpayers on the debt borrowed to pay for the obsolete weapons is not calculated by GDP. The staggering costs of indebting future taxpayers is ignored by GDP--the only thing that counts in GDP is "growth."

Tearing out a functioning kitchen to install granite countertops and new appliances: growth! GDP has no mechanism to measure the decline of quality in new appliances, or the marginal utility of granite countertops over the existing surfaces.

Writing complex derivatives designed to defraud the buyers: growth! The immense profits booked by investment banks and the bloated salaries of the financiers who wrote and sold the guaranteed-to-default derivatives add greatly to GDP.

Creating another huge bureaucracy to oversee the financiers: growth! Squandering taxpayers' money on more layers of bureaucracy adds to "growth" and GDP--never mind that the labor is all wasted, since a 12-page law could have achieved the same results at near-zero cost.

GDP has no mechanism to measure the value of alternatives that use less capital, labor and resources to get the same results.

Read the rest here

Infographics: Austrian Economics versus Keynesian Economics

Courtesy of theAustrianInsider.com (HT Mises Blog)

For a crispier or clearer image pls go to the original site here

ADB Warns on Rising Risk Environment

Remember my earlier observation of market risks going mainstream?

The point is the IMF, like many other global political or mainstream institutions or establishments, CANNOT deny the existence of bubbles anymore. So their recourse has been to either downplay on the risks or put an escape clause to exonerate them when risks transforms into reality which is the IMF position.

Last week’s formal warning by 3 MAJOR mainstream institutions (BIS, IMF, OECD) on complacency, overvaluation or high risk environment was a shocker.

The Asian Development Bank today issued a sugarcoated or more timid warning compared to her peers on the heightening risk environment (bold mine)

Emerging East Asian local currency (LCY) bond markets continued to perform well as global financial conditions have remained relatively benign thus far in 2014. The region, however, should prepare for possibly tighter liquidity as United States (US) quantitative easing is expected to end in October. More expansionary monetary actions from the eurozone and Japan could offset some of the impact on liquidity conditions caused by the end of US quantitative easing

While the region’s LCY bond markets have been calm in 2014, the risks are rising, including (i) earlier-than-expected interest rate hikes by the US Federal Reserve (ii) geopolitical tensions that push up oil prices; and  (iii) a slowdown in the People’s Republic of China’s (PRC) property market.

If the Asian regional economies has been sound, which in their September Bond Market report (p.5) indicates “region’s economies look  to be better prepared to handle the end of tapering now compared with 2013; current account deficits have narrowed and fiscal deficits have been trimmed”, then why has there been much ado over “tighter liquidity” via "earlier than expected interest rate hikes" by the US Fed? What's the link?

So the ADB reluctantly joins the "warning" chorus, most probably intended as an escape outlet. So if a black swan event happens the ADB can easily say, see "I warned about this"! This makes the ADB a former cheerleader to a fence sitter. Still a change though

Periphery to Core Dynamics: IMF Warns of Deepening Emerging Market Slowdown

The IMF recently observed that Emerging Markets have been enduring a broad based and synchronous growth decline that has been expected to worsen. 

From the Financial Times: (bold mine)

The Fund’s paper finds that growth is slower across a swath of developing countries, not just the largest economies such as China and India. Expansion rates in more than 90 per cent of emerging markets are lower than before the 2008 turmoil.

“The slowdown seems to be quite broad based,” said Mr Faruqee. Such a synchronised deceleration is unique outside of a recession or financial crisis.

According to the IMF research, trade links are an important reason for the slowdown, with emerging markets suffering from weaker growth in their trading partners. But there are also signs of deeper problems, with evidence that productivity improvements are contributing less to growth.

“The fact that we project some rebound in growth for the advanced economies and are lowering it for the emerging economies is suggestive of something internal among the EMs,” said Mr Faruqee.

At the IMF Direct Blog, IMF’s Sweta Saxena notes of the implication of an EM slowdown to the global economy: (italics original, bold mine)

-Expect lower growth in trading partners: A 1 percentage point slowdown in emerging market economies lowers growth in advanced economies by ¼ percentage point, on average, through reduced trade.

-Expect lower commodity prices. Emerging markets account for the bulk of commodity demand globally. A slowdown means a fall in demand which would lead to a fall in prices. Whether it is good or bad for incomes depends on whether a nation mainly consumes (good) or produces (bad) those commodities.

-Expect bank losses. A slowdown usually triggers problems in the repayment of loans and could lead to capital losses for banks, including those in advanced economies exposed to Emerging Market borrowers.

-Expect slower growth if you live in the same neighborhood. For example, a slowdown in China and Brazil would impact emerging Asia and Southern Cone countries, respectively, through trade. Russia would have an impact on its Central Asian neighbors through remittances, while Venezuela would affect its Central American neighbors through financing and energy cooperation agreements.

The IMF rightly expects a transmission of EM economic growth slowdown to affect advanced economies or Developed Markets (DM). They estimate that DM economies will slow by 1% due to the EM downturn. 

Whether the number is accurate or not doesn’t matter. 

Unfortunately the IMF team stops there. They did not expand their horizons to include of the subsequent feedback mechanism from DM to EM! If EM growth affects DM, so will there be a causal chain loop, or DM growth will also have an impact to EM growth!

Doing so would extrapolate to a contagion process, as the slowdown feedback mechanism in both EM and DM will self-reinforce the path towards a global recession! 

The EM-DM link as I previously noted: (bold original)

Even when the exposure would seem negligible, if the adverse impact of emerging markets to the US and developed economies won’t be offset by growth (exports, bank assets and corporate profits) in developed nations or in frontier nations, then there will be a drag on the growth of developed economies, which would hardly be inconsequential. Why? Because the feedback loop from the sizeable developed economies will magnify on the downside trajectory of emerging market growth which again will ricochet back to developed economies and so forth. Such feedback mechanism is the essence of periphery-to-core dynamics which shows how economic and financial pathologies, like biological contemporaries, operate at the margins or by stages.

What the IMF seems to be suggesting is that the contagion process has been accelerating or intensifying.

This seem to square with consensus expectations of global economic growth which continues to get marked down as shown by the chart from Zero Hedge

So the IMF has been explaining the symptoms

Let me add to the insights of the IMF.

Whatever “internal” dynamics being experienced by many EM has been about inflating domestic bubbles. Blowing domestic bubbles, which means a massive misallocation of resources, translates to less productivity improvements.

Moreover, by focusing on blowing domestic bubbles, the domestic production process has been directed at focusing on domestic bubble requirements rather than to serve consumer needs around the world, hence the lesser trade.

Both these highlight the “something internal” quirks noted by the IMF.

The bottom line is that EM economies, like their DM counterparts, have indulged in speculative binges more than they have been engaged in production. 

The ramification of overleveraging to finance such speculative orgy has been to incite entropy in the real economy, both in EM and DM. 

The EM slowdown simply serves as empirical evidence to this decaying bubble dynamic. And this has began to manifest even in growth statistics of Developed economies.

And the intensifying slowdown in EM demonstrates my Periphery to core dynamics theory in motion. And importantly again, this has been indicative of a hissing global bubble in progress!

Lessons from the Dotcom Bubble

I’ve repeatedly been saying here that the obverse side of every mania is a crash.

Sovereign Man’s Simon Black shares the lessons of the dot.com mania-crash cycle and their relevance today. (bold mine)

If someone mentions the Dotcom Bubble, Pets.com is easily the first thing to come to mind.

The online pet product store failed hard and it failed fast. In just 268 days, the company went from IPO to liquidation, managing to lose $300 million in the process.

Yet it had looked good to investors, at least for a while.

Pets.com spent exorbitant amounts of money on advertising; its sock-puppet mascot was the 90s equivalent of a viral phenomenon.

But while the company spent hand over fist on advertising, Pets.com’s was losing money on every sale because they priced their inventory at BELOW cost. Duh.

Pets.com went public on the NASDAQ in February 2000 (right as the bubble burst) at $11 per share.

The stock peaked at $14, valuing the company at over $300 million. Not bad for a company whose business model virtually assured they would lose money.

But reality set in just nine months later. The company’s stock fell over 99%, and management announced they would liquidate.

Now… we could criticize Pets.com management all day long for a ridiculous business model. But bear in mind, investors bought the story.

People believed that profits didn’t matter. And back then it was typical for loss-making companies to be valued at hundreds of millions of dollars.

Have things really changed since then?

Facebook bought revenueless Instagram for $1 billion in 2012. Snapchat, the revenueless sexting app, is now valued at $10 billion.

There are so many examples like this. And like 1999, no one seems to care.

Silicon Valley investors keep writing huge checks. “Likes” are the new valuation metric. Not profits.

Several top Silicon Valley insiders are now hoisting the red flag saying enough is enough.

Bill Gurley, one of the most successful venture capitalists in the world, told the Wall Street Journal last week that “Silicon Valley as a whole . . . is taking on an excessive amount of risk right now. Unprecedented since ’99.”

Fred Wilson of Union Square Ventures echoed this sentiment on his blog, railing against the widely accepted model that it’s acceptable for companies to be “[b]urning cash. Losing money. Emphasis on the losing.”

George Zachary of Charles River Ventures wrote, “It reminds me of 2000, when investment capital was flooding into startups and flooded a lot of marginal companies. If 2000 was a bubble factor of 10, we are at an 8 to 9 in my opinion right now.”

As with all bubbles, it all comes down to there being too much money in the system.

Capital is far too cheap, and that pushes people into making risky and foolish decisions.

When you’re guaranteed to lose money on a tax-adjusted, inflation-adjusted basis by holding your savings in a bank account, almost anything else looks like a better alternative.

That’s why stocks keep pushing higher, why junk bonds yield a pitiful 5%, and why bankrupt governments can borrow at 0%.

Jared Flieser of Matrix Partners in Palo Alto summed it up when he told the Wall Street Journal, “You can’t afford to sit on the bench.”

In other words, money managers view NOT investing as losing, even if investing means taking huge risks.

It’s an abominable position to be in. If you do nothing, you lose. If you do anything, you take on huge risks.

This, of course, is thanks to a monetary system in which a tiny central banking elite conjures trillions of dollars out of thin air in its sole discretion.

History tells us that this party eventually stops, creating all sorts of unpleasant financial carnage. This has happened so many times before, and it would be arrogant to presume that this time is any different.

But it begs the question: what does one do? Is it worth trying to ride the bubble and try to get out before it all collapses?

Read the rest here

In a manic phase, unfortunately neither profits nor history matters at all.

During the dotcom bubble, monetization of “eyeballs” rationalized overvalued and mispriced stocks.

The modern day equivalent has been to concoct the “likes” business model. Both have been predicated on illusionary profits from perceived network effects. So they end up with fantastic valuations like the above.

In the Philippines, the justification has been about G-R-O-W-T-H (from the Ponzi growth model).

In reality the common denominator of every mania has been about the delusional “this time is different”.

The Mania phase I previously described:

Manias, which operate around the principle of the “greater fool”, signify a self-reinforcing process.

Rising prices induce more punts which lead to even higher prices as the momentum escalates. Suckers draw in more patsies into a mindless wild and frenetic chase to scalp for marginal “yields” and or from the psychological fear of missing out and or from peer pressures all predicated on the belief of the eternity of a risk-free one way trade. The intensifying hysteria will continue to be egged on by the beneficiaries from such invisible political redistribution both in public and private sectors, supported by bubble ‘expert’ apologists and media cronies.

Therefore, recklessness will compound on the accrued recklessness. Again this isn’t just a problem of overvaluations (from which the BSP’s perspective has been anchored) which merely is a symptom, instead this represents deepening signs of intensive misallocations of capital expressed through the massive contortion of prices and the disproportionate distribution of resources on a few sectors at the expense of the others that which has mostly been financed by debt accumulation, thereby elevating risks of financial instability or an economic meltdown. The BSP’s increasing use of communications with sanitized “alarm bells” signify on such emerging risks

And like typical Ponzi schemes, the manic process goes on until the ‘greater fools’ run out, or that every possible ‘fool’ has already been “IN” (crowded trade), or that borrowing costs has reached intolerable limits to expose on foolhardy speculative activities

Don't you see? Stocks can only rise FOREVER!

The US PONZI Finance Economy

​​Ponzi Finance as introduced and elaborated by economist Hyman P. Minsky in his classic The Financial Instability Hypothesis (bold mine)

For Ponzi units, the cash flows from operations are not sufficient to fulfill either the repayment of principle or the interest due on outstanding debts by their cash flows from operations. Such units can sell assets or borrow. Borrowing to pay interest or selling assets to pay interest (and even dividends) on common stock lowers the equity of a unit, even as it increases liabilities and the prior commitment of future incomes. A unit that Ponzi finances lowers the margin of safety that it offers the holders of its debts.

Now let us see how this applies to the US economy.

From PIMCO’s Bill Gross: (bold mine)

A credit-based financial economy (as opposed to pure cash) depends on an ever-expanding outstanding level of credit for its survival. Without additional credit, interest on previously issued liabilities cannot be paid absent the sale of existing assets, which in turn would lead to a vicious cycle of debt deflation, recession and ultimately depression. It is this expansion of private and public market credit which the Fed and the BOE have successfully engineered over the past five years, while their contemporaries (the ECB and BOJ) have until now failed, at least in terms of stimulating economic growth.

The unmodeled (for lack of historical example) experiment that all major central banks are now engaged in is to ask and then answer: What growth rate of credit is enough to pay prior bills, and what policy rate/amount of Quantitative Easing (QE) is necessary to generate that growth rate? Assuming that the interest rate on outstanding debt in the U.S. is approximately 4.5% (admittedly a slight stab in the dark because of shadow debt obligations), a Fed governor using this template would want credit to expand by at least 4.5% per year in order to prevent the necessary sale of existing assets (debt and equity) to cover annual interest costs. That is close to saying they would want nominal GDP to expand at 4.5%, but that’s another story/ Investment Outlook.

How are they doing? Chart 1 shows outstanding credit growth for recent quarters and all quarters since January 2004. The chart’s definition of credit includes the standard Fed definition of private non-financial credit (corporations, households, mortgages), public liabilities (government debt), as well as financial credit. The current outstanding total approximates $58 trillion and has been expanding at an average annual rate of 2% for the past five years, and 3.5% for the most recent 12 months.

Put simply, if credit needs to expand at 4.5% per year, then the private and public sectors in combination must create approximately $2.5 trillion of additional debt per year to pay for outstanding interest.

From Dr. John Hussman: (bold and italics original)

The central point is this. The U.S. economy has shifted course from one of productive capital accumulation to a reliance on continuous expansion of debt in excess of the economic ability to repay it. Call this the Ponzi Economy.

The U.S. Ponzi Economy is one where domestic workers are underemployed and consume beyond their means; household and government debt make up the shortfall; corporate profits expand to a record share of GDP as revenues are sustained by household and government deficits; local employment is replaced by outsourced goods and labor; companies refrain from productive investment, accumulate the debt of other companies and issue new debt of their own, primarily to repurchase their own shares at escalating valuations; our trading partners (particularly China and Japan) become our largest creditors and accumulate trillions of dollars of claims that can effectively be traded for U.S. property and future output; Fed policy encourages the yield-seeking diversion of scarce savings toward speculation in risky securities; and as with every Ponzi scheme, everyone is happy as long as nobody seeks to be repaid.

If you wonder why the economy feels “fine” despite the persistent thinning of the U.S. capital base and the hollowing out of its middle class, it’s because we are covering the shortfall at every turn with the endless issuance of cheap debt that needs to be rolled forward forever

How Ponzi financing ends. Back to Mr Minsky:

if an economy with a sizeable body of speculative financial units is in an inflationary state, and the authorities attempt to exorcise inflation by monetary constraint, then speculative units will become Ponzi units and the net worth of previously Ponzi units will quickly evaporate. Consequently, units with cash flow shortfalls will be forced to try to make position by selling out position. This is likely to lead to a collapse of asset values.

As a side note, many publicly listed ASEAN companies have immersed themselves into the Ponzi finance model