It is not solvency, or the lack of capital – a vague, synthetic, and usually quite arbitrary concept, determined by regulators – that kills a bank; it is – as Dick Fuld will tell anyone who bothers to listen – the loss of (access to) liquidity: cold, hard, fungible (something Jon Corzine knew all too well when he commingled and was caught) cash, that pushes a bank into its grave, usually quite rapidly: recall that it took Lehman just a few days for its stock to plunge from the high double digits to zero.
It is also liquidity, or rather concerns about it, that sent Deutsche Bank stock crashing to new all time lows earlier today: after all, the investing world already knew for nearly two weeks that its capitalization is insufficient. As we reported earlier this week, it was a report by Citigroup, among many other, that found how badly undercapitalized the German lender is, noting that DB’s “leverage ratio, at 3.4%, looks even worse relative to the 4.5% company target by 2018” and calculated that while he only models €2.9bn in litigation charges over 2H16-2017 – far less than the $14 billion settlement figure proposed by the DOJ – and includes a successful disposal of a 70% stake in Postbank at end-2017 for 0.4x book he still only reaches a CET 1 ratio of 11.6% by end-2018, meaning the bank would have a Tier 1 capital €3bn shortfall to the company target of 12.5%, and a leverage ratio of 3.9%, resulting in an €8bn shortfall to the target of 4.5%.
There was an interesting exchange during Janet Yellen’s testimony before the House Financial Services Committee on Wednesday morning, when South Carolina Republican Mick Mulvaney asked Yellen if the Fed will openly (as opposed to indirectly via Citadel) buy stocks. Specifically, he said that “there’s been some attention in the last few months about the resent decision by the Bank of Japan to start purchasing equities and my question to you is fairly simple. Is the United States Federal Reserve looking at the possibility of adding the purchase of equities to its tool box as it looks at monetary policy?”
This was her response:
“Well, the Federal Reserve is not permitted to purchase equities. We can only purchase U.S. treasuries and agency securities. I did mention in a speech in Jackson Hole, though, where I discussed longer term issues and difficulties we could have in providing adequate monetary policy. Accommodation may be somewhere in the future, down the line that this is the kind of thing that Congress might consider, but if you were to do so, it’s not something that the Federal Reserve is asking for.”
(You’ll recall that the major announcement from the July meeting of the BOJ monetary policy board was the comprehensive review they’d do for the September meeting. So these Minutes are not very interesting, unless you find “BRB” interesting I suppose).
The Hungarian central bank capped the amount commercial banks can keep at its 3-month deposit facility.
S&P upgraded Hungary from BB+ to BBB- with stable outlook.
Bank of Israel will move to 8 meetings per year starting in 2017, down from 12 currently.
S&P raise the outlook on Russia’s BB+ rating from negative to stable.
The South African Reserve Bank signaled a potential end of the tightening cycle.
In the EM equity space as measured by MSCI, Brazil (+5.5%), Turkey (+5.0%), and Peru (+4.9%) have outperformed this week, while Qatar (-0.6%), Hungary (flat), and South Africa (+0.3%) have underperformed. To put this in better context, MSCI EM rose 3.6% this week while MSCI DM rose 2.1%.
In the EM local currency bond space, Brazil (10-year yield -36 bp), Turkey (-26 bp), and Hungary (-17 bp) have outperformed this week, while Ukraine (10-year yield +9 bp), Mexico (+2 bp), and China (flat) have underperformed. To put this in better context, the 10-year UST yield fell 7 bp this week to 1.62%.
In the EM FX space, ZAR (+3.5% vs. USD), RUB (+2.3% vs. USD), and CLP (+2.1% vs. USD) have outperformed this week, while MXN (-0.6% vs. USD), PHP (-0.4% vs. USD), and CNH (-0.4% vs. USD) have underperformed.
The Hungarian central bank capped the amount commercial banks can keep at its 3-month deposit facility. Those deposits stand at HUF1.6 trln today, and the central bank said it would lower that amount to HUF900 bln by year-end. This unconventional policy is akin to monetary easing, as it pushes funds out of its deposit facility and into government bonds and the interbank market. The end result should be lower government borrowing cost, lower lending rates, and a weaker forint.
Norway has kept its interest rates changed this month, remaining the only major Nordic central bank not to move into negative interest rate territory.
The Norges Bank opted to keep its main deposit rate on hold at 0.5 per cent, in line with analyst forecasts ahead of the decision. It comes despite the central bank saying earlier in the summer that it would likely reduce interest rates barring any major economic shock.
“Our current assessment of the outlook suggests that the key policy rate will most likely remain at today’s level in the period ahead,” said central bank governor Øystein Olsen.
In a statement on Thursday, the central bank said despite inflation running higher in recent months, “there are signs that growth in the Norwegian economy is picking up at a slightly faster pace than projected in June”.
Policymakers added that the next move would likely be down rather than up, leaving the door open to sub-zero rates:
The yield on the 10-year Japanese government bond briefly rose above zero Wednesday for the first time since March after the Bank of Japan said it would introduce a 10-year interest-rate target, part of a new policy framework aimed at stoking inflation.
In its latest monetary-policy assessment, the BOJ said it would aim to keep the 10-year rate around zero. It also said would keep its annual bond-buying target unchanged at 80 trillion yen ($785 billion) and left its deposit rate unchanged at -0.1%.
Japanese stocks rose after the decision, led by shares in major banks, whose profit margins should benefit from higher long-term rates. The yen was down after the announcement.
The dollar was recently at Y102.50 after falling ahead of the BOJ decision to as low as Y101.00, the lowest since Sept. 7, according to EBS. That compared with the dollar at Y101.72 late Tuesday in New York. The dollar has fallen 15% against the yen so far this year.
Amid strong speculation the Bank of Japan will further loosen credit at Wednesday’s monetary policy meeting, a former board member cautioned further stimulus may send the wrong message to the market.
Speaking at a web seminar in Tokyo, Keio University professor Sayuri Shirai on Tuesday warned the flexible bond-buying target that many market participants expect the BOJ to adopt will be confusing. Shirai was a member of the BOJ policy board until March.
The central bank’s annual bond-buying target is set at 80 trillion yen ($786 billion) per year. Many economists and market players believe the BOJ broaden the target range to 70 trillion yen 90 trillion yen. Shirai stressed the buying target “should not be ambiguous” because it “is an indicator that shows the BOJ’s stance toward monetary easing.
“A target that stretches [above and below the present target] is not appropriate as an indicator of monetary policy.” If such a target is introduced, the market will be confused as to whether the BOJ is taking a more accommodative policy a or tighter one, which could contribute to market volatility, she said.
U.S. stocks kicked off the new week with little change as Wall Street awaits Wednesday’s key Federal Reserve decision on interest rates and reacted to a rise in the price of oil.
Stocks gave up early gains and the Dow Jones industrial average closed down 3.63, or less than 0.1%, to 18,120.17, after climbing as much as 131 points earlier. The broader Standard & Poor’s 500 stock index was basically flat, falling 0.04 to 2139.12 and the Nasdaq composite dropped 9.54, or 0.2%, to 5235.03.
Market sentiment got an initial boost from the oil patch, where the price of a barrel of U.S.-produced crude rose 31 cents, or 0.7%, to $43.34, but off highs for the day.
A weaker dollar also was giving the broad market a lift, as it helps sales and profitability of U.S. companies that do a lot of business abroad. Oil also benefits from a weaker dollar as it makes it more affordable.
Central banks are the big focus this week. On Wednesday, the Fed breaks from a two-day meeting and global investors will find out if the Fed again holds off on raising rates, or whether it goes off script and surprises the market with its first hike of 2016. Currently, traders are pricing in just 15% of odds of a September rate hike, according to CME Group, down from roughly 35% at the end of August. The probability of a rate hike at the Fed’s December meeting is now around 55%.
Investors will also be watching a key meeting Wednesday at the Bank of Japan. The BoJ is battling with low inflation and a slow-growing economy and could stand pat or opt to boost stimulus once again in the form of more asset purchases or drop interest rates lower into negtive territory.
Global bond issuance is running at its fastest pace in nearly a decade as companies, countries and US agencies such as Fannie Mae and Freddie Mac binge on debt in an era of historically low interest rates.
A total of $4.88tn of debt has been sold since the year began as issuers take advantage of rock-bottom borrowing costs, according to data from Dealogic. The figure is a hair below that of 2007, when $4.91tn of bonds were issued during the same period.
The sales have been propelled by central bank stimulus as policymakers seek to jump-start economic activity, including negative interest rate policies and outright bond-buying programmes under way by the Bank of Japan and the European Central Bank.
Debt sales this year are running 9 per cent ahead of the pace in 2006, when banks underwrote a record $6.6tn of debt. The figures do not include sovereign bonds sold at auction, such as UK Gilts and US Treasuries, or municipal offerings.
“The leverage increase is significant,” said Rick Rieder, BlackRock’s fixed income chief investment officer. “There is a long discussion about if this is a shift in the credit cycle. It’s something we’ve never seen before.”
Investors have rushed to hunt for income, suppressing borrowing costs for companies and countries. More than $227bn of fresh capital has flowed into bond funds this year, according to EPFR, a data provider on investment flows.
One week after we explained not once but twice that next week’s main central bank event is not the Fed – which won’t do anything – but the Bank of Japan, even CNBC has finally figured it out, observing with about a 7 day delay that “Everyone’s waiting for the Federal Reserve in the week ahead, but the real action may be coming out of Tokyo.” Well, thanks for that.
But while it’s clear that Yellen won’t dare shock the market (which now trades with a 20% probability of a September rate hike and as we showed a year ago, the Fed has never hiked unless the market is already pricing in at lest 60% odds), the question remains – just what will Kuroda and the BOJ do, especially since as we wrote last week, not even the BOJ knows what it will do, and has instead flooded the market with news report trial balloons covering every possible, even contradictory, possibility. Which also makes the BOJ’s decision that much more important.
As DB points out, “this week will be the litmus test for whether central banks are in shift mode as regards ongoing accommodative monetary policy. Investor consensus revolves around the notion that monetary policy has run its course and it “needs” to be supplanted by fiscal policy or at least combined with fiscal policy, via helicopter money, to be effective. The potential for a BoJ move on short rates and a shift in QE plus a Fed insistence on hiking despite market expectations (including a “hawkish” hold for September) might be considered to be consistent with a steeper curve.”
Here is what DB’s Dominik Constam, one of Wall Street’s best credit strategists expects the BOJ will reveal on Wednesday:
The BoJ is conducting a comprehensive review of monetary policy. It is fair to say that there is substantial uncertainty as to what they may choose to do but recent policy speak has suggested that further cuts in the deposit facility rate are possible as well as a shift in the duration target away from the 7-12 year sector towards the 3-5 year sector. The proposed logic would be to steepen the yield curve, offering extra NIM to banks whilst also alleviating pressure on the entitlement industry. Some Fed officials meanwhile have also chimed in regarding the concern for financial stability that emanates from low long yields that in turn have compressed risk premia across asset classes as part of a “hunt for yield”. The implication is that if long rates stay artificially low, there may be a case for earlier moves higher in short rates to compensate even if the data itself was less compelling for such a move, all else equal. In both cases the potential for a BoJ move on short rates and a shift in QE plus a Fed insistence on hiking despite market expectations (including a “hawkish” hold for September) might be considered to be consistent with a steeper curve. Even the ECB could be added to this mix after the recent “disappointment” around not committing to an extension of its QE program nor adjusting the parameters.