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4 CREDIT BUBBLE
BULLETIN 'Risk on' risk
rises Commentary and weekly
watch by Doug Noland
How's this line of
analysis today relevant? Well, the European
Central Bank last week gathered some composure,
stood up and actually leaned gingerly against the
wind. There was unambiguous recognition that the
backdrop had changed. Draghi assumed a somewhat
more hawkish tone - speaking of a return of
"normal" financial conditions. And while I would
bicker a little with "normal" describing the
ongoing collapse in Spanish and Italian bond
yields (spreads to German bunds have collapsed
more than 60bps in two weeks), along with the
melt-up in Spain's (up 6.1% y-t-d) and Italy's (up
7.6%) equities markets, market participants got
the message. With the ECB leaning against and the Fed
sprinting with the wind, the
euro sailed right past the dollar this week. "Risk
on" more than held its ground.
dictates that the ECB avoid pre-committing to a
future policy course. This safeguards the central
bank's flexibility to implement policy adjustments
as circumstances evolve and change. It has in the
past also worked to limit the marketplace from
speculating excessively on the future course of
policymaking. One might say such an approach helps
keep the markets "honest".
The Fed, on the
other hand, loves to pre-commit. It views
manipulating market outcomes as part and parcel to
its mandate and has grown well-accustomed to using
market speculators as integral to the contemporary
monetary policy transfer mechanism. The ECB last
week managed to shift gears a bit, while the Fed
is for now locked in an $85 billion monthly
The markets briefly
reacted to the release of the FMOC minutes, as if
the Fed had fired a shot across the bow. For good
reason, market participants remain confident that
the timid Fed will again hesitate to reverse
course. My guess - and supported by various
comments from Fed officials - is that there is
heightened concern within the committee regarding
the current QE program.
I believe there
will likely be a move to reverse course in coming
months. At the same time, every market operator
today has strong conviction that the Bernanke Fed
will lack the courage to admit a change of heart
until after it sees resolution to the impending
fiscal policy confrontations. Indeed, highly
speculative markets celebrate the existence of
significant systemic risk - risk that ensures the
Fed keeps running with the wind and spiking the
punchbowl along the way.
It's safe to add
the Fed's "pre-commitment" of $85 billion monthly
QE - and tying such extreme accommodation to the
unemployment rate - as one more major policy error
for the history books. The Fed's quandary is today
compounded by its obfuscation and convoluted
A mini "exit
strategy" is definitely in order - and it's been a
while since the markets had to fret about a
reversal of Fed accommodation. And, importantly,
the longer "risk on" spurs global market excesses
- the more pressing it will be for the Fed to act.
Yet, ongoing "fiscal cliff" risks abound. Fed
timidity raises the probabilities that an
unleashed "risk on" finds an opening. And a
scenario of runaway "risk on" - and a Fed some
months down the road forced to reverse course -
would play right into the "2013 fat tails,
bi-polar outcome possibilities" thesis.
Less hypothetical is today's predicament
that highly speculative global risk market
behavior is dictated by expectations for ongoing
extreme policy accommodation - although I suspect
policymakers have little clarity on the future
course of policy because they haven't a clue as to
what the future holds for a rather robust and
unwieldy "risk on, risk off" speculative market
WEEKLY WATCH The
S&P500 added 0.4% (up 3.2% y-t-d), and the Dow
increased 0.4% (up 2.9%). The Morgan Stanley
Cyclicals were little changed (up 4.3%), while the
Transports gained 0.7% (up 5.0%). The Morgan
Stanley Consumer index slipped 0.2% (up 2.7%), and
the Utilities fell 1.2% (up 1.2%). The Banks were
down 1.0% (up 3.7%), and the Broker/Dealers
declined 0.7% (up 4.1%). The S&P 400 Mid-Caps
added 0.2% (up 3.7%), and the small cap Russell
2000 increased 0.2% (up 3.7%). The Nasdaq100 was
gained 0.9% (up 3.3%), and the Morgan Stanley High
Tech index jumped 1.3% (up 4.1%). The
Semiconductors rose 1.3% (up 4.9%). The
InteractiveWeek Internet index gained 1.0% (up
4.0%). The Biotechs advanced 1.4% (up 5.9%).
Although bullion gained $7, the HUI gold index was
little changed (down 2.5%).
Treasury bill rates ended the week at 4 bps and
3-month rates closed at 7 bps. Two-year government
yields were down about 2 bps to 0.25%. Five-year
T-note yields ended the week down 3 bps to 0.78%.
Ten-year yields slipped 3 bps to 1.87%. Long bond
yields fell 5 bps to 3.05%. Benchmark Fannie MBS
yields declined 4 bps to 2.29%. The spread between
benchmark MBS and 10-year Treasury yields narrowed
one to 42 bps. The implied yield on December 2013
eurodollar futures declined 2.5 bps to 0.36%. The
two-year dollar swap spread was unchanged at 13.5
bps, while the 10-year swap spread was little
changed at 3 bps. Corporate bond spreads held most
of recent narrowing. An index of investment grade
bond risk increased about 2 to 87 bps. An index of
junk bond risk gained one to 444 bps.
issuance surged, especially for foreign issuers of
dollar-denominated debt. Investment grade issuers
included Bank of America $6.0bn, Comcast Corp
$3.0bn, Berkshire Hathaway $2.1bn, Toyota Motor
Credit $1.5bn, Ford Motor Credit $1.25bn, GE
Capital $1.25bn, Staples $1.0bn, MetLife $1.0bn,
Markwest Energy $1.0bn, DirecTv $800 million, ADT
$700 million, Public Service E&G $400 million,
Connecticut Light & Power $400 million, Sunoco
Logistics $700 million, and Kilroy Realty $300
Junk issuers included Halcon
Resources $1.35bn, Crown America $1.35bn, HD
Supply $950 million, Windstream $700 million,
Rockies Express Pipeline $525 million, Neustar
$300 million, MDC Holdings $250 million, and
Speedway Motorsport $100 million.
Convertible debt issuers included Silver
Standand Resource $250 million.
International issuers included European
Investment Bank $5.0bn, Mexico $4.5bn, Intesa
Sanpaulo $1.5bn, KFW $4.0bn, Daimler Finance
$3.0bn, Kommunalbanken $2.0bn, Total Capital
Canada $3.0bn, Standard Charter $2.5bn, Sumitomo
Mitsui Banking $2.5bn, Commercial Bank of
Australia $2.0bn, Turkey $1.5bn, Royal Bank of
Canada $1.25bn, Westpac Banking $2.25bn, Banco BTG
Pactual $1.0bn, Corpbanka $800 million,
Trans-Canada Pipelines $750 million, Total Capital
Intl $750 million, Kodiac Oil & Gas $350
million, Automotores Gildemeister $300 million,
and Corp Pesquera Inca $250 million.
Spain's 10-year yields dropped 16 bps this
week to 4.86% (down 34bps y-t-d). Italian 10-yr
yields fell 13 bps to 4.12% (down 36bps), low
market yields since November 2010. German bund
yields rose 5 bps to 1.58% (up 27bps), and French
yields added a basis point to 2.15% (up 17bps).
The French to German 10-year bond spread narrowed
4 to 57 bps. Ten-year Portuguese yields rose 8 bps
to 6.25% (down 50bps). The new Greek 10-year note
yield jumped 59 bps to 11.51%. U.K. 10-year gilt
yields slipped 3 bps to 2.08% (up 26bps).
The German DAX equities index slipped 0.8%
for the week (up 1.4% y-t-d). Spain's IBEX 35
equities index jumped 2.7% (up 6.1%). Italy's FTSE
MIB surged 3.2% (up 7.6%). Japanese 10-year "JGB"
yields declined a basis point to 0.80% (up 2bps).
Japan's Nikkei added 1.1% (up 3.9%). Emerging
markets were mixed. Brazil's Bovespa equities
index fell 1.6% (up 0.9%), while Mexico's Bolsa
added 0.7% (up 2.7%). South Korea's Kospi index
declined 0.8% (unchanged). India's Sensex equities
index slipped 0.6% (up 1.2%). China's Shanghai
Exchange declined 1.5% (down 1.2%).
Freddie Mac 30-year fixed mortgage rates
jumped 6 bps to 3.40% (down 49bps y-o-y).
Fifteen-year fixed rates were up 2 bps to 2.66%
(down 50bps). One-year ARM rates rose 3 bps to
2.60% (down 16bps). Bankrate's survey of jumbo
mortgage borrowing costs had 30-yr fixed rates
down 4 bps to 4.02% (down 58bps).
Reserve Credit jumped $9.3bn to $2.906 TN. Fed
Credit has increased $94.8bn in 9 weeks. Over the
past year, Fed Credit expanded $22.7bn.
Global central bank "international reserve
assets" (excluding gold) - as tallied by Bloomberg
- were up $719bn y-o-y, or 7.1%, to $10.910 TN.
Over two years, reserves were $1.667 TN higher,
for 18% growth.
M2 (narrow) "money" supply
surged $74.9bn to a record $10.506 TN. "Narrow
money" has expanded 7.9% ($772bn) over the past
year. For the week, Currency increased $1.7bn.
Demand and Checkable Deposits dropped $21.7bn,
while Savings Deposits jumped $88.2bn. Small
Denominated Deposits declined $2.9bn. Retail Money
Funds jumped $9.5bn.
Money market fund
assets rose $11.5bn to $2.716 TN. Money Fund
assets have expanded $10bn y-o-y, or 0.4%.
Total Commercial Paper outstanding jumped
$23.2bn to $1.105 TN CP was up $141bn in 9 weeks
and $142bn, or 14.7%, over the past year.
Currency Watch January 11 -
Bloomberg (Mariam Fam and Abdel Latif Wahba):
"Egypt appointed Hisham Ramez to take over as
governor of a central bank that's fighting to
preserve public confidence in the pound after it
plunged to a record low... The pound has slid more
than 5% in two weeks."
The US dollar index
dropped 1.2% to 79.56 (down 0.3% y-t-d). For the
week on the upside, the euro increased 2.1%, the
Danish krone 2.1%, the Norwegian krone 1.3%, the
Swiss franc 1.2%, the Swedish krona 1.1%, the
South Korean won 0.9%, the Mexican peso 0.7%, the
New Zealand dollar 0.6%, Australian dollar 0.5%,
the Australian dollar 0.5%, the British pound
0.4%, the Canadian dollar 0.2%, the Taiwanese
dollar 0.2%, and the Singapore dollar 0.2%. For
the week on the downside, the Brazilian real
declined 0.1%, the Japanese yen 1.2%, and the
South African ran 1.8%.
Watch January 11 - Bloomberg: "China, owner
of the world's largest foreign exchange reserves,
may increase gold holdings to diversify away from
the US dollar, a researcher said. 'There's no
reason why the Chinese central bank should hold a
disproportionate amount of other countries'
reserve currencies such as the dollar,' David
Marsh, chairman of the Official Monetary and
Financial Institutions Forum, said... 'It is
likely that the Chinese authorities will carry on
purchasing gold in modest amounts and they will do
it in a way calculated not to disturb the
The CRB index gained 0.9% this
week (up 0.6% y-t-d). The Goldman Sachs
Commodities Index increased 0.4% (0.5%). Spot Gold
gained 0.4% to $1,663 (down 0.7%). Silver
recovered 1.5% to $30.41 (up 0.6%). February Crude
added 47 cents to $93.56 (up 1.9%). February
Gasoline declined 0.9% (down 0.8%), while February
Natural Gas gained 1.2% (down 0.7%). March Copper
fell 1.1% (unchanged). March Wheat gained 1.0%
(down 3.0%), and March Corn jumped 4.2% (up 1.5%).
Fiscal Watch January 9 -
Bloomberg (Stephen Joyce): "A reprieve the $3.7
trillion municipal bond market received in the US
budget agreement last week may be only temporary.
The deal extended several types of narrowly
focused bond- related activities, such as funding
school renovations or paying for construction
projects in New York near the area of Sept. 11,
2001, terrorist attacks. It revised the
alternative minimum tax, and without that, some
types of bonds could have been unattractive to
tens of millions of taxpayers. It didn't eliminate
the tax exemption on municipal bond income, an
idea contemplated by lawmakers."