Danske: Disease That Takes Time To Cure

I am back, but I cannot promise the posting will be regular going forward.

My "focus list" consisting of Spanish and Italian bonds, and JPY worked well, however all of those instruments have experienced interventions by central banks and cannot be considered as leading indicators anymore.

The liquidity crisis usually resolves with a victim, and while none of fundamental macro problems have been solved, the liquidity will just postpone the resolution.

However, for the greedy people we all are, I would be still cautious beyond the obvious speculative action. Danske Bank had a good reminder yesterday, see the picture below, but you decide whether the witch-hunt has ended.

Click on picture to enlarge, courtesy of Danske Bank Markets.

Moody's Does Not Like Portugal

As the European government debt crisis just seemed to turn the corner, Moody's junked the Portugal today...

Credit Agricole: Sisyphus Cannot Simply Kick The Can Down The Road

Posting will be very light, or even absent in July. For the longer reading the latest macro prospects by Credit Agricole are at your disposal here.

Second Anniversary Of Impossible Equation

With the second round of "Greek bail-outs" already passed the "feel good" kicking of the can down the road goes on. However, I return to history that has second anniversary today, when I singled out the report by Societe Generale and posted on this blog SocGen: Public Finances - The Impossible Equation two years ago. The first anniversary I remembered with Anniversary Of Impossible Equation. But how far have we got today?

As Keynes noted: 

"In the long run we are all dead."


Anyway?

Liquidity Glut And Low Interest Rates

I have been writing about liquidity glut and low interest rates, and their impact on real economy some time ago. Gerard Minack, the strategist at Morgan Stanley, brings up this issue today and makes it very clear, again:

Exhibit 1 shows the contribution to the 12 month return on US equities from the change in the prospective PE ratio (the PE based on consensus earning forecasts). The amplitude is significant: the swing in the PE often contributed plus or minus 20-30 percentage points to the annual equity return. Importantly, the biggest influence on the PE ratio was interest rates. Falling rates led to a rising PE, and vice versa. (The line in the chart is the 12 month change in the 10 year Treasury yield – but it is inverted: so the line goes up as yields go down.)

Click on chart to enlarge, courtesy of Morgan Stanley.

Well, the times may be changing, as Gerard Minack continues:
This was the basis for the ‘don’t fight the Fed’ mantra. In a credit super cycle – when investors are willing to increase borrowing as rates fall – lower rates are good for risk assets.


A post-bubble environment is different. As I’ve discussed before, macro cycles tend to be weaker and more fragile. As importantly, investors do not respond to lower rates in the same way as they did through the credit super-cycle.

On a days like today it feels like bubble never ended? Some evidence of global stabilisation?

China's Local Government Financing

On a day when markets seek for a Greek relief rally, as the Greek default may appear like mission impossible and the real challenge for Greeks now to get into such mess, I am looking at "perceived hope" of growth in China, while the financing of that growth becomes more riskier. The economists at Societe Generale are offering their views on China's local government financing issues today. I skip here the consensus optimism, but look at potential problems, as per economists at Societe Generale:

...China’s local government debt problem is scary in different ways. A simple calculation based on the information available in the report suggests that the total debt load increased 36 times in nominal terms and fivefold relative to GDP between 1997 and 2010! More than 80% of the money has gone to finance hard infrastructure. Economically speaking, an increasingly bigger share of total capital has been allocated to the public sector, and the marginal return of each borrowed yuan has been on a steady decline. In the last three years, total liabilities of local governments nearly doubled in size and ballooned from 17% to 27% of GDP. The health of China’s public debt and investments is deteriorating at its fastest pace ever.

Click on charts to enlarge, courtesy of Societe Generale.

Now, if one assumes that investments are "hard infrastructure" and often (about one quarter) of "debt is promised with land sales revenues", the maturity profile may provide some challenges as loans are maturing.

But then again, quoting the economists at Societe Generale:

... we can say China is different as there is no clear trigger of a sudden emergence of bad debt. Both debtors and creditors belong to the government, more or less.

Italian Job

Nothing really new here for Italian long-term story, but simply worth adding to my "Focus List" consisting of Spanish Government bonds and JPY so far. Just because we are testing key technical levels here, and the overall story gets more compelling with Italian banks running hot media headlines.

Click on chart to enlarge, courtesy of Reuters.

Summer to be interesting with the peripheral yield games in spotlight?

80 JPY In Focus Too

Another "inflection point" on my screens is the mark of 80 Japanese yens (JPY) per 1 US dollar. This is rather important for Japan in watching the Chinese slowdown.

"... Preliminary China June PMI Falls to 11-Month Low", as per WSJ.com today:


The preliminary HSBC PMI declined from a final reading of 51.6 in May, while the manufacturing output sub-index fell to an 11-month low of 50 from the previous month's 50.9, HSBC Holdings PLC said Thursday.


Of course, the soft landing in China is consensus view, but the tight liquidity situation may bring some "fat tails". However, the 80 JPY mark will show where the market goes ...

Click on chart to enlarge, courtesy of Reuters.

Spanish Government Bonds In Focus

As the interest rate strategists at Commerzbank write today, despite hope for better sentiment in the weeks ahead:

At the same time, the risks of a re-widening in spreads from lower levels later this year have increased. Should politicians fail to come up with a coherent plan to ring-fence Greece in the case of default, highly adverse consequences like a bank run in Greece or Spanish yields moving to unsustainable levels cannot be ruled out.

Click on chart to enlarge, courtesy of Commerzbank.

Interestingly, but 10-year Spanish government bonds appear to be testing unchartered waters with a potential upside breakout from technical perspective, while still below the point of no return at 6%, as per Commerzbank. At the same time 5-year Spanish bonds still appear somewhat friendly...

However, this is one area to keep an eye on.

Nomura: How Much Of A US Slowdown Is In The Price?

Interesting observations by strategists at Nomura today:

While June ISM risks are skewed to the downside, growth-related assets seem to be underestimating the possibility of a disappointing outcome. Figure 1 compares the ISM index with the year-on-year changes in our common measure of US market-implied growth, which we define as the first component of a PCA on a group of US growth-related assets. It is apparent that after months of relative pessimism the market is now trying to look through the recent data and view it as a transitory slowdown. As such, growth assets appear vulnerable to further disappointing data in June. Currently, on this simplistic measure the market implies an ISM of roughly 57.0 vs our economists forecast of 51.8 and the Philly Fed's dismal ISM-equivalent reading of 45.5.

While buying Treasuries and selling stocks would be the natural trade to position for a deeper-than-expected ISM dip, optimising this trade could be key given current valuations. Figure 2 looks at the relative mispricing of each asset with respect to the common US growth component. Clearly, while Treasuries would benefit from a disappointing growth outcome, yields already appear too low compared with the rest of the assets in our universe and arguably offer only a limited reward. Conversely, S&P Consumer services, oil and copper still appear too optimistic with respect to growth, despite their recent retrenchment, and thus offer an interesting trade for investors positioning for a longer and deeper "soft patch" than currently expected.

Click on charts to enlarge, courtesy of Nomura.

Well, markets seem to be focused on "technically oversold" conditions and Greek "victory" today...