A funny thing happened on the way to the ‘end’ of the multi-trillion dollar bond buying program known as QE – the Fed chronicles. Aside from the shift to a globalization of QE via the European Central Bank (ECB) and Bank of Japan (BOJ) as I wrote about earlier, what lingers in the air of “post-taper” time is an absence of absence. For QE is not over. Instead, in the United States, the process has simply morphed from being predominantly executed by the Federal Reserve (Fed) to being executed by its major private bank members. Fed Chair, Janet Yellen, has failed to point this out in any of her speeches about the labor force, inflation, or inequality.
The financial system has failed and remains a threat to us all. Only cheap money and the artificial inflation of asset values can make it appear temporarily healthy. Yet, the Fed (and the Obama Administration) continue to perpetuate the illusion that making the cost of (printed) money zero by any means has had a positive effect on the population at large, when in fact, all that has occurred is a pass-the-debt-ponzi-scheme co-engineered by the Fed and big US bank beneficiaries. That debt, caught in the crossfires of this central-private bank arrangement, is still doing nothing for American citizens or the broader national or global economy.
The Fed is already the largest hedge fund in the world, with a book of $4.5 trillion of assets. These will plummet in value if rates rise. Cue the banks that are gearing up their own (still small in comparison, but give them time) role in this big bamboozle. By doing so, they too are amassing additional risk with respect to interest rates rising, on top of all their other risk that counts on leveraging cheap money.
The latest weekly flows data from fund-tracker EPFR Global confirm anecdotal evidence that the Fed’s surprise decision to maintain QE encouraged investors to stuff cash into higher-risk and emerging markets.
Highlights from Royal Bank of Scotland’s analysis of the EPFR data, for the week ending Sept 25, look like this:
The EM Fixed Income asset class saw inflows after seventeen consecutive weeks of outflows.
EM equity flows also continue to impress, having observed strong inflows for three weeks running
Flows into high yield bond funds surged, doubling from the previous week.
Developed markets equities, by contrast, saw small outflows after record inflows in the prior week.
One trend in the data that’s particularly encouraging is that investors are being selective rather than indiscriminate. RBS writes:
There was a substantial drop in EM real money fund allocations to Turkish and South African local currency bond funds during the month, while Russia was able to attract its highest allocations since June 2008. In hard currency space Russia also outperformed along with Hungary, whose allocations rose to the highest level on record. In contrast, allocations to Ukrainian hard currency bond funds are now at their lowest levels in seven months.>> Read More
Last Wednesday, the Federal Reserve shocked markets with a surprise decision to refrain from beginning to taper back the pace of its bond-buying program known as quantitative easing.
In the press conference following the decision, Fed chairman Ben Bernankecited the recent rise in long-term interest rates - spurred by Bernanke’s previous press conference in July, during which he seemed to endorse it – as a reason for the delay. Rates had risen too far, too fast, and they were presenting a threat to sustainable economic growth.
Nomura chief economist Richard Koo calls this a “QE ‘trap’ of [the Fed's] own making,” writing in a note to clients that the Fed’s decision last week is a clear sign that a “vicious cycle of rising rates and economic weakness has already emerged.”
The yield on the 10-year U.S. Treasury note rose as high as 3.0% in the weeks before the Fed announced its decision not to taper.>> Read More
q Since May 2013 US bank credit has contracted at a 3% annualised rate. q In Euroland, bank lending to the private sector is contracting at 3% this year. q Lower exchange rates and higher interest rates spell lower growth in emerging markets.
QE has not made baby boomers borrow more and save less q The ageing baby-boom generation (48-67) is saving more, borrowing less and reducing debt as they head into retirement.
q Under-48s have too much student debt; and with balance sheets damaged by falling property prices, they cannot gear up to offset the baby boomers’ delevering. q Real personal disposable-income growth is at levels associated with recessions, bond yields are rising and inflation falling.>> Read More
Here’s an interesting observation from Mike O’Rourke of JonesTrading.
In unusual timing, we’ve recently heard from three investing billionaires (Warren Buffett, Carl Icahn, and Stanley Druckenmiller) suggesting that stock market is getting rich and fully valued.
[Buffett] noted that the equity market was fairly valued and stocks were not overvalued. Specifically, Buffett said “They were very cheap five years ago, ridiculously cheap,” and “That’s been corrected.” He also noted, “We’re having a hard time finding things to buy.” One has to take note when the world’s most high profile investor (a long investor), cannot find stocks to buy although he reports his business is improving. Buffett was not the only Billionaire to weigh in last week. Carl Icahn responded candidly when asked his view on the market. “Right now, the market is giving you a false picture. The market tells you that you are doing well, but I don’t think a lot of companies are doing that well. They are taking advantage of very low interest rates. So, obviously, you don’t have to be a financial genius to understand if I can borrow at 3% or 4% and buy assets maybe my own stock that is yielding 9%, 10% or 11%,>> Read More
“There is nothing safe anymore, because the money-printing distorts all asset prices,” is the uncomfortable response Marc Faber gives to Thai TV during this interview when asked for investment ideas. Faber explains how we got here “massive money-printing and ZIRP creates a huge pool of liquidity that does not flow evenly,” as it washes from Nasdaq stocks to real estate to emerging markets and so on. Each time, “the bubble inflates and then is deflated as the capital (liquidity) floods out.” The Fed, based on the doubling of interest rates since they began QE3 “has lost control of the bond market,” Faber warns; adding that while he expects some “cosmetic tapering,” the Fed members and other neo-Keynesian clowns will react to a “weakening US and global economy,” and we will be a $150 billion QE by the end of next year, as the world is held hostage to US monetary policy.
The interview is interspersed with Thai translation but is well worth the time (starting at 1:25):
It seems just as a plethora of Fed heads had to walk back Bernanke’s last press conference hawkishness, that the uber-dovishness interpreted by the market from Wednesday’s FOMC is now being tapered back. Speaking on Bloomberg TV, Fed’s Bullard warns an October Taper is on the cards:
*BULLARD SAYS ECONOMY ISN’T THAT FRAGILE
*BULLARD SAYS $10 BILLION TAPER VERSUS NO TAPER NOT `BIG THING’
*BULLARD SAYS NO TAPER, SMALL TAPER WAS A `BORDERLINE’ CALL
*BULLARD SAYS `SMALL TAPER’ POSSIBLE BY FOMC IN OCTOBER
The market (bonds, stocks, and gold) reacted accordingly and is unwinding the exuberance in a hurry. The question now, of course, is what key data is due out that will shift them off the fence. For traders, clearly good news is now very bad news – especially over the next month.
*BULLARD: PRESS CONFERENCE MAY BE POSSIBLE AFTER OCTOBER MEETING
*BULLARD SAYS OCTOBER IS A `LIVE’ MEETING
*BULLARD SAYS FALLING PARTICIPATION RATE IS MOSTLY `STRUCTURAL’ (told ya so dance?)
*BULLARD SAYS `FLOW RATE OF QE REALLY DOES MATTER A LOT’ (wow, where have we heard that before?)
On the basis of an assessment of the current and evolving macroeconomic situation, it has been decided to:
reduce the marginal standing facility (MSF) rate by 75 basis points from 10.25 per cent to 9.5 per cent with immediate effect;
reduce the minimum daily maintenance of the cash reserve ratio (CRR) from 99 per cent of the requirement to 95 per cent effective from the fortnight beginning September 21, 2013, while keeping the CRR unchanged at 4.0 per cent; and
increase the policy repo rate under the liquidity adjustment facility (LAF) by 25 basis points from 7.25 per cent to 7.5 per cent with immediate effect.
Consequently, the reverse repo rate under the LAF stands adjusted to 6.5 per cent and the Bank Rate stands reduced to 9.5 per cent with immediate effect. With these changes, the MSF rate and the Bank Rate are recalibrated to 200 basis points above the repo rate.
2. Since the First Quarter Review (FQR) in July, a weak recovery has been taking hold in advanced economies, with growth picking up in Japan and the UK and the euro area exiting recession. However, activity has slowed in several emerging economies, buffeted by heightened financial market turbulence on the prospect of tapering of quantitative easing (QE) in the US. The decision by the US Federal Reserve to hold off tapering has buoyed financial markets but tapering is inevitable.
3. On the domestic front, growth has weakened with continuing sluggishness in industrial activity and services. The pace of infrastructure project completion is subdued and new project starts remain muted. Consumption, while relatively firm so far, is starting to weaken even in rural areas, with durable goods consumption hit hard. Consequently, growth is trailing below potential and the output gap is widening. Some pick-up is expected on account of the brightening prospects for agriculture due to kharifoutput and the upturn in exports. Also, as infrastructure investments are expedited, and as projects cleared by the Cabinet Committee on Investment come on stream, growth could pick up in the second half of the year.>> Read More
1) The near-term outlook for EM has brightened a bit with the Fed’s about face on tapering
2) The BOK is thought to have intervened by BUYING USD at the 1080 level and below
3) New positive policy measures in India are seen, but more negative data makes Rajan’s life difficult
4) Pakistan surprised markets by starting a tightening cycle with a 50 bp hike to 9.5%
1) The near-term outlook for EM has brightened a bit with the Fed’s about face on tapering. While we view this as a short-term buying opportunity, we warn that the tapering decision has simply been pushed out a few months into the future. Given the emphasis the Fed put on the risks of higher US rates to the economic outlook, we think that the October 29/30 meeting is too soon to see any material change in the US outlook. That leaves the December 17/18 meeting, and will be very data dependent. We had been very negative for EM FX in Q4 due to tapering risks, but now think that QE may not be seen until early 2014 if US data continues to come in weak into end-2013. We remain very concerned that the Fed’s decision to delay tapering may simply make the eventual adjustment for EM FX that much more painful.
2) The BOK is thought to have intervened by BUYING USD at the 1080 level and below. This just goes to highlight the divergences of EM FX performances, as many others in EM have been SELLING dollars. Note, however, that we no longer attribute the performance of KRW solely to JPY. The correlation between JPY and KRW has declined substantially. For example, the 30-day rolling correlation between the two has turned negative in September to -0.18 now from a peak of around +0.50 in May. Still, recent moves have seen JPY/KRW pushed further below 11 towards a test of the May 22 low near 10.74. We do not think Korean policymakers will be happy with further won firmness, especially if USD/JPY manages to break above its recent trading ranges on the big change in the Fed outlook.>> Read More