would be interested in your views of Microsoft's price chart at present. I know you have been cautious over the past few years, and have even questioned the presence of a catalyst as a reason to expect limited upside going forward. Yet, a reasonably consistent upward pattern continues to play out. As always, your insights and perspectives are genuinely appreciated.

Thank you for this question which may be of interest to subscribers. I was indeed cautious about the prospects for mega-caps in 2019 because we had an inverted yield curve, tightening liquidity and it was not apparent where the next big growth bump would come from.

Hope you are well in Dallas.

I have a question: why do you often mention that we have MMT in action right now?

MMT is not a policy adopted by government or central banks. They don’t “do mmt”

MMT is a theoretical framework that tries to explain how the monetary system works in a freely convertible and fiat currency system in which we have been living for 50 years now (and it explains it correctly to a large part in my opinion). it’s not the “policy ode making debt”. Isn’t it?

When you mention “MMT in action” you likely refer to the government demand for goods, services and the grant of subsidies / social securities payment / medicare /unemployment benefit to people etc. along with the debt issuance “to pay for” this spending. Finally the FED buying the government debt to “ease” the monetary conditions (the QE vs tapering).

But this is not “MMT”. Government spending has always existed and it is the second largest component of a country GDP (after “C” , private consumption). Look at the development of the US federal debt since the early 80es to the almost USD 28tn in 2021 / today. It does not matter who administered the country (super conservative or super liberal), they have all managed to expand the debt. And the market has always absorbed the “debt”. Have they been “doing MMT” for 40 years?

Thank you for your regular market updates... always appreciated

Thank you for this email which I believe will be of interest to the Collective. I agree there is nothing “modern” about MMT. Governments have a natural proclivity to spend and the freedom of fiat currencies inevitably leads to high debt loads. In that regard, the sustainability of debt regimes has been on a downward trajectory for a long time and people have been worrying about it for just as long. The bigger question is whether anything has really changed? 

For the third month in a row, wages for the low-skilled have risen faster than for the high-skilled. In the previous history of the survey, which now goes back almost 25 years, this had only ever happened in two months, in early 2010. Wage growth for the low-skilled is also exceeding that for the high-skilled by the most on record. 

In terms of the momentous macroeconomic issues of the moment, this is good for growth, as poorer people are more likely to spend their pay rises than richer people. It’s also potentially bad for inflation. Wage growth for the lowest skilled is the fastest since August 2008 (not coincidentally, the month before the Lehman bankruptcy), and that could easily lead to higher prices. 

More interestingly still, it does suggest a shift in the balance of power between labor and capital. This isn’t as yet a deep-seated or well-established trend, of course. But if it continues it could rattle a lot of assumptions, and alleviate a lot of social tension.

There has been a great deal of talk about the increasing shift between labour and capital or, perhaps more prosaically, power of the people relative to capitalists. The role of technology and globalisation in suppressing wages is much less discussed because it is does not fit with the inconvenient narrative of the oppressed masses.

Argument 3: Today’s business models have rendered most accounting data irrelevant, so isn’t investing on the basis of obsolete measures like P/E or price/book a fool’s errand?

Answer: Here at GMO we’ve got a good deal more sympathy for this argument than the first two. The fact that GAAP accounting hasn’t kept up with business models that are more dependent on intellectual property than tangible assets is unquestionably true. While it is worth remembering that book value was a highly imperfect guide to “true” economic capital even in the pre internet (and pre stock buyback) days, it is certainly more flawed now. We think the right response to the problem is not to give up on value as a style but to build better value models. GMO’s Global Equity team spent 4 years painstakingly rebuilding the balance sheets and income statements of over 10,000 companies going back over 40 years, capitalizing expenditures that we believe should have been considered investments and undoing the distortions created by decades of stock buybacks. This has not only given us improved versions of accounting-based valuation models that we believe are far closer to economic reality than what is embodied in the measures used to build style indexes, but we’ve taken advantage of that economically relevant data to build a forward-looking dividend discount model that we believe can also differentiate between companies where it is worth paying up for their future growth potential from those that are merely overvalued.

It is honourable for a captain to go down with the ship but it’s not a great personal decision. Faced with decades of unrelenting underperformance of traditional value stocks GMO decided to evolve their definition of what a value company is. It turns out value looks a lot like growth after all. Isn’t that convenient?

“This is not a tapering decision, as ECB President Lagarde stressed,” Elga Bartsch, head of macro research at the BlackRock Investment Institute, said in an emailed comment. “Asset purchases look here to stay as the new policy framework paves the way for looser for longer monetary policy in the euro area.”

Mark Dowding, who oversees $70 billion at BlueBay Asset Management LLP, was less convinced by Lagarde’s protestations. 

“To me it is just semantics,” he said. “It is a choice of words. It looks like a taper and smells like a taper, so markets will view it as the start of the taper process.”

With supply-chain disruptions and resurgent virus infections threatening to undermine the recovery and medium-term price pressures likely to remain well below its goal, officials have insisted in recent weeks that the euro-area economy is in a different state than the U.S. and remains reliant on ECB support.

Yet some governors have started to warn publicly that maintaining an ultra-accommodative stance for too long also carries risks. Austria’s Robert Holzmann and Klaas Knot of the Netherlands both told Bloomberg in separate interviews last week that emergency asset purchases should end in March, hinting at heated discussions about the policy path in the months ahead.

The most likely scenario is a long slow taper; potentially beginning in December. That appears to be the plan being laid out by central bankers everywhere with a similar statement released about Australia’s ongoing taper earlier this week.

They don’t have much choice. We are 18 months on from the pandemic nadir in markets and economies are well on the road to a full recovery. As economies recover, they have to think about tailoring their assistance. However, we are still a long way from the first interest rate hikes.

Johnson made a statement to a hushed House of Commons on Tuesday, ahead of a joint press conference with Chancellor of the Exchequer Rishi Sunak and Health Secretary Sajid Javid.

As he begins his third year in office, 57-year-old Johnson is looking to move beyond the Covid-19 pandemic by delivering on a policy promise that he set out in his first speech as prime minister to “fix the crisis in social care once and for all” -- as well as ensure the NHS can keep functioning under extreme
pressure.

But by attempting to meet this pledge, he is tearing up another one: the Conservatives vowed in their manifesto not to raise income tax, national insurance or VAT. He’s gambling that voters will reward him for finding a solution to social care, a problem that eluded his predecessors.        

The government broke another pledge on Tuesday, saying it will scrap its “triple lock” commitment to pensioners, albeit for one year only. Pensions will now rise by the greater of inflation or 2.5%, Work and Pensions Secretary Therese Coffey said. Suspended is an average earnings component after distortions caused by the pandemic caused wages to soar almost 9% over the past year.
 

The UK has been among the most forthright in speaking about the budgetary problems the pandemic has delivered. The fact this new set of spending plans will be budget neutral is to be welcomed and suggests the UK is less likely to be a leading proponent of modern monetary theory. Nevertheless, the big question remains how the existing deficit will be tackled over the next couple of years.

On November 24th I began a series of reviews of longer-term themes which will be updated on the first Friday of every month going forward. The last was on May 7th. These reviews can be found via the search bar using the term “Secular Themes Review”.

If it walks like a duck and quacks like a duck, it must be a duck. Wall Street is behaving like it is in a bubble. The most important thing is the bubble is still inflating.

But other troubling signs have emerged in ways that threaten the administration’s political agenda. The price of gasoline rose by 2.5% in June and 2.4% in July — a rate which, if consistent over the course of the year, would amount to a more than 20% annual increase. Gas prices have risen above $3 and are at their highest level since 2014 as part of a broader increase in prices that the administration is eager to reverse. Prices could increase further as Hurricane Ida slams into Louisiana, a key hub for refineries, although that uptick will likely prove temporary.

Food price hikes also strained family budgets, rising by roughly 3.4% from last year. The Agriculture Department saw faster than expected jumps between June and July in the price of 11 different food categories — including beef and veal; seafood; fish; and dairy products — with pork and chicken prices increasing by about 2% in just one month. USDA projected jumps in poultry prices of as high as 6% over 2021.

The big question for investors is how serious are politicians about interfering to control commodity prices? There are certainly measures which can be implemented to address anti-competitive behaviour, but the reality is that many of the supply bottlenecks have arisen as a result of direct government policies.

Investors took the news of the coming taper in their stride -- avoiding any hint of the so-called 2013 “tantrum” when the Fed surprised markets by unexpectedly announcing it would start to pare back asset purchases. The S&P 500 rose during the much-anticipated address to stand more than 0.6% higher from opening levels. Ten-year Treasury yields nudged slightly lower to around 1.33% and the dollar fell.

“Chair Powell stuck to the script in his Jackson Hole speech; anyone hoping for a steer on the timing of the taper will have been disappointed, but it was never likely,” said Ian Shepherdson, the chief economist at Pantheon Macroeconomics.

At the July Federal Open Market Committee meeting, most Fed officials agreed it would probably be appropriate to begin tapering the central bank’s $120-billion-a-month bond-buying program before the end of the year, according to a record of the gathering. Some are pushing for a move as soon as next month.

Monetary policy makers would like to conclude the purchases before they begin raising interest rates, and several in June saw a possible need for rate increases as early as 2022 amid inflation that is running above the central bank’s 2% target. The Fed cut its benchmark rate to nearly zero and relaunched the crisis-era purchase program last year at the onset of the pandemic.

No surprises and the promise of a potentially lengthy interval between the end of quantitative easing and tightening was greeted with enthusiasm by investors. It ensures the Fed will remain a significant force in the Treasury market for a while longer.

Demand for physical bullion in Germany, traditionally the biggest coin and bar buyer in Europe, was the highest since at least 2009 in the first half, World Gold Council data show.

While purchases in other Western markets have also been strong, Germans in particular are pouring into the metal as a hedge against rising inflation -- and dealers say business remains good.

“We have a long history of inflation fear in our DNA. Now the inflation risk is picking up,” said Raphael Scherer, a managing director at metals dealer Philoro Edelmetalle GmbH, whose gold sales are up 25% on what was already a strong 2020.

“The outlook for precious metals is very positive.” Germany’s love of gold has its origins in the hyperinflation seen under the Weimar Republic a century ago, which saw consumers’ buying power collapse. Last month, the reopening of the economy helped German inflation jump to the highest in more than a decade. Negative interest rates in Europe are also making non-yielding assets like gold more attractive, Scherer said.

First-half demand for bar and coins in Germany increased by 35% from the previous six months, compared with 20% in the rest of the world, WGC data show.

I just realised this is the third day in a row I have featured an article relating to Germany. Imported inflation is running at a record rate and there is no sign it is abating just yet. Taiwan Semiconductor raising prices by 20% yesterday, rising shipping rates and higher commodity prices are all conspiring to raise prices for just about everything; everywhere. Meanwhile Euro weakness is a tailwind for inflationary pressures.  

“If rates go up, they will underperform,” Aash Shah, senior portfolio manager with Summit Global Investments, said of the biggest tech stocks. “That’s nothing against their business, just a reality of discounted cash flow.”

The interplay between technology stocks and Treasury rates is nothing new, of course; the rise in yields over 2018 contributed to an outsize rout in the Nasdaq 100 Index late that year, for example. And other forces, like last year’s shift away from companies hard hit by lockdowns, have also played a major role in driving tech stocks. 

Chris Murphy, co-head of derivatives strategy at Susquehanna International, said a rise in yields doesn’t necessarily pose a risk to tech stocks if economic growth stays strong. But that could be eclipsed if investors grow fearful about the expected pullback in the Federal Reserve’s bond buying program.

“If economic growth holds up, 10-year yields and the Nasdaq can rally together,” he said. “If the focus switches to the Fed tapering, then that’ll be bad for the Nasdaq and the relationship starts to become more negative.”

The thing I was most worried by, at the end of the 1st quarter, was the surge in the yield curve spread. The worst selling pressure in a bear market usually occurs when the spread is surging higher following an inversion. That is usually when trouble in the economy is obvious and central banks belatedly try to play catch up. On this occasion, central banks acted with alacrity and forestalled a much deeper decline by flooding the market with liquidity. The significant rally in government bond prices, from the April low reduced funding pressure for the growth sector and marked a significant peak for the yield curve spread.

Iron ore’s revival came after it lost about a quarter of its value in the past month, as China’s push to curb steel production hammered demand. But steel and other industrial commodities have rebounded this week, after China’s count of daily Covid cases fell back to zero and central bankers vowed to step up support for the real economy. Coking coal in China hit a record on Tuesday, while copper has also recovered amid signs that Chinese consumers are on a buying spree. 

“Iron ore just cannot be the only one lagging while everything else in steel space is massively bid,” Xiaoyu Zhu, a metals trader at StoneX Financial Inc., said by email. “After the price spike in coal products in the last two days, it’s hard for iron ore to stay quiet.”
 

Steel is as essential to economic development as it has ever been and that makes it a important component of global economic revival. The challenge for China is they have vast oversupply of manufacturing capacity for the alloy and rationalising it is an erstwhile priority.

In the end, it will come down to what Powell considers the bigger longer-term risk for the U.S.: Become trapped in a disinflationary spiral like that experienced by Japan as the forces of technological advances and globalization continue to press down on prices, or enter an inflationary zone of escalating cost pressures akin to what the U.S. suffered a half century ago.

Right now, he’s betting that the former is the bigger long-run danger, and holding off from tightening credit.

“The new framework is not so much about what kind of monetary policy you would expect right now, but what you might expect over the next year or perhaps longer as this recovery continues,” Wendy Edelberg, director of The Hamilton Project at the Brookings Institution, says. “They have made a pretty convincing argument they are going to keep monetary policy accommodative for longer than they would have under a different policy rule.”

But the path ahead will be far from easy as the Fed seeks to softly land the economy in the neighborhood of on-target inflation and maximum employment.

“It’s going to very difficult,” says Blinder, who was at the Fed when it achieved what many economists consider its only perfect landing for the economy, in the mid 1990s. “If they can achieve that, they deserve more than a pat on the back.” 

The US economic expansion is slowing down. The end of stimulus coupled with the rising perception of risk from the delta variant are conspiring to restrict economic activity. That’s not the kind of environment a central bank is likely to tighten into. In fact, these conditions are only likely to confirm the Fed’s conclusion that inflationary pressures are going to be transitory.

For example, Collins found that, according to 19 survey respondents so far, Facebook is offering an average annual salary of $109,526 with a massive signing bonus of $79,737 for employees in technical roles like iOS or full stack developer, or software or network engineer.

By comparison, according to 31 survey respondents, Google is paying recent graduates in tech roles an average of $107,000 annualized salary with an average signing bonus of $27,327.

And Microsoft was offering new grads a $107,455 annualized salary with a $26,591 signing bonus, according to 22 respondents.

Looking at the self-reported salary and bonus data by job title, Collins found that software engineers and developers are out-earning their peers in user experience design and sales engineering by tens of thousands, annually.

And even though government salaries are presumed to be much lower than those in the private sector, working in tech in a government office will score entry-level engineers and developers a slightly better salary, on average, than working for a seed- or Series A-stage startup, the survey suggests.

There has been a great deal of commentary in the media about the starting salaries of graduates in the financial sector.

In some respects, it is a matter of supply and demand. The financial sector is now competing for the same graduates as tech companies and are being forced to pay up.

Expectations are mounting for a September announcement of tapering plans by the Federal Reserve (Fed), prompted by the strength of the economy and comments from more hawkish members of the FOMC, particularly Boston Fed President Eric Rosengren.

We don’t see that happening. The Delta variant is throwing a wrench into the forward progress of the economy. Although Fed Chair Powell believes that “it’s not yet clear whether the Delta strain will have important effects on the economy,” our read of the latest data suggests that it is already having a negative impact on consumer behavior.

After a large downside miss to July retail sales, spending on COVID sensitive activities such as restaurants, air travel, and hotels has weakened further in August. High frequency indicators of broader consumer activity such as daily credit card spending also show softening over the past few weeks.

This sounds like a common-sense conclusion. Everywhere I look around I see evidence of changed plans and lower economic activity. It seems obvious that will feed through into a weaker set of statistics by the time the 3rd quarter ends.

The disruptions started in the second half of last year after demand for goods sank when the pandemic struck and carriers cut sailings, but locked-down consumers then ordered products online at an unprecedented rate.

Shipping companies’ efforts to catch up have been set back by the Suez Canal blockage in March and the Yantian terminal closure, as well as border restrictions and port worker absences.

An indefinite partial shutdown at Ningbo-Zhoushan is the latest problem that could deepen the strain on global logistics. Shipping lines have already started to omit calling at the Chinese port near Shanghai.

About 350 containerships capable of carrying almost 2.4m 20ft boxes are waiting off ports globally, according to VesselsValue. The congestion has been getting worse with idle capacity reaching 4.6 per cent of the global fleet, up from 3.5 per cent last month, data from Clarksons Platou Securities shows.

Lars Mikael Jensen, head of global ocean network at Maersk, the world’s largest container shipping group, agreed that the situation had shown no signs of improvement since the Delta variant of Covid emerged.

“It’s not getting any better on aggregate,” he said, adding that maritime transport networks are “still super stretched — it only takes a small thing then you’re back to square one or square one minus”.

The influence of the pandemic has resulted in sustained pressure on global supply chains. The primary difficulty for ports is ships have been one of the primary vectors through which the virus has spread internationally and many ports are having difficulty maintaining staffing levels because of infections among workers.  

By global standards, the U.S. has bounced back fast. But as data on the recovery continue to pour in, there’s plenty to support the suspicion that the glass is still half-empty.

Consumer sentiment fell in early August to the lowest level in nearly a decade by one measure and U.S. retail sales fell in July by more than forecast.

The following charts help explain why Americans still aren’t clear how impressed they should be.

I was at a wholesale furniture warehouse this morning that does not deal with retail customers. The two things that employees related to me were that business was booming in the 1st and 2nd quarters, but over the last two months sales have been way down. The second was there was a big whiteboard on the wall with their monthly minimum sales target of $950,000. As of this morning they were at $431,000.

Nair was referring to massive delays at Shenzhen's Yantian port in May and June. Weeks of containment efforts following outbreaks of Covid-19 among dockworkers in China's Pearl River Delta caused global shipping delays, supply-chain disruptions and surging freight costs. The problems have not been fully resolved.

Lars Jensen, CEO of liner consultancy Vespucci Maritime, also said the Meishan terminal closure could have a similar impact on the Ningbo-Zhoushan Port that Yantian experienced when it was closed for more than three weeks.

"Significant problems, both for export cargo as well as for the movement of empty containers into the region, would then ensue," he wrote in a LinkedIn post on Wednesday.

With its zero-tolerance approach to the coronavirus, China is currently carrying out mass testing to contain the spread of the highly infectious Delta variant, which Ningbo authorities said the Meishan worker tested positive for.

However, the deputy director of the Ningbo Centre for Disease Control and Prevention, Yi Bo, said the worker may have contracted the virus from his interactions with foreign crewmembers of cargo freighters that he had boarded at the port. Video surveillance showed he had close contact with crews.

Meishan is one of the busiest terminals at the Ningbo-Zhoushan Port, servicing main trade destinations in North America and Europe. In 2020, it handled 5,440,400 TEUs of container throughput, or around 20 per cent of the total container throughput at the Ningbo-Zhoushan Port, according to official statistics.

Shipping rates from China to the USA and Europe are up 400% in the last year. A good part of the reason for that jump is because ports are having difficulty managing the volume of traffic. That’s both a function of outsized demand during the pandemic and the infection rates among dock workers.

In this article, we document that two derived US inflation variables—inflation cycles and inflation surprises—have been robust predictors of US equity returns. We demonstrate that this predictability translates into new sources of alpha that investors can seek to harvest. In particular, we highlight the signals’ ability to perform during the worst times in the stock market without missing upside opportunities.

The tail-hedging properties derived from inflation signals are particularly desirable. Hedging positive inflation shocks can be costly when inflation is low.9 For example, strategic allocations to alternative assets, such as commodities, or absolute return strategies as a way to protect against inflation have not all fared well in recent years, with commodity indices down more than 30% versus their 2011 levels. As a result, many asset owners may not be able to stay the course if inflation fails to materialize in the medium term. We find that inflation signals can provide a new tool for investors who wish to hedge their portfolios against inflationary and deflationary risks.

“The tail-hedging properties derived from inflation signals are particularly desirable.”

For forty years inflation is the dog that refused to bite. There have been several occasions when it looked inevitable profligate spending, overly generous social programs, supply disruptions, commodity and property booms and busts would break the trend of disinflation but they never did.

Humanity will have about a 50% chance of staying below the 1.5°C threshold called for by the Paris Agreement if CO₂ emissions from 2020 onwards remain below 500 billion tons. At the current rate of emissions, that carbon budget would be used up in about 13 years. If the rate doesn’t come down, the planet will warm more than 1.5°C.

“Our opportunity to avoid even more catastrophic impacts has an expiration date,” said Helen Mountford, vice president of climate and economics at the World Resources Institute. “The report implies that this decade is truly our last chance to take the actions necessary to limit temperature rise to 1.5°C. If we collectively fail to rapidly curb greenhouse gas emissions in the 2020s, that goal will slip out of reach.”

The new publication lands in the middle of the ramp-up to COP26, to be held in Glasgow in November. A global deal to pursue faster emission cuts would depend on poor countries securing $100 billion a year in climate finance from rich countries, something envisioned in previous climate agreements
but not yet achieved. National governments would also need to agree to rules governing the trading of emissions permits, to ensure those moving faster towards cuts are rewarded for doing
so.

The amplification of worries about the trajectory of the “climate emergency” has been building well in advance of the publication of this report. There is a clear set of policies being adopted to ensure much of the existing industrial base is going to have to fund the construction of alternative infrastructure.

On November 24th I began a series of reviews of longer-term themes which will be updated on the first Friday of every month going forward. The last was on May 7th. These reviews can be found via the search bar using the term “Secular Themes Review”.

We are 17 months on from the panic low in 2020. At this stage it is quite normal to marvel at the speed of the advance and worry that the pace can’t possibly be sustained. The abiding sentiment is something like “surely, the world is not nearly as good as it was before the pandemic and therefore how on earth can prices be so high?”.

The world is not as good as it was before, millions of people have been deeply inconvenienced and many are traumatized by the events of the last 17 months. The counter argument is the quantity of money in circulation has only been matched during wartime and that has helped to inflate the price of everything. That’s the key to the argument. Having spent so much to achieve this recovery does anyone really believe central banks are going to endanger it? So where do we go from here?

less crackpot epidemiology, more market analysis please

Thank you for this email. I have never considered myself a crackpot but who does? The reality today is there is a war going on for the hearts and minds of the global population. A connected world has not allowed every voice to be heard, only the loudest and best funded. The raw appeal of emotional rhetoric animates the online mob in the same way as it has always done for crowds of agitated people.

I agree there is crackpot epidemiology everywhere but there is far less commentary on crackpot epistemology. The basis of reason and thought are under outright attack today and the other side is winning.

Anyone who questions the prescribed narrative on the response to the virus, environment, race, entitlement, sexuality and any of a host of topics is vilified, cancelled and/or doxed. Crowds are powerful discriminatory and are vicious towards doubters. That hasn’t changed but the crowds are bigger today and physical proximity is not a limiting factor.

In this service my role is to lay out what I believe are relevant considerations for a rational investor as we act as judges at an international beauty competition.

They further explain if the market reaches the higher end, a new market could be opened with a new range, so making this effectively price discovery for non publicly traded companies, including McLaren, Reddit, SpaceX or OpenSea, Zapper, dYdX.

This hasn’t quite launched yet, with it to be seen what it will look like exactly once it is in hard code, but the idea is that once the company goes public, then the prePO price is settled at the company’s opening price on the first day of trading.

So in theory and perhaps even in practice this can allow for betting on startups even at the very early stages as well as mature companies that will probably go public at some point with the investor benefiting from the price appreciation that does finally settle once the company goes public.

“When the asset goes public, you can exit your position at a final settlement price, based on the price at the end of the first day of public trading for stocks, or on a time-weighted average price for tokens,” they say.

Every major bull market comes up with a way for investors to believe they have an edge over everyone else. In the 1990s that was characterised by buying IPOs. During the housing bubble it was liar loans and zero down mortgages. Today, the tokenization of everything from art to companies is allowing private investors an opportunity to invest in private markets like never before.

“Capital allocated to market-making by bank-affiliated dealers has not kept pace with the very rapid growth of marketable Treasury debt outstanding,” the group’s report found. That, in turn, is due in part to leverage requirements that discourage banks from allocating capital to market making, the report said.

The group’s recommendations included:

Creation of a standing repo facility by the Fed, with terms that “discourage use of the facility in normal market conditions without stigmatizing its use under stress”
All trades of Treasury securities executed on electronic inter-dealer trading platforms that offer anonymous trading should be centrally cleared
Treasury repos should be centrally cleared
The Treasury Department should lead a review of the design and operation of the Fixed Income Clearing Corporation, the only central clearinghouse for Treasuries
Banking regulators should review rules with a view to modifying those that discourage market intermediation
The TRACE reporting system should be expanded to capture all transactions in Treasury securities and Treasury repos
The Treasury should lead an inter-agency study to re-examine all exemptions of Treasury securities from U.S. securities laws, and prepare annual reports on Treasury market functioning

Geithner served as chair of the working group. The project director was Patrick Parkinson, a former Fed official who’s now at the Bank Policy Institute. Parkinson co-wrote a paper last year with Nellie Liang, now the Treasury undersecretary of domestic finance, on enhancing liquidity in Treasuries. Panel members included former heads of the central banks of the U.K., Japan, Germany, Brazil and Mexico along with other ex-senior Fed officials.

It is amazing how policy tends to move in cycles. After the credit crisis, the consensus conclusion was that bank balance sheets were too large. Regulators were worried that trading off the back of deposits and high leverage ratios posed systemic risks. The partial fix was to separate trading from banking operations. The result was that banks had to reduce leverage and a lot of market making moved to private operations like Citadel.

The first principle of attempting to solve the China riddle is to assume nothing is ever as simple as it seems. Rather than focus on what the government or official statistics say, the only way to interpret the future is to monitor real world actions.

If the marginal cost of production is now around $50, prices cannot fall below that level for a sustained period. In a volatile market like oil, there will inevitably be occasions when prices test the lower bound and rise enough to encourage marginal production in off the side lines.

Bitcoin, the largest digital currency, rose as much as 5.8% and was holding at about $31,450 as of 7:23 a.m. in New York on Wednesday. Other cryptos advanced too, including Ether and Dogecoin 

Bitcoin extended gains after breaking above the $30,000 mark that some cryptocurrency traders view as a key support level.

The largest digital currency rose as much as 5.8% and was holding at about $31,450 as of 7:23 a.m. in New York on Wednesday. Other cryptos advanced too, including Ether and Dogecoin, while the Bloomberg Galaxy Crypto Index was also in the green.

Bitcoin dropped briefly below $30,000 yesterday and bounced back emphatically today. This is a clear upward dynamic and signals a return of demand in the region of the lows over the last couple of months. That supports the potential for at least a short-term bounce.

“We have a ways to go on the cyclical recovery here,” Levine, head of equities at the firm, said on Bloomberg TV and Radio. The U.S. has exhibited “an exceptionalism in the amount of fiscal policy, the amount of monetary stimulus and also in the way we vaccinated the population. And because of that I actually am very bullish,” she added.

For Bill Callahan, an investment strategist at Schroders, “equities just make sense right now,” and dip buyers will be rewarded as the market continues to grind higher.

On the economic front, data showed U.S. housing starts increased in June by more than forecast, suggesting residential construction is stabilizing despite lingering supply-chain constraints and labor shortages.

The compression in yields makes the argument for investing equities more compelling because it reduces speculation that monetary accommodation is about to be removed.

In general, we believe increases in cash assets on bank balance sheets are less inflationary than increases in loans, especially if a large majority of those cash assets come from QE. Increased loan activity suggests increased spending/investment activity, which can have multiplier effects throughout the economy – generating higher prices.

Securities
Banks haven't been leaving all of their cash assets parked at the Fed. Based on assessments of deposit durations, banks have been investing more into securities than pre-pandemic trends would suggest (see Exhibit 8 again). The large majority of those securities have been Treasury and agency securities (see Exhibit 11).

In addition, banks have invested substantially more into agency MBS than into US Treasury and non-MBS agencies (see Exhibit 12). Does that matter for the inflation outlook? We don't think bank purchases of US government debt add to the inflationary impulse of government spending beyond what the government spending itself did.

More government spending (or less taxation) that leads to larger deficits puts more money in the banking system (adding narrow liquidity) which eventually finds its way into government bonds (removing narrow liquidity).

If the banks didn't purchase the government bonds, another actor in the system would. Put differently, Treasury securities on bank balance sheets don't represent credit or narrow liquidity (money) creation.

However, bank purchases of agency MBS, which are similar in nature to banks making mortgage loans and retaining them on the balance sheet from a credit-impulse perspective, do represent credit or narrow liquidity (money) creation.

The willingness and indeed ability of banks to make loans is an important credit multiplier. The retrenchment of both consumers and banks following the global financial crisis meant that multiplier was missing and the anticipated inflationary forces did not appear. It is logical to monitor this topic as a key support arbiter of whether inflationary pressures will be transitory.

Shelter costs, which are seen as a more structural component of the CPI and make up a third of the overall index, rose 0.5% last month, the most since October 2005. The gain was driven by a 7.9% jump in hotel stays.

Wage growth rose steadily through the second quarter, but higher consumer prices are taking a toll. Inflation-adjusted average hourly earnings fell 1.7% in June after slumping 2.9% a month earlier, separate data showed Thursday.

Figures out Tuesday from the National Federation of Independent Business showed 47% of small-business owners, the largest share since 1981, reported higher selling prices in June.

The jump in used car prices is a direct result of the semi-conductor shortage. The kinds of chips required by the automotive sector could be in short supply until the end of the year, so that supply inelasticity is likely to last a while longer. It is also having a knock-on effect for the rental car market and even into the U-Haul sector.

Private-equity firms are taking portfolio companies public at record levels, capitalizing on a highflying market as the economy rebounds from the pandemic-induced recession, Maria Armental reports for WSJ Pro Private Equity. In all, 105 private equity-backed companies priced initial public offerings in the U.S. in the first six months of this year, according to data provider Dealogic. The total has already surpassed the 89 U.S. IPOs by sponsor-backed companies in all of last year and is more than triple the number of such exits in 2019.

Midmarket-focused Nautic Partners aims to raise $2.5 billion for its 10th buyout fund, Preeti Singh reports for WSJ Pro Private Equity, citing a public document from Rhode Island's public pension system. If the Providence, R.I.-based firm hits its target, Nautic Partners X LP would be about 60% larger than its predecessor, Nautic Partners IX LP, which closed with almost $1.57 billion in March 2019. The fund's sponsor is expected to commit as much as $100 million to the new pool, documents from the pension system and its investment consultant said.

Ordinary people would have a way to join the wealthy as investors in private-equity funds under a proposal from two members of the House of Representatives, part of a wave of recent government efforts to expand access to alternative investments, Chris Cumming reports for WSJ Pro Private Equity. A bill introduced in the House on June 30 by Rep. Anthony Gonzalez (R., Ohio) and co-sponsored by Rep. Gregory Meeks (D., N.Y.) would amend the Investment Company Act of 1940 to prohibit limiting the amount a closed-end vehicle can invest in private funds.

The decline in real yields have been the single biggest factor in the success of private equity. Investing in companies that will not turn a profit for years is a lot easier when the cost of funding is both low and falling. That ensures that debt can be refinanced at successively lower rates and the time to profit can be pushed out even further. That also allows valuations to increase as the enterprise value of the company jumps.

“The new formulation removes any possible ambiguity and resolutely conveys that 2% is not a ceiling,” President Christine Lagarde told reporters in a press conference, adding that the strategy review was agreed unanimously. “What we want to do is to avoid the negative deviation that will entrench inflation expectations.”

The outcome “can be perceived as net dovish in the short-term,” said Ima Sammani, FX Market Analyst at Monex Europe. “The new symmetric inflation target gives the central bank ample room to run accommodative monetary policy for longer without having to fight markets.”

Still, the euro gained after the announcement as traders perceived the ECB’s new strategy as less aggressive than the Federal Reserve’s flexible inflation targeting. The common currency was up 0.5% at $1.1848 at 2:42 p.m. Frankfurt time. It’s fallen from around $1.22 a month ago.

On climate change, another controversial topic for some central bankers, the institution said it will now include considerations on that matter in its monetary policy operations. Meanwhile officials also said they will start considering owner-occupied housing costs in their supplementary measures of inflation.

The big question for any central bank is how to do control inflationary expectations? In many cases the simple answer has been to change how they measure it.

Wells Fargo & Co. said it’s shutting down all existing personal lines of credit and will no longer offer the product to its customers.

“In an effort to simplify our product offerings, we’ve made the decision to no longer offer personal lines of credit as we feel we can better meet the borrowing needs of our customers through credit card and personal loan products,” the bank said in an emailed statement. The firm has been providing existing customers with 60-day notices their accounts will be closed, with a fixed rate and minimum payment for their remaining balances, it said.

Under Chief Executive Officer Charlie Scharf, Wells Fargo has been exiting businesses deemed inessential with the goal of simplifying operations and improving profitability following years of scandals. Earlier this year, the bank agreed to sell its asset-management and corporate-trust units, and last year it agreed to divest a $10 billion private student-loan book.

Personal credit lines are often used to purchase expensive items like vacation homes, boats or planes. They are often collateralised with stock portfolios. The most public user of these kinds of vehicles is Elon Musk who has borrowed significant sums against the value of his Tesla shares. It has also been a popular vehicle in China where entrepreneurs have staked their holdings in order to source additional funds.

The services index of inventories also shrank, indicating that supply chain constraints continue to hold back economic activity. Supplier delivery times remain elevated due to truck availability, slower rail services, port congestion and container shortages, Nieves said on a call with reporters.

A separate gauge of inventory sentiment dropped to a record low, showing more service providers see their stockpiles as too lean. The index of prices paid for materials fell slightly, suggesting that while still elevated, the acceleration in cost pressures may be starting to cool.

The argument inflation is transitory got a boost today with services data coming in weaker than expected. The challenge is that the labour market has been distorted by massive government intervention and global supply chains are simultaneously struggling to recover from the impact of the lockdowns. The tendency to focus on year over year comparisons further muddies the economic picture in most countries.

On November 24th I began a series of reviews of longer-term themes which will be updated on the first Friday of every month going forward. The last was on May 7th. These reviews can be found via the search bar using the term “secular themes review”.

News today that Johnson & Johnson’s vaccine is effective against the delta variant should help to allay fears that the world is about to experience a round of upheaval similar to early 2020.

There is no question that the pandemic has acted as an accelerant. It forced migration and adaption to new conditions in a manner that might otherwise never have happened. Some of those changes will stick, others will fade away.

Everyone seems to think that the pandemic has to mean something and that we will never again get back to normal life. I don’t believe it. The surges back into social activity whenever restrictions are lifted is confirmation that humans are social beings. We crave physical contact and fellow feeling. That’s not going to change, even if we have a better appreciation for it today than since the demise of organised religion.  

As with every other crisis, the liquidity created to deal with the shock will remain in the system for much longer than it is strictly required. Central banks cannot afford to jeopardise the recovery they worked so hard to create. Meanwhile, populations everywhere are impatient for better conditions.

Let me take your question a moment ago and then come to that, Stephanie. Look, I think the arguments about average inflation targeting and so forth, they kind of have their place. But I think we need to recognize when you declare victory. When we’ve got a record labor shortage, the Fed probably shouldn’t be obsessing about making sure there are opportunities available. When we’ve now got average inflation over the last two or three years, up to 2%, we don’t have the problem of needing more inflation in order to get to some kind of level of average. So, I just think we need to recognize the new reality is very different from the secular stagnation reality of two years ago.

Look, I am all for a strengthening on a variety of dimensions of the hand of workers. I think we need to raise the minimum wage. I think we need to re-empower the ability to organize unions. I think that we can’t read the stories about working conditions at Amazon and not think that something should be happening to rebalance things.

At the same time, I think you have to recognize that doing all of those things is going to bear on the inflation process. It’s going to bear on what economists call the natural rate of unemployment. And you’re going to have it have a set of consequences, and you need to factor those in in setting macroeconomic policy.

I mean, we had a moment very much like the current moment, coming after a long period of no inflation. We had a government that had very expansive desires for what it was going to do. We had a progressive tide sweeping through the country, changing attitudes on very many fronts. We had that in the 1960s. And what we saw was that inflation rose more rapidly than anybody anticipated, that a right-wing tide in politics was ushered in with the successive elections with lags of Richard Nixon and Ronald Reagan, and that what happened ultimately did not serve the interests of the progressives who supported it. And you saw a big upsurge with the way in which the United States went off gold and imposed tariffs universally 50 years ago this summer.

So, a return to that does not seem to me to be what we should be targeting, and my concern is that I see too much in the current trajectory of economic policy. The Lyndon Johnson/John Connally axis of economic policy making doesn’t seem to me to be a healthy guide.

It might seem like a choice but it never is. The reality is that the modern protest movement and the new age civil rights movement share many of the same motivations of their progenitors 50 years ago. Arguably today’s vintage is less violent than in other generations, because they have additional tools like social media where they have the opportunity to vent their frustrations.

Some officials “may see the foreign-exchange liquidity as a feather in China’s cap, and some may worry that the surge is flighty,” said George Magnus, a research associate at Oxford University’s China Centre. “It’s fine when the flows are coming in, but a big problem for financial stability when they try and go the other way.”

For Magnus, the increase in dollar deposits is “random and most likely temporary,” and will slow when other nations recover from the pandemic.

While it lasts though, the situation offers an opportunity for China to implement reforms and loosen its grip over its tightly controlled capital borders.

“China will take the chance of flush dollar liquidity to make its cross-border flows more balanced,” said Becky Liu, head of China macro strategy at Standard Chartered Plc in Hong Kong. “Policy makers in the coming two to three years will keep widening channels for funds to leave the country.”

China’s accumulation of Dollars as a result of the relative strength of the economy during the pandemic should naturally put upward pressure on the currency. The rally over the last year is at least a partial reflection of that. The big question is how do they loosen capital controls while also discouraging capital flight?

This ratio is often looked at in the bond markets because it can be a lead indicator for yields. The logic is simple enough. Dr. Copper gives us some perspective on the health of the global economy and gold is the ultimate bond so it reflects demand for a safe haven.

At the low in 2020 the ratio tested the lows from 1986/87. The global economy had shut down so demand for commodities collapsed and safe haven surged. Since then, the ratio has trended back up to test the highs of the last decade; with copper floating higher on a tide of abundant liquidity.

“Today’s decision reinforces our belief that the committee will continue providing monetary support through the economic restart,” said Vivek Paul, U.K. chief investment strategist at BlackRock Investment Institute.

Officials led by Governor Andrew Bailey voted unanimously to keep the benchmark lending rate at 0.1% and by 8-1 to maintain the pace of its bond purchases, targeting a cumulative 895 billion pounds ($1.2 trillion) by the end of this year. Chief Economist Andy Haldane, who steps down from the nine-member Monetary Policy Committee this month, pressed for a reduction in the stimulus.

The pound dipped against the dollar and euro after the decision, and U.K. stocks ticked higher. The yield on U.K. government 10-year bonds fell after the decision. Money-market bets on the BOE raising interest rates were also pushed back by two months to August 2022.

“Financial market measures of inflation expectations suggest that the near-term strength in inflation is expected to be transitory,” the BOE said in a statement on Thursday.

That transitory word is becoming progressively more common in the statements of central banks globally. The question in my mind is do central banks create inflation. That is another way of thinking about the monetarist view of the topic.

One history of the Internet — and I'd argue a rather significant one — is the history of the individual's disempowerment, as governments and businesses both sought to monitor and profit from what had fundamentally been a user-to-user or peer-to-peer relationship. The result was the centralization and consolidation of the Internet — the true y2k tragedy. This tragedy unfolded in stages, a gradual infringement of rights: users had to first be made transparent to their internet service providers, and then they were made transparent to the internet services they used, and finally they were made transparent to one another. The intimate linking of users' online personas with their offline legal identity was an iniquitous squandering of liberty and technology that has resulted in today's atmosphere of accountability for the citizen and impunity for the state. Gone were the days of self-reinvention, imagination, and flexibility, and a new era emerged — a new eternal era — where our pasts were held against us. Forever.

Everything we do now lasts forever... The Internet's synonymizing of digital presence and physical existence ensures fidelity to memory, identitarian consistency, and ideological conformity. Be honest: if one of your opinions provokes the hordes on social media, you're less likely to ditch your account and start a new one than you are to apologize and grovel, or dig in and harden yourself ideologically. Neither of those "solutions" is one that fosters change, or intellectual and emotional growth.

The forced identicality of online and offline lives, and the permanency of the Internet's record, augur against forgiveness, and advise against all mercy. Technological omniscence, and the ease of accessibility, promulgate a climate of censorship that in the so-called free world instantiates as self-censorship: people are afraid to speak and so they speak the party's words... or people are afraid to speak and so they speak no words at all...

Even the most ardent practitioners of cancel culture — which I've always read as an imperative: Cancel culture! — must admit that cancellation is a form of surveillance borne of the same technological capacities used to oppress the vulnerable by patriachal, racist, and downright unkind governments the world over. The intents and outcomes might be different — cancelled people are not sent to camps — but the modus is the same: a constant monitoring, and a rush to judgment.

Censorship is not something I thought I would ever write about and yet today we are surrounded by it. It is not so much that the law has changed, but that we find ourselves in a position where speaking one’s mind comes with consequences that can stretch into a lifetime. Most people’s default is to play along to get along so self-censorship is an easy answer. That’s a challenge and it is not easily overcome.

The chasm between tribes who believe in the rightness of their opposite positions is a recipe for continued political polarisation. Politicians continue to contort themselves so they can appeal both to the fringe and the core, so they can win elections.

The Fed announcement is out! Salient features include the following, with the super-hawkish dot plot showing up as the main feature. Lower asset prices is an obvious response:

Dot plot: The 2023 median dot was higher -- a lot higher! Only five members had rates unchanged, and the median is now 0.625% -- higher than anyone was reasonably expecting.
Tapering: The statement retained the reference to substantial further progress
Forecasts: The unemployment rate was forecast at 4.5 in 2021, 3.8 in 2022, and 3.5 in 2023 from 4.5, 3.9, and 3.5 respectively. Core PCE was forecast at 3.0 in 2021, 2.1 in 2022 and 2.1 in 2023 from 2.2, 2.0, and 2.1. The big news here is probably the lower unemployment rate forecast next year, as the PCE forecast adjustment is basically a mark-to-market.
IOER: There was a five basis point hike to 0.15%

Here is a link to the side-by-side comparison to the statement made in April. Raising rates twice in the next 30 months is now considered a shocking development. That conclusion can only be reached if one believed they would never again attempt to normalize policy.

Recessions are supposed to lead to more bankruptcies, and make it harder for companies to borrow. Rises in debt outstanding, all else equal, should increase the risk of bankruptcies down the line. So what has happened in the last 12 months virtually surpasses understanding. French bankruptcies had steadily declined since the brief recession caused by the sovereign debt crisis, while companies took advantage of the dirt-cheap credit that had been engineered to save the euro to refinance and take on more leverage. When the crisis hit, they were then able to borrow far more, while bankruptcies tumbled.

Logic might dictate that an increase in bankruptcies lies ahead. This should mean that debt investors demand a higher yield to compensate them for the greater risk of defaults. In the U.S., this is exactly what has not happened. The spread between the yield on “high-yield” bonds (which might need to be renamed) over five-year Treasury bonds hasn’t been this low since the summer of 2007. And we know what happened after that:

Interest expense is seldom the reason for companies to get into trouble. It’s when large portions of a company’s debt approaches maturity and needs to be refinanced that the potential for trouble increases.

Dry powder Private equity dry powder stands at $1.4 trillion (60 percent of the private markets total) and has grown 16.6 percent annually since 2015. Dry powder stocks are best viewed in the context of deal volume, and as a multiple of average annual equity investments over the prior three years, PE buyout dry powder inventories have crept higher, growing 11.9 percent since 2017. However, normalizing for abnormally high deal volatility in 2020, PE dry powder as a multiple of deal volume remained largely in line with historical averages (Exhibit 21). Dry powder growth reflects fundraising in excess of capital deployment. Its continued growth in 2020 highlights a common misperception among industry participants and pundits: the belief that stocks of dry powder can be deployed quickly in a market correction. While fundraising fell sharply in the first half of 2020 (–22.8 percent relative to the first half of 2019), so too did deal volume (–22.5 percent). Despite the sharp (and short-lived) decline in mark-to-market valuations in the first half of 2020, PE investors were largely unable to take advantage, as private owners exercised a key feature of PE—the right to hold. Without willing sellers, dry powder stocks rose once again, piling pressure on deal multiples, which once again reached all-time highs in 2020.

 A link to the full report is posted in the Subscriber's Area. 

Private Equity is one of the primary destinations for liquidity and the fact that dry powder stands at $1.4 trillion with no easily accessible opportunities or willing sellers is a testament to just how high valuations are.

The Fed’s move away from pre-emptive action in its new policy framework is the most important factor raising the risk that it will fall well behind the curve and be too late to deal effectively with an inflation problem without a major disruption to activity. Monetary policy operates with long and variable lags, and as we have noted, it will also take time to recognize that inflation has actually overshot excessively and persistently. As inflation rises sustainably above target, forward looking expectations are likely to become unanchored and drift higher, adding momentum to the process.

By this point, the Fed will likely be moved to act, and when it does the impact will be highly disruptive to the markets and the economy. In the past, the Fed has not been able to reverse a sustained run-up in inflation without causing a recession and potentially large increase in unemployment. Being behind the curve when it starts will make the event that much more painful. Rising interest rates will also cause havoc in a debt-heavy world, leading to financial crises especially in emerging markets. If the Fed lets up and reverses rate increases in response to rising unemployment and other economic pain as occurred during the 1970s, inflation could back up again, leading to a repeat of the stop-go economic cycles that occurred during that period.

Depending on the timing of this potential inflation scenario, the 2022 midterm elections could be crucial. A surprisingly strong showing on the Democratic side could even pave the way for modifying the Federal Reserve Act to raise the inflation objective. This discussion has been brewing in academic circles for some time, not the least as a way to enhance the Fed’s power to move interest rates into negative territory when needed. But such a move could damage the Fed’s inflation fighting credibility. It could also lead to still higher inflation over time and ultimately intensifying the kind of boom-bust cycle experienced during the 1970s.

In brief, the easy policy decisions of the disinflationary 1980-2020 period appear to be behind us.

A link to the full report is posted in the Subcsriber's Area.

The response to the credit crisis resulted in massive asset price inflation which exacerbated inequality across society in most countries. The response to the pandemic is aimed at reversing that trend and providing greater opportunity to the people left behind by the last recovery. That implies massive money printing, spending and social programs.

Multi-horizon forecast models using statistical analysis have been around for years now, channeling market variables into predictions about how a stock will move over different time periods. The machine-learning techniques introduced in this research will increase the amount of data that can be processed and the potential accuracy of the predictions over longer time periods.

But to make it work, the AI has to be able to process a huge amount of data quickly. The researchers turned to Bristol, England-based Graphcore’s Intelligence Processing Unit, a pizza box-sized chip
designed specifically to handle the demands of an AI program. In the trials, Graphcore’s chip performed about 10-times faster than GPUs.

While the research and the Graphcore chips that make the model possible are the “logical next step” in the high-speed computations that Man Group is interested in, the fund hasn’t committed to rolling it out, Ledford said.

Meanwhile, not every firm would be able to deploy this kind of strategy. “You would not try this model if you did not have access to fast computation,” said Zohren, who worked with Oxford-Man Institute research associate Zihao Zhang on the research.

 

Traders built some of the fastest telecommunications equipment anywhere, to get prices quickly between New York and Chicago. They pioneered colocation and the transition of exchanges into data centres. It is inevitable they will invest heavily in super computers if they believe they can gain an edge in short-term trading.

On November 24th I began a series of reviews of longer-term themes which will be updated on the first Friday of every month going forward. The last was on May 7th. These reviews can be found via the search bar using the term “Secular Themes Review”.

The pandemic panic is now one year in the rear-view mirror. It seems to have lost its ability to scare us so that begs the question what happens next? That’s the big conundrum

Some still believe that technology will solve all our problems and that the largest companies in the world will continue get even larger. Others believe that the inflation genie has been releases so it is inevitable that bonds will collapse in value. Others believe that we are in for a long grind of subpar growth because the debt is so large, it will sap the will to live out of every speculative asset. Others believe we are in a stock, commodity and property market bubble that could pop at any moment. Still other believe that cryptocurrencies are the solution, though no one is exactly sure what the problem is. So how do we make sense of these divergent views?

Personally, I have a strong feeling of déjà vu. In late 1999 and early 2000 I was selling Optus cable connections door to door in Melbourne. When I tired of backpacking, I went to London and within three weeks had started at Bloomberg. I was amazed at the speed of the Royal Mail. I saw an ad in The Times on a Wednesday for European sales people. I posted my CV that afternoon and had a reply back from Bloomberg delivered the next day. I had an interview on Monday and started on Tuesday. To say they were desperate for sales people is a gross understatement. I was in Belgium, visiting private banks, 10 days later. That was the top of the market and it was evidence of a true mania in the TMT (Telecoms, Media and Technology) sectors.

By the end of the Nasdaq bear market in 2003 the number of Bloomberg terminals being sold to mortgage bankers was surging. I was even offered a job by one. The Dollar was pulling back, there were fears about financial repression, China’s demand for commodities was only beginning, emerging markets were breaking out and gold was completing its base formation. A year later oil broke out.

Volume at the Federal Reserve’s facility for overnight reverse repurchase agreements is poised to climb on the last trading day of the month, surpassing Thursday’s record, as global banks pull back on their balance sheet activity for regulatory purposes.

Wrightson ICAP said it’s likely demand for the Fed’s RRP moves above $500 billion level, but will be looking for some pullback in activity on June -- though any dip may be temporary

RRP usage surged to $485.3 billion Thursday, a record since the facility started in September 2013 and up from $450 billion in the prior session

The rate on overnight GC repo opened at -0.01%, according to Oxford Economics. Treasury bills out to September are yielding less than 1.5bp. On the unsecured side, three-month Libor dropped to a fresh record low of 0.13138% from 0.13463% in the previous session

The glut at the front-end has been spurred by the central bank’s ongoing asset-purchase program, commonly referred to as quantitative easing, as well the drawdown of the Treasury’s general account. The latter has been driven by the looming debt-ceiling reinstatement, which is due to take place at the end of July, and the flow of pandemic stimulus funds to taxpayers

Federal relief payments to state and local municipalities are also adding to the oversupply, and that’s being exacerbated as regulatory constraints encourage banks to turn away deposits, directing that cash into money-market funds

There was a lot of concern at the prospect of banks turning away deposits and the impact that would have on money market funds a couple of months ago. Since then, the Fed has acted to support banking operations. Additional supports are now going to be required to ensure money market funds do not see negative yields. That may require stepping up asset purchases in an effort to mop up excess liquidity.

The pandemic purchases were ramped up in March when the U.S. rebound was fueling a global rise in borrowing costs while the euro zone was in a double-dip recession. The ECB will unveil new economic projections that should confirm a far brighter outlook as vaccinations pick up.

A European Commission report on Friday showed economic confidence in May at the highest level in more than three years as restaurants, hotels and shops across the region start to reopen.

Yet in a sign that the recovery remains fragile, French data on Friday came in much weaker than expected. Consumer spending fell 8.3% in April from the previous month, more than twice as much as forecast, and first-quarter gross domestic product was revised to show a decline. Finland also posted an unexpected contraction.

Over the past few decades there have seldom been times when European equities outperformed the S&P500. The equity cult in the USA is much stronger than elsewhere which creates demand for domestic growth stories. The presence of strong consumer brands, companies with long histories of paying and increasing dividends, the ready supply of new exciting stories from Silicon Valley and the largest consumer base in the world means Wall Street has tended to outperform.

“In that scenario, the first rise in Bank Rate is likely to become appropriate only well into next year, with some modest further tightening thereafter,” he added.

The government’s furlough programme, which pays the wages of more than 2 million workers, does not expire until Sept. 30 and Vlieghe said it would take time for the true health of the economy until early in 2022.

If unemployment in the first quarter of 2021 was low and upward pressure on wages stronger then than the BoE expected, “a rise in Bank Rate could be appropriate soon after, along a slightly steeper path than in my central case,” Vlieghe said.

However, if concerns about COVID infection risks persist - possibly as a result of new variants of the disease - higher unemployment could prove persistent and the economy might need more BoE stimulus. (Reporting by David Milliken and Andy Bruce)

Dominic Cummings and his lengthy testimony in front of Parliament are making headlines today but crowds have short memories.

Psychologically, we tend to remember a whole experience by how we feel at the end. Christmas is a good example. All of the preparation, decoration and rushing around are worth it because of the positive experience at the climax of the festival.

Eoin, congrats for your most recent calls on crypto etc. well done! You were showing a chart re value over growth outperformance and that it could go on a little longer. What in your view is the best way to play it? iShares ETF value long and short iShares growth? Tkx a lot and keep, up your good work! Dani

Thank you for your kind words and the general pattern of outperformance in value is certainly noteworthy. Low interest rates favour growth at the expense of value because expectations for future potential are stretched to the point of incredulity the longer an easy money regime persists. When interest rates change direction the enthusiastic outlook for valuations is harder to justify and the relative attraction of reliable earnings is burnished.

Consider a car manufacturer with $100 billion in sales. A 10% decline in sales volume would push earnings before interest and tax down by 40%, the Boston Consulting Group has estimated. That's an optimistic scenario — and this analysis assumed the company could eliminate all variable costs such as raw materials and labor. In the current situation, that’s not quite possible.

No doubt, carmakers could digest the rising cost of production a bit longer by reducing incentives and discounts they’ve used to lure buyers. But that's already been happening in the world’s largest auto markets, the U.S. and China, and you can’t trim back enticements forever. 

Companies have few options to offset creeping manufacturing expenses. With prices already high, consumers aren’t going to be as liberal with their wallets. So far, they have been willing to
accept a 12% premium, or around $5,000 over the sticker price, according to Kelley Blue Book and Cox Automotive. But a U.S. vehicle affordability index has started ticking down, signaling people are beginning to think twice before splashing out. Almost 40% of those who were going to buy cars have now put off their purchases. 

The challenge for consumers is prices rarely go down after they go up because companies pocket margin. That’s as true of cars as it is of every other product. The additional premium companies are no enjoying will help as they redeploy resources towards developing electric replacements for their biggest sellers. That was going to happen anyway so in many regards the current go-slow on production is being welcomed by manufacturers.

For the solar industry, the timing couldn’t be worse. Renewable energy finally has a champion in the White House and ambitious climate goals have been announced across Europe and Asia.

At the center of the crisis is polysilicon, an ultra-refined form of silicon, one of the most abundant materials on Earth that’s commonly found in beach sand. As the solar industry geared up to meet an expected surge in demand for modules, makers of polysilicon were unable to keep up. Prices for the purified metalloid have touched $25.88 a kilogram, from $6.19 less than a year ago, according to PVInsights.

Polysilicon prices are expected to remain strong through the end of 2022, according to Roth Capital Partners analysts including Philip Shen. 

And the problem isn’t limited to polysilicon. The solar industry is facing “pervasive upstream supply-chain cost challenges,” panel manufacturer Maxeon Solar Technologies Ltd. said in April.

This is just one more sector facing medium-term supply disruption. The clear conclusion is when we look around the world there is too much money chasing too many goods and services. The big question is how long will it take for this inflationary bias to become anchored in the minds of consumers?

The Reserve Bank’s hawkish stance is likely to draw criticism from politicians and labor unionists, who say it should be doing more to support the economy and reduce unemployment that’s at a record high.

The central bank cut the key rate by 300 basis points last year. Its contribution to an economic recovery will now be predictable policy, according to Deputy Governor Kuben Naidoo.

“You need low, predicable rates during the recovery to support economic activity, to encourage people to lend, to encourage businesses to invest,” he told reporters. “That’s the contribution of the SARB during a crisis.”

South Africa has joined the ranks of countries signaling the lows for rates are in. Interest rate differentials are once more a factor in how currencies are valued. Commodity exporters are leading this trend because of their much-improved balance of payments and that is true of both emerging and developed markets.

Bitcoin is now down more than 50% from its record of almost $65,000 set in April. Fueling the volatility is Tesla CEO Elon Musk, whose social-media utterances have whipsawed the crypto community. A statement from the People’s Bank of China on Tuesday reiterating that digital tokens can’t be used as a form of payment added to the selloff.

The selloff dominated market chatter on a day when equities also were tumbling and the Federal Reserve was set to release minutes from its latest meeting. #Cryptotrading was trending on Twitter, where critics and fans alike were in a tither over the rout. Critics had warned for weeks that the moves in crypto assets were unsustainable and that any sign of a selloff would lead to a rout.

“This is going to be the first ‘welcome to crypto’ day for a lot of new entrants,” said Stephane Ouellette, chief executive and co-founder of FRNT Financial. “The history of these assets has been littered with aggressive rallies and sickening selloffs.”

The biggest question for the wider investment community is “who are the new entrants to crypto?”. There are two large new groups of investors. Retail investors, flush from US government stimulus checks, bought cryptos in size in the first quarter. Institutional investors, desperate for an “uncorrelated asset” also jumped in and helped fuel the appreciation in value to $1.9 trillion for the entire crypto sector at its peak.

But Robert Alster at Close Brothers Asset Management warned of a divide between industrial economies in the north and tourist-reliant nations in the south, despite the start of UK tourism to Portugal. This could spark a return to the two-speed Europe which raised questions over the stability of the bloc after the financial crisis.

Mr Alster said: “The risk now is that the north/south divide continues to widen. Germany’s economic growth is not far behind the UK’s, with its vaccination programme set to overtake, whereas Spain’s economy has been hardest hit,” he said.

“The northern countries have benefited from strong manufacturing growth, with the US and China driving global demand, whereas the Southern countries are on tenterhooks to see whether the European tourism season can go ahead.”

Two consecutive quarters of contraction mean the currency area is officially in recession again, despite not fully recovering from the initial shock of Covid.

GDP remains more than 4pc below its pre-pandemic peak at the end of 2019.

Employment fell by 0.3pc in the first quarter of 2021, meaning the number of people in work is still almost 3.6m below its pre-Covid level.

Jack Allen-Reynolds at Capital Economics said the jobs market should soon start to recover too, but that the rebound in hiring will probably be quite slow.

He said: "Many firms will be able to raise output by increasing employees’ working hours before they start taking on more staff."

Europe and the USA adopted very different methods of supporting the economy during the pandemic. The USA favoured giving direct support to workers by boosting unemployment benefits. Europe favoured supporting companies so they would not fire large numbers of workers. Both sets of policies have resulted in unintended consequences.

Earlier, gold was buoyed by signs that money managers and exchange-traded fund investors are turning more positive on the precious metal
Gold spot price was up as much as 1.3%, silver +2.8% intraday; U.S. Dollar Index (DXY) fell as much as 0.2%
Precious metal miners intraday gainers include HL which rose as much as 15%, EDR CN +11%, GGD CN +11%, CDE +8.9%, FR CN +7.4%, K CN +6.1%, FVI CN +6.5%
Goldman said in a note that “gold tends to perform well when realized inflation is elevated and rising, while the dollar suffers, especially as the Fed stays on hold”
Meanwhile, copper miners also got a boost as price climbed on Monday, lifted by concerns of supply disruptions in Chile and signs that Chinese demand is picking up
Some of the copper/base metals miner that gained intraday include TKO CN, FCX, FM CN
TECK also gained, which was partially helped by rise in coal equities on higher natgas prices

Negative real interest rates are the primary secular tailwind for gold prices. With inflationary measures ramping higher and central banks reluctant to raise rates, the negative real interest rate environment is being supported by that policy.

You say that India has a significant demographic tailwind, taking the consensus view that that is an investment plus; one that is embedded in so many analyses on India. For a challenge to this listen to the Meb Faber interview with Vikram Mansharamani, 50 minutes in for 5 minutes, on his take on India and why in fact the demographics are a head not a tail wind: https://www.youtube.com/watch?v=cM40JZ3NSNk&t=30s

Thank you for this link and the discussion raises a large number of questions. There are two that I think are particularly relevant. The first is on the assumed ubiquity of the bullish India story and the second is the continued dominance of capital over labour.

McDonald’s Corp. announced Thursday it will raise hourly wages by about 10%, bringing the average wage at its restaurants to more than $13 an hour. Chipotle Mexican Grill Inc. said earlier this week it will set hourly starting wages at $11 to $18. Target Corp. and Costco Wholesale Corp. have increased theirs to $15 and $16, respectively.

McDonald’s is hiring 10,000 new employees at its company-owned stores over the next three months alone, and Walmart Inc. brought half a million people on board last year. Chipotle is hiring 20,000 workers across the U.S., and Target needs workers for the 30 to 40 stores it will open this year.

Amazon.com Inc. also upped the labor market ante Thursday by announcing plans to hire 75,000 people in the U.S. and Canada at starting pay that will average more than $17 an hour. New employees will get hiring bonuses of $1,000 and those fully vaccinated for Covid-19 will get additional $100.

The year over year change in average hourly wage growth has been massively distorted by the pandemic. It surged in 2020 because fewer people were working, and those that were got pay rises. It then plummeted to historic lows because the current growth is on par with what was witnessed a year ago.

Today, there’s ample reason to expect a positive term premium to return. For one, the Fed has a new, more patient monetary policy stance. As a result, inflation will be higher and more variable — a risk that must be compensated with higher long-term yields. Also, keeping inflation in check will require a higher peak fed funds rate, reducing the risk that the Fed will again get pinned at the zero lower bound. Beyond that, deficit financing is expanding the supply of government bonds: Treasury debt outstanding has quadrupled since 2007, and the Biden administration is seeking to add several trillion dollars more. Meanwhile, one big source of demand for the bonds is set to dwindle as the Fed phases out its asset purchases, most likely next year.

Putting the pieces together, one can expect a 10-year Treasury yield of at least 3%: The 2.5% floor set by the federal funds rate, plus a term premium of 0.5% or more. But that’s not all. The Fed says it wants inflation to exceed its 2% target for some time, to make up for previous shortfalls. This, in turn, could stoke inflationary fears and lead markets to expect a higher path for future short-term rates. As a result, the 10-year Treasury yield could more than double from the current 1.6%. And if persistent deficit financing prompts concern about growing U.S. debt, the yield could go to 4% or higher.

Anyone who has been in finance for less than a decade has rarely seen 10-year Treasury note yields above 3%. So what’s coming could, for many, be quite a shock. The secular bond bull market that began nearly 40 years ago is finally ending.

US job openings now far exceed the pre-pandemic peak. At the same time credit card balances are declining even as debt loads are increasing. Meanwhile the unemployment rate is holding at 6%.

The conclusion is simple. Households are buying capital goods like houses and cars, that do not require credit cards, because they are flush with cash. Companies are desperate for workers, but unemployed people are in no hurry to take up offers. The reality is the stimulus enacted in the first quarter was overly generous and has created economic disincentives. It exacerbated bottlenecks and enhanced consumer perceptions of rampant inflationary pressures.

The widening gap between CPI and PPI “suggests an uneven recovery of the economy,” said Raymond Yeung, chief China economist at Australia & New Zealand Banking Group Ltd. “Despite the commodity boom, the service sector has yet to catch up.” 

Wages are lagging and the central bank will likely keep its policy stance “largely neutral,” he said. The People’s Bank of China is seeking to scale back the stimulus it pumped into the economy during the pandemic last year, worried by the build up of debt. Economists expect policy makers to slow the pace of credit expansion rather than raise interest rates. The Communist Party’s Politburo, China’s top decision-making body, said last month there won’t be any sharp reversal of macroeconomic policies. China aims to keep consumer inflation at around 3% this year, but an NBS official said in a recent interview that the headline index is expected to be “significantly lower” than the official target in 2021.
 

China exported deflation to the world by producing goods at lower prices than anywhere else for years. The interconnectedness of the global economy means that if inflation does return as a trend, it will not only occur in one country but will be a global phenomenon. That suggests the world’s relationship with China and what happens inside China will have a strong bearing on the outlook for longer-term inflation.

On November 24th I began a series of reviews of longer-term themes which will be updated on the first Friday of every month going forward. The last was on March 5th. These reviews can be found via the search bar using the term “Secular Themes Review”.

After a crash everyone is wary. We all seek to learn lessons from our most recent experience because it is the only way to help us emotionally move past the trauma. Coming out of the pandemic most investors wished they had sold everything at the first sight of virus news in early 2020 and bought everything back again following the crash. Today they are worried that there is another big shock waiting around the corner that will cause a repeat of pandemic panic.

The challenge for investors is less to learn from the most recent mistake but rather to know when to deploy the lessons learned. The best time to be wary about a massive decline is when no one is worried about it. The time to take precautionary action is when it seems like a waste of time and when you are most afraid of giving up on the potential for even better gains. That’s the best time to remember the experience of the crash but the interval of time and the positive reinforcement of experience in an uptrend make it difficult.

“It may be that interest rates will have to rise somewhat to make sure our economy doesn’t overheat,” Yellen, a former Federal Reserve chair, said in an interview with the Atlantic recorded Monday that was broadcast on the web on Tuesday. “It could cause some very modest increases in interest rates.”

Investors relying on momentum want to hear that the money will keep flowing and there is no risk the punchbowl will be taken away. Whenever that desire is fulfilled, we see the stock market climb to new highs. However, when it is even modestly questioned it is cause for profit taking.

Michael Schacht, 70 years old, is a typical German saver. Risk-averse, the clothing-shop owner kept the equivalent of $300,000 in a local bank in a small town near Hamburg.

Then, earlier this year, Mr. Schacht’s bank told him it wanted to charge him a negative 0.5% interest rate to hold his money.

Furious, Mr. Schacht did something he never considered: He put it all in the market. His portfolio includes investments in stocks and corporate bonds from Europe and elsewhere through funds, plus gold and silver.

“I don’t want to make lots of money, I just want a low-risk investment that provides a reasonable return on capital, like 2%, 4%,” Mr. Schacht said. “That has always been realistic in the past.”

This is an example of how investors are being forced to speculate. Negative interest rates are an obvious tax on savers so they have no choice but to buy riskier assets. It is a choice between guaranteed modest losses or potential gains with the added scope for bigger losses.  This is particularly acute in places like Germany where retail investors don’t generally invest in the stock market.

I have been a subscriber to your service for over 20 years, probably closer to 30 years. I am very satisfied with your service, and am one of your great admirers. I was surprised though how certain you sounded on the future of money and digital currency on Friday's audio. Do you really think that the current monetary system will change drastically and that digital currency will be the main currency in the future? What will be your guess as to how long will it take to have that kind of change? Once again thanks a lot for the excellent service. 

Thank you for your patronage over the decades and this question which may be of interest to the Collective. The world is awash in debt and the total continues to rise. Governments are running wartime-like deficits and spending plans continue to be revised upwards. Nothing has occurred to change the trajectory of policy. Whenever the next crisis occurs central bank balance sheets will multiply in size again.  

EBay Inc. warned investors that its sales boost tied to the pandemic and government stimulus checks may be coming to an end.

Shares tumbled as much as 7% in extended trading Wednesday after the online marketplace issued a revenue forecast for the current quarter suggesting spending on the site could recede as more people get vaccinated, businesses reopen and stimulus checks dry up.

Investors are watching to see which companies can build on their pandemic gains and which will fade. Google parent Alphabet Inc., Facebook Inc. and Shopify Inc. all hinted at lasting momentum in their earnings reports this week, sending their shares higher. EBay joined social media platform Pinterest Inc. as a potentially short-lived pandemic phenom.

“This is a relative challenge for EBay to not be able to fully hang on to the gains from the pandemic,” said Ygal Arounian, an analyst at Wedbush Securities Inc.

Rebounding consumer behaviour, renewed hiring and generous handouts have boosted earnings for all manner of consumer companies in the first quarter. That has been particularly true for the mega-caps with Apple, Google, Facebook and Microsoft all posting impressive results.

The fact that about half of people are better off unemployed than working has also helped to boost consumption of goods in particular. Those benefits will expire in September so there is still room for revenue support absent the spikes associated with stimulus cheques. 

Before the pandemic, economic growth was decelerating as confirmed by a decline in world trade in 2019, one of the few yearly declines in the history of this series. While the huge debt financed programs were a response to the pandemic, the end result is that global nonfinancial debt increased to a record 282% of GDP in 2020. The 37% surge of debt relative to GDP was also a record. While this debt may be politically popular and socially necessary, it will weaken growth and inflation after a transitory spurt, which will lead to even more disappointing business conditions than existed prior to the pandemic.

The actual global debt situation may be worse than these numbers indicate because they include China, the world’s second largest economy. Scholarly forensic research indicates that Chinese GDP is overstated by at least 18%. Thus, the official Chinese debt to GDP ratio is suppressing the global numbers. A comparative analysis of money velocity confirms the suspicion about the Chinese figures. Money velocity in China in 2020 was 0.44 versus 1.19 in the U.S. Admittedly money and debt are not identical, but they are opposite sides of the balance sheet and the glaring gap is too much to be ignored.

A link to the full report is posted in the Subscriber's Area.

Something that has been troubling me for a while is why has China chosen now as the time to clamp down on Alibaba and Ant Financial’s massive money market fund. The rationale that it was politically motivated and that the firm has become too big and powerful for the comfort of the Communist Party is tempting and probably holds some truth. However, the bigger question is whether the financial system needs to reabsorb the flows and be refortified because the debt overhang is much larger than investors are willing to give credence to?

Houses have rarely been more expensive relative to earnings than they are today in more than 120 years. Prices are stretched everywhere but London and the south of England stand out. Things look even less affordable for women.

The last time there was a sustained decline in the house price-earnings multiple was the second half of the 19th century. Average house prices fell for more than 50 years thanks to substantial building of houses, many of which were smaller than existed before. At the same time earnings rose.

How likely or even desirable would that be today? The UK’s heavily mortgaged consumers would struggle to cope with 50 years of falling house prices. It would also be political suicide for whoever was deemed responsible. A shift towards the building of smaller houses would also seem unlikely  – research has found that houses are smaller today than at any point since at least the 1930s[1]. Hobbit homes cannot be ruled out entirely but I’m not sure how positive an outcome that would be.

Which leaves us with earnings. Earnings growth has been weak since the financial crisis but has recently picked up strongly – average earnings in the final quarter of 2020 were 4.7% higher than the same period of 2019. A period of stronger pay growth may represent the best hope of improving affordability (with the caveat that stronger earnings may result from a stronger economy which could result in a stronger housing market).

The elephant in the room here is interest rates. A Bank of England working paper[2] concluded that nearly all of the rise in average house prices relative to incomes between 1985 and 2018 can be seen as a result of “a sustained, dramatic, and consistently unexpected, decline in real interest rates as measured by the yield on medium-term index-linked gilts”[3]. The Bank doesn’t rule out other factors, but concludes that they have had more of a short-term impact. It furthermore concludes that: “An unexpected and persistent increase in the medium-term real interest rate of 1 percentage point from its level as at end 2018 could ultimately generate a fall in real house prices (over a period of many years) of just under 20%.”

However, depending on whether you are a current home owner or a prospective buyer, you are likely to be encouraged and discouraged in equal measure by the Bank of England’s scepticism that this is likely to materialise. Just because house prices are expensive relative to earnings does not mean there is a good reason to expect them to cheapen materially.

The view that property is a better investment than stocks has grown considerably in the UK because the FTSE-100 peaked in 2000 and has spent the last twenty years ranging in a volatile manner. Against that background investing in property has been the right decision regardless of the costs of maintenance and taxes. The big question for investors is whether that will continue to be the case.

Summing up our findings, the great historical pandemics of the last millennium have typically been associated with subsequent low returns to assets, as far as the limited data allow us to conclude. These responses are huge. Smaller responses are found in real wages, but still statistically significant, and consistent with the baseline neoclassical model.

Measured by deviations in a benchmark economic statistic, the real natural rate of interest, these responses indicate that pandemics are followed by sustained periods—over multiple decades—with depressed investment opportunities, possibly due to excess capital per unit of surviving labor, and/or heightened desires to save, possibly due to an increase in precautionary saving or a rebuilding of depleted wealth. Either way, if the trends play out similarly in the wake of COVID-19 then the global economic trajectory will be very different than was expected only a few months ago.

Should we expect declines of 1.5%–2% in the real natural rate, however? There may be at least three factors that could possibly attenuate the decline of the natural rate predicted by our analysis, but their presence and magnitude is uncertain and unknowable until therapies to fight COVID-19 are more developed. First, the death toll of COVID-19 relative to the total population might be smaller than in the worst pandemics of the past, but we cannot know for sure at this point. Second, COVID-19 primarily affects the elderly, who are no longer in the labor force and tend to save relatively more than the young, so the demographic channels could be altered, although the recent pick up in infections is now affecting younger individuals. Third, aggressive counter-pandemic fiscal expansion will boost public debt further, reducing the national savings rate and this might put upward pressure on the natural rate, even though our analysis suggests that this expansion of public debt should be easier to sustain in the long-run.

This report has obviously helped to inform the view of the Fed in how they expect the path of interest rates to play out. They are worried that the rebound from the pandemic will not translate into a sustained path of outsized growth because of the damage done to the economy and animal spirits will take time to overcome.

The stock market has rallied impressively over the last couple of months on enthusiasm about reopening and the growing conviction that the Federal Reserve is serious about not raising interest rates any time soon.

Hedge funds are snapping up 10-year Treasury futures, and no other maturity, presenting a puzzle. The answer may lie in the collapse of a popular carry trade last year.

The highly-leveraged basis trade involved going long cash bonds and selling futures, to profit from the difference between the two, but came asunder in March 2020 when investors stampeded to buy the latter at the peak of coronavirus fears and upended the spread. Now the gap -- the so-called gross basis -- has reversed and favors shorting cash bonds and buying futures.

Of course, it’s not quite that simple. In futures markets, the counterparty who is short determines which specific cash bond traders have to deliver, adding another element of risk to the transaction. But with so-called ultra 10-year Treasury futures, there are only two bonds in the delivery pool, limiting that risk compared to other contracts.

That could be one reason why leveraged funds have built up net-long positions of almost 230,000 ultra 10-year futures, despite this year’s Treasury market slump, according to the latest data from the Commodity Futures Trading Commission. As for the original strategy -- there are no signs of it returning anytime soon.

While returns from this year’s trade are much lighter, a play based on 10-year ultra futures is most attractive, according to one trader who asked not to be identified as he isn’t authorized to speak publicly.

Cash Bond Pressure
A sense of how the cheapest-to-deliver 10-year Treasury bond has performed against futures can be seen in the implied repurchase rate for the note. It flipped from positive to negative in the first quarter, indicative of greater selling pressure on cash bonds than futures.

“With the sudden and significant rates selloff in late February, Treasuries came under pressure, underperforming futures quite noticeably,” wrote Morgan Stanley’s Kelcie Gerson in a note this week. “On an outright level, futures/cheapest-to-deliver bases reached the widest levels seen since last March/April.”

Across the rest of the Treasuries curve, hedge funds hold net short positions, though well below last year’s levels after the collapse of the original basis trade.

Market
A gauge of aggregate leveraged fund short futures positions -- which would likely be mirrored by long cash bonds in a basis trade -- has dropped by over $300 billion since last year’s February peak, according to calculations by Bloomberg.

Repositioning in the sovereign bond markets gathered pace today with a high degree of commonality across the sector. This above narrative highlights how quickly positions can be unwound when the trend changes and it represents a potent source of short covering activity.

“We consider that both fiscal and monetary support are needed and will be needed until the pandemic crisis is over” and “will be needed well into the recovery,” ECB President Christine Lagarde says at Reuters event.

Preserving favorable financing conditions is a condition for the economy to recover -- “they go hand in hand”

The question is not whether the ECB will provide assistance but rather how much. The spectre of deflation has been hanging over Europe for most of the last decade and there is a credible argument the region is heading into a Japan-like era of lower consumption and low growth. Avoiding that potential is the primary goal of both the ECB and every Eurozone government.

The big question now confronting investors is how much pain China’s government is willing to tolerate as it tries to wean the bond market off implicit guarantees. None of the state-owned companies that have defaulted so far -- including Peking University Founder Group Corp., which is ultimately controlled by China’s education ministry -- were considered as systemically important as China Huarong.

Chinese authorities have tried to strike a balance between instilling more market discipline and avoiding a sudden loss of confidence that might spiral into a crisis. But the tumult surrounding China Huarong, some of whose bonds are now trading below 80 cents on the dollar, highlights how quickly investor sentiment can deteriorate even at a time when the economy is strengthening.

“China’s credit market is entering a new era as SOEs are emerging as the main source of stress,” said Shuncheng Zhang, an analyst at Fitch Ratings. Whatever the outcome for China Huarong, policy makers will likely allow more defaults in the state sector to reduce moral hazard and cultivate a more mature debt market, he added.

Huarong was created as a bad bank, where the defunct loans of China’s banks were dumped 20 years ago. The generally accepted business model for these kinds of entities is they end up with hard to value assets and are given the time required to sell them at profitable rates. That’s how Ireland’s bad bank functioned in the aftermath of the Global Financial Crisis for example. The fact that Huarong is now running into trouble is reflective of the fact that it long ago departed from its bad bank foundation to imitate the business model of the banks it was designed to clean up.

“Each part of the supply chain has different issues,” said Brooks Mendell, chief executive officer of forest-supply researcher Forisk Consulting in Georgia. “There is not a sawmill that I have talked to in two years that has all their slots filled.”

This is a big turnaround from just two years ago. In 2019, weak demand prompted a steady stream of output reductions and mill closures from companies including Canfor Corp. and West Fraser Timber Co., the world’s biggest lumber supplier. That left producers flat footed amid the unexpected demand boom as the pandemic kept people indoors, sparking a wave of do-it-yourself upgrades, full-scale renovations and purchases of bigger homes.

When demand held strong throughout the winter, typically a seasonal lull, mills didn’t have time to replenish their inventories. Now, stockpiles are “extremely lean” as North America heads back into peak building season and lumber prices will stay high “for the foreseeable future,” Devin Stockfish, the CEO of Weyerhaeuser Co., said last month.

Lumber futures have more than tripled since the pandemic started, touching an all-time high of $1,157.50 per 1,000 board feet on Monday.

The mountain pine beetle infestation has been a growing problem for more than a decade but production cuts, the closing of mills and lack of a skilled workforce are more immediate problems. The only way to encourage more workers into the sector is to offer higher wages. That suggests we have seen a step change in the price of lumber and the breakout will be sustained in just the same way as it was in 1993. 

There is one theme that seems to be running through every asset class at present. Perhaps it is because we have been locked up for a year, and literally can’t wait until it is all over, but there is a distinct air of impatience in every circle of life. The pandemic has accelerated the decision-making process for everyone in every facet of our lives.

Mrs. Treacy and I have been discussing moving from Los Angeles for two years but there was never a push big enough to stir us into action. We looked at Las Vegas suburbs in 2019 and toured schools but my eldest daughter was accepted into one of the most prestigious high schools in Los Angeles, so we decided to linger.

The experience of living in Los Angeles during the lockdowns, from schooling to public safety, made us impatient for a change. Like many others we decided to move and have only been delayed by reapplying to schools for our daughters and finding a suitable home.

I came across this article (attached) about a new British company that has recently listed on the Nasdaq. Big questions about whether it can succeed, but it's an interesting take on the possible future of local manufacturing, and not just for vehicles. If successful, it could presumably have an impact on the issues of on-shoring, local community development and not to mention the ESG sector.

 

Thank you for this email and the attached article from the Times. Here is a section:

One reason why the prediction is more convincing this time can be found on an industrial estate in Oxfordshire. Arrival will start producing electric vans at its first small plant outside Bicester soon in what the company believes will be a turning point for global manufacturing. Avinash Rugoobur, the former General Motors executive who is Arrival’s chief strategy officer, says that not only the motor industry will be watching closely. “Many other industries will say: ‘If Arrival can do it in automotive, why can’t we do it in our sector?’ ”

Valued at about $10 billion after its recent flotation on Nasdaq, Arrival has been working for five years on the necessary technology. Denis Sverdlov, its founder, a Russian telecoms tycoon and former government minister, believes that using highly automated small plants can be dramatically cheaper than traditional large factories. A decentralised model also should reduce carbon emissions and deliver big economic benefits to the microfactories’ communities thanks to localised supply chains.

To apply this approach to vehicles has required a fundamental redesign of the products. Arrival makes its bodies from coloured composite materials, doing away with the metal pressing and painting that take up much of a traditional car plant. Although Arrival makes some use of 3D printing, Rugoobur says that “3D printing can be an enabler of decentralised manufacturing, but is not the only way of getting there”.

During the pandemic, many of these techniques were used by British companies to produce personal protection equipment and medical components when supplies from China were interrupted. In addition to fears about the resilience of supplies, companies have been worried about rising wages in China and the rising costs of transport. The Suez Canal snarl up has heightened concerns. At the same time, many western governments have said that they want to build up domestic manufacturing in critical industries, a resolve only strengthened by the vaccine wars.

Hi Eoin, I am shocked that the US is attempting to get agreement on a global minimum tax. If I replace Yellen's speech with any global industry the same reasons would be justified to fix pricing which is clearly illegal. Why is no one challenging the legality of this or at least criticizing the move based on this premise? Kind regards, TG

Thank you for this email which may be of interest to the Collective. When it comes to agreements between countries there are few limits on what is possible given sufficient will. The barrier to agreement on taxation is probably lower than it is for incentives and supports because governments are broke and hungry for revenue.

Governments are curtailed from rising individual taxes or cutting back on social services because of the threat of social unrest. The rise of populism on both sides of the political spectrum is a direct consequence of the response to the credit crisis. It is the number one unintended consequence of pushing private sector debts onto unsuspecting populations. 

I am a little concerned, that Bill Ackman is shorting the market and Ray Dalio and Michael Burry have predicted a market collapse. Burry recently went on record to confirm this prediction.

You have not mentioned Margin Debt for a while and my further concerns are that despite Margin Debt officially being at an all-time high - the ArchEgos scandal has demonstrated that perhaps not all of the margin debt is recorded as some hedge funds are circumventing the need to record their position by using prime banks to hold assets for them.

RLB

PS Best wishes to you and your family.

Thank you for your kind words and for this email which helps to elucidate the very real concerns of a large swathe of the market. Just over a year ago the market crashed. The decline was unlike anything we’ve seen before because it was unrelenting in its severity. Even during the crash of September/October 2008 there were weeks when the market rallied.

That did not happen in 2020. Between late February and March 24th, the S&P500 failed to rally for two consecutive days. Fear permeated market and it had a long-lasting impact on sentiment. Even today people are afraid of a repeat of this unrelenting selling. However, it would be extremely unusual to see another 35% drawdown a year after the last one.

Gold advanced to the highest in more than a week as gains in bond yields and the dollar abated.

Treasury yields edged down from a recent high, increasing the allure of bullion, which doesn’t earn interest. The dollar gave back early gains, making gold more appealing to investors holding other currencies. The ebb is taking place even as positive economic data shows rapid growth for U.S. businesses and jobs.

That’s “good news for gold,” according to Commerzbank AG analyst Carsten Fritsch.

Gold has been under pressure this year because of increasing optimism over the post-pandemic economic recovery in the U.S., which buoyed bond yields and the dollar. Investors fled bullion-backed exchange-traded funds, a major pillar in gold’s ascent to an all-time high last year, with holdings in ETFs dropping to the lowest since May.

It is not a coincidence that gold and Treasury bond prices peaked within a day of each other in August. As bond prices have declined, they have taken gold with them. The strong correlation between the two assets has raised all sorts of questions for gold investors. Let’s try and answer some of them by looking at flows.

On November 24th I began a series of reviews of longer-term themes which will be updated on the first Friday of every month going forward. The last was on March 5th. These reviews can be found via the search bar using the term “Secular Themes Review”.

The pandemic has been an accelerant. The full ramifications of what that means are becoming increasingly clear.

The pandemic took trends that have been in evidence for a while and exaggerated them. At the same time, it introduced new challenges which require new solutions.

Corporations operating without the safety net of cash on the balance sheet has been a feature of the markets for decades too. They continue to be bailed out when they get into trouble. There is no evidence that the trend of using all available means to buy back shares has ended. In fact, buybacks are back at pre-pandemic levels. Companies were touting “resiliency” last summer. It appears to have been just talk. Buybacks represent a powerful tailwind for stock markets that were absent for much of 2020 but are now back in force. 

A major undercurrent through the infrastructure plan is addressing inequality and expanding help for segments of society that the administration judges have been left out in the past. For example, in addition to fixing the “ten most economically significant bridges in the country in need of reconstruction,” there’s $20 billion for a new program that will “reconnect” neighborhoods that were cut off by past investments, such as the I-81 highway in Syracuse, New York. And all lead pipes will be replaced, to address water-quality issues.

$2.25 trillion is still a lot of money and if it passes it will represent a significant additional surge of liquidity through the economy. At a minimum that will help to spur commodity and building materials demand growth over the next decade.

After Greensill and Archegos, where next? The GCC of 2008 cleaned up the banks and the Tech Bust of 2000 cleaned up non-earning tech. Leverage always lies hidden somewhere, and rising interest rates usually make the best assassins. But where's the leverage this time? Tech + Leveraged Product Roll Out? Can we put together a list of leveraged companies and sectors that will make the headlines in 2021 and 2022 as 10-year yields breach 2% and beyond? Keep up the excellent work.

Thank you for your kind words and this question which may be of interest to other subscribers. The Global Credit Crisis decapitated the banking sector and many of the tech champions of the 1990s disappeared. Both crashes exposed massive leverage and egregious abuses. The first challenge is to identify the sectors where leverage is concentrated and then what are the potential catalysts to unwind those positions.

The rush of interest in listing via SPACs is an obvious area to begin searching. Many private companies eschewed listing for years because they had no need to seek funds in the public markets. They are now eager to list because their backers want to exit while there is still time. Softbank’s wake-up call with WeWork was the catalyst for much greater interest in IPOs.

The company disclosed to prospective investors it had lost about $3.2 billion last year, the Financial Times reported earlier this week. The documents also show that occupancy rates fell to 47% at the end of 2020, down from 72% at the start of the year, before the pandemic hit, according to the newspaper.

In the interview in January, Claure argued the pandemic was helping WeWork. He said the work-from-home situation benefits the company and would continue to do so as people return to the workplace. “This is where WeWork suddenly becomes an incredible value proposition,” he said. “New habits have been developed during this pandemic.”

Mathrani will continue to lead the company after the deal. Vivek Ranadive of BowX and Insight Partners’s Deven Parekh will join the board.

BowX Acquisition Corp. is managed by Ranadive and Murray Rode, both former executives at TIBCO Software and co-founders of venture firm Bow Capital.

How a global work-from-home trend can be positive for a company that offers office space is beyond me. That’s particularly true for start-ups for whom rising yields represent a challenge in raising capital.

The Bank of Canada is seeing enough progress in the economy that it feels it can begin reducing outdated programs, as well as slowly begin to remove some of the considerable stimulus in the system. There should not be too much impact from the cessation of select market functioning facilities directly. The bigger news today is the strongest signal yet that the Bank is ready to conduct a taper, and begin ‘right sizing’ the QE program. This is also the first time we have been shown what the future sequencing looks like, which is: i) taper to a net-zero purchase profile; ii) enter a reinvestment phase, and; iii) normalize rates. The best trades to take advantage of this are micro in nature, though also put ‘bigger’ macro trades like receiving 2yr-to-4yr forwards versus the U.S. at risk.

As we exit the pandemic the approach being adopted by central banks to the respective challenges in their countries will help to inform us on what to expect from the late starters. Since Canada is about to begin tapering in April how the bond, currency and stock markets perform may offer a foretaste of what a taper will eventually look like in the USA and elsewhere.

So today’s high asset prices may be justified at today’s interest rates, but that’s clearly a source of vulnerability if rates were to rise. (Note that today’s 1.40% yield on the 10-0year Treasury note is up from -.52% at he low in august 2020 and from 0.93% in just the last seven weeks)

The Fed says rates will be low for years to come, but are there limitations on its ability to make that happen? Can the Fed keep rates artificially low forever? On longer-maturity bonds? And what about inflation? Can the 10-year Treasury note still yield 1.40% if inflation reaches 3%? Will people buy it a negative real yield? Or will the price fall so that it yields more? Where could inflation come from? The price of goods may not rise in dollar terms, but reduced respect for the dollar (or increased quantities of dollars in circulation) could cause it to depreciate relative to the price of goods: same result.

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These questions are seeking an answer in real time as Treasury yields trend higher. At present Treasury yields are pausing near 1.75% and the Personal Consumption Expenditure inflation measure is at 1.5%. The bond market is therefore insisting on a positive real yield to justify buying.

However, since a clear and consistent trend is in evidence bond investors are also pricing in the potential that the PCE will continue to also trend higher. Bond investors have become accustomed to central bank assistance. There was no revolt at the beginning of the quantitative easing era because the Fed was supporting the market.

“As the dust settles in the wake of today’s FOMC, we will be focusing upon whether any additional back-up in yields is accompanied by a further widening of breakevens,” said Richard McGuire, the head of rates strategy at Rabobank. “If so then this argues that the move higher in rates is sustainable.”

But as long as U.S. yields don’t rise in a chaotic fashion, risk assets including emerging-market and high-yield corporate debt are expected to outperform, according to BlackRock’s Seth. “Rates can drift higher and still remain a positive backdrop for the risk assets, as long as the vulnerability is under control,” he said.

A Bloomberg Barclays index on global credit returns has gained 11% over the past year, compared with a loss of 2% for a gauge tracking Treasuries. BlackRock switched to a neutral duration position in February from underweight. The fund likes notes sold by Chinese real estate companies and the nation’s onshore bonds.

“The lack of correlation with the rest of the global developed markets also provides a diversification benefit,” Seth said of Chinese debt.

The Fed remains wedded to its view nascent inflationary pressures will not last long. There is a logical argument to support the view that the bounce back from the pandemic lows is exaggerated by the base effect and everything will settle down over the course of the next year or two. Since the Fed is willing to wait and see with inflation, it could be two full years before they are willing to draw firm conclusions.

Lennar Corp. soared after the homebuilder said it will create a spinoff with at least $3 billion in assets.

The new company, which will have $3 to $5 billion in assets and no debt, will include Lennar’s technology investments, according to an earnings call Wednesday.

Lennar, which said it made about $470 million on its investment in Opendoor Technologies Inc., jumped as much as 9.5% to $97.09 in New York. The stock had gained 16% this year through Tuesday’s close.

Miami-based Lennar reported orders on Tuesday that beat estimates as it benefited from the pandemic housing market. It got also a boost from Opendoor, which began trading in December.

Lennar said two other “technology-driven” companies it has invested in also have announced agreements to go public through mergers with special purpose acquisition corporations, or SPACs.

Those companies are Doma, formerly known as States Title, and Hippo, the home-insurance startup that’s merging with a blank-check company led by Zynga Inc. founder Mark Pincus and LinkedIn co-founder Reid Hoffman

It is a clear sign of the times that a home builder, which is about as brick and mortar as it gets, has upwards of $5 billion in technology investments. It’s good news that the company has made wise decisions in what are now highly valued digital assets. However, that decision to prioritise risk in non-core businesses is also a symptom of the wider lack of building new homes that has been a feature of the recovery from the 2007-12 housing recession.

The basic elements of yield-curve control will probably remain unchanged, with the short-term rate anchored at -0.1% and the BOJ aiming to keep the 10-year JGB yield around 0% -- while allowing fluctuations depending on economic and price developments.

We expect Kuroda to renew the commitment to the 10-year yield range of +/-0.2 ppt around 0%, but -- importantly -- also indicate that temporary moves beyond the range would be acceptable, as long as the effects of monetary easing aren’t disrupted and the yield curve is consistent with economic activity, prices, and financial conditions.

In operational terms, this may mean the BOJ will conduct its JGB purchases with more flexibility -- changing the frequency of the operations and the menu of its purchases, depending on market conditions.

This would help improve the functioning of the Japanese government bond market in terms of price discovery and liquidity -- increasing policy sustainability.

The question investors are likely asking is if the Bank of Japan is willing to loosen its yield curve control bands, do they believe inflation is in fact returning with sufficient vigour to initiate a trend?

One of the primary reasons for the Yen’s strength is because deflation was a surety. The supply might increase but there was no chance of inflation eroding the holding overnight. Meanwhile, the positive current account balance acted as a counterweight to the increasing money supply. If the BoJ is willing to change their perception of inflationary pressures that’s toxic for the Yen.

The move started in Australia, where bond futures fell heading into the market’s close to put modest pressure on Treasuries. At around the same time, there was a block sale of 10-year ultra bond futures, followed by a buyer of downside put options -- the hedging of which tends to weigh on the market. The three combined to tip 10-year Treasury futures through Thursday’s session low, which unleashed the wave of selling.

As many as 20,000 contracts changed hands in the next five minutes, the largest activity of the day. The speed and severity of the move left many traders perplexed, with volumes in the cash market comparatively modest.

The moves there were most pronounced in the benchmark 10-year tenor, with the yield curve steepening as two-year rates only rose as much as two basis points. European bonds followed Treasuries, with U.K. 10-year yields up five basis points to 0.79%.

Macro traders make money by sniffing out logical inconsistencies and pushing them until they break. George Soros and his ilk pressuring the Pound’s ERM fix is one such notable example so are the small number of traders that correctly called the demise of the subprime markets.

These kinds of contrarian bets are aided by the fact that crowds thrive on contradiction. The biggest bull markets inevitably breed the biggest contradictions because outlandish forecasts are required to justify buying at extraordinary highs.

To achieve this objective, the government’s economic strategy consists of:

• operationally independent monetary policy, responsible for maintaining price stability and supporting the economy;
• a credible fiscal policy, maintaining sustainable public finances, while providing the flexibility to support the economy;
• structural reform to level up opportunity in all parts of the UK and to transition to an environmentally sustainable and resilient net zero economy, including through regulation, and an ambitious programme of investment in skills, infrastructure and innovation, in order to sustain high employment, raise productivity and improve living standards;
• maintaining a resilient, effectively regulated and competitive financial system that supports the real economy through the provision of productive finance and critical financial services, while protecting consumers, safeguarding taxpayer interests and supporting the transition to a net zero economy. 6

ACCOUNTABILITY
The Monetary Policy Committee is accountable to the government for the remit set out in this letter. The Committee’s performance and procedures will be reviewed by the Bank of England’s Court on an ongoing basis (with particular regard to ensuring the Bank is collecting proper regional and sectoral information). The Bank will be accountable to Parliament through regular reports and evidence given to the Treasury Committee. Finally, through the publication of the minutes of the Monetary Policy Committee meetings and the Monetary Policy Report, the Bank will be accountable to the public at large.   

Central banks are “operationally” independent. All that means is politicians do not get involved in their day-to-day affairs. The central bank still takes orders from politicians. When elected officials feel the “need” for change they simply announce it in the budget. Today we “need” to save the planet so it is now the central bank’s job to do that.

Monday’s rally came despite short interest being near the lowest level in at least a year. Roughly one-quarter of shares available for trading are currently sold short, according to data compiled by S3 Partners. That compares to a peak of more than 140% in January.

“Shorts will continue to be squeezed out of their positions as GameStop’s stock price continues to trend upwards,” said Ihor Dusaniwsky, managing director of predictive analytics at S3 Partners.

Shorts sellers are down nearly $6 billion in year-to-date mark-to-market losses, including $609 million in Monday’s trading alone, Dusaniwsky said by email.

The rebound of reflation plays and retail investor favourites is partly a response to short-term oversold conditions. It is also because $1.9 trillion is still a lot of money, even after a decade of printing.

$1400 for individuals and each child as well as extended benefits the unemployed means many families will see bumps of several thousand dollars in the nest month.  According to this calculator a family of four with an income of $70,000 per annum would receive a payment of $5,600 or 8% of income. 

On gold, I notice there is now significant weakness in the chart for Total known holdings of gold ETF. Will we need to see this stabilize and turn up before any rise is likely in spot gold prices?

There is undoubtedly some liquidation of gold longs going on at present as investors price in the potential for outsized swift economic recovery. That’s also the main rationale for selling bonds since there is less need for a safe haven.

On November 24th I began a series of reviews of longer-term themes which will be updated on the first Friday of every month going forward. The last was on January 8th. These reviews can be found via the search bar using the term “Secular Themes Review”.

The rollout of vaccines to COVID-19 continues to accelerate and that will continue through the balance of the year and 2022. There is encouraging news about the number of different vaccines which have been approved and their success against variants. By the end of the year, the world will be inundated with doses which will provide at least some protection from the virus for anyone who wants it. That’s all the rationale any government needs for reopening the economy.

On Valentine’s Day 2020 Mrs Treacy and I went out for dinner with another couple. We talked about the news of a virus threat from China and how it could potentially cause ructions further afield. We told them we had stocked up on rice, meat, protein bars and batteries just in case. They thought we were crazy crackpots jumping at shadows.

It was hard to imagine then just how disruptive the decision to lockdown was going to be. A similar condition exists today. After a year of being confined to our immediate vicinity it is tempting to think this is how it will always be. The reality, however, is we are going to see a surge back to normalcy much quicker than most believe possible.

Humans are social animals and we yearn for social contact. We’ve been starved of that basic need for a year and we’ll overdose on it when we are able. That suggests we are looking at a boom in consumer activity over the coming couple of years.

Like everyone else, Grice is attempting to parse the evolving socio-political environment. He likens the current media revolution to the effect the printing press had on the social makeup of Europe which led to the Reformation and 30 Years War.

Interest rates have been negative in Europe for years. But it took the flood of savings unleashed in the pandemic for banks finally to charge depositors in earnest.

Germany’s biggest lenders, Deutsche Bank AG and Commerzbank AG, have told new customers since last year to pay a 0.5% annual rate to keep large sums of money with them. The banks say they can no longer absorb the negative interest rates the European Central Bank charges them. The more customer deposits banks have, the more they have to park with the central bank.

That is creating an unusual incentive, where banks that usually want deposits as an inexpensive form of financing, are essentially telling customers to go away. Banks are even providing new online tools to help customers take their deposits elsewhere.

Banks in Europe resisted passing negative rates on to customers when the ECB first introduced them in 2014, fearing backlash. Some did it only with corporate depositors, who were less likely to complain to local politicians. The banks resorted to other ways to pass on the costs of negative rates, charging higher fees, for instance.

The pandemic has changed the equation. Savings rates skyrocketed with consumers at home. And huge relief programs from the ECB have flooded banks with excess deposits. Banks also have used the economic dislocation of the pandemic to make operational changes they have long resisted.

There are two big questions that arise from charging depositors to hold funds in their bank accounts. The first is the benefit banks receive from now being able to pass on costs to customers. The second is the quandary savers are put in.

Berkshire’s investment in Apple vividly illustrates the power of repurchases. We began buying Apple stock late in 2016 and by early July 2018, owned slightly more than one billion Apple shares (split-adjusted). Saying that, I’m referencing the investment held in Berkshire’s general account and am excluding a very small and separately-managed holding of Apple shares that was subsequently sold.

When we finished our purchases in mid-2018, Berkshire’s general account owned 5.2% of Apple. Our cost for that stake was $36 billion. Since then, we have both enjoyed regular dividends, averaging about $775 million annually, and have also – in 2020 – pocketed an additional $11 billion by selling a small portion of our position. Despite that sale – voila! – Berkshire now owns 5.4% of Apple. That increase was costless to us, coming about because Apple has continuously repurchased its shares, thereby substantially shrinking the number it now has outstanding. 6 But that’s far from all of the good news.

Because we also repurchased Berkshire shares during the 21⁄2 years, you now indirectly own a full 10% more of Apple’s assets and future earnings than you did in July 2018. This agreeable dynamic continues. Berkshire has repurchased more shares since yearend and is likely to further reduce its share count in the future. Apple has publicly stated an intention to repurchase its shares as well. As these reductions occur, Berkshire shareholders will not only own a greater interest in our insurance group and in BNSF and BHE, but will also find their indirect ownership of Apple increasing as well. The math of repurchases grinds away slowly, but can be powerful over time. The process offers a simple way for investors to own an ever-expanding portion of exceptional businesses. And as a sultry Mae West assured us: “Too much of a good thing can be . . . wonderful.”

Buying back shares appears to be back on the menu for an increasingly large number of companies. For investors who seldom sell, like Berkshire, that’s good news provided the number of shares in issuance does in fact contract.

One of the most egregious abuses of share buyback programs is that additional shares are issued at a similar pace through executives exercising options. That effectively means buybacks amount to a massive transfer of wealth to company management.

We are seeing a significant increase in demand across all price points and all suburbs,” said real estate agent Ben Collier, who handled the Paddington sale. Usually “you see different markets moving at different speeds, whereas it seems to be somewhat more uniformed right now.”

In New Zealand, where home prices soared 13% in January from a year earlier, the problem is so acute the government will now require the central bank to consider the impact on housing prices when setting interest rates, a change the bank opposed. The Reserve Bank of New Zealand is also reimposing lending restrictions on property investors in an attempt to cool the market.

Fears that Australia’s housing market would be flooded by distressed sales as people were thrown out of work by the pandemic have faded as the economy recovers faster than expected, and people resume paying their mortgages after being offered six-month loan holidays last year.

Instead, a shortage of supply is helping fuel the price boom. The number of houses advertised for sale in the first three weeks of February was down 26% from a year earlier, CoreLogic said.

“Housing inventory is around record lows for this time of the year and buyer demand is well above average,” Lawless said. “These conditions favor sellers. Buyers are likely confronting a sense of FOMO, which limits their ability to negotiate.”

This is a familiar story from all over the world. There is low supply because many people are worried about moving during a pandemic. At the same time there is increased demand because other people feel they have more cash and need to move because of personal circumstances. The combination is leading to rising prices across the board. Record low interest rates are fuelled the advance.

Market detectives looking to explain the fury of Thursday’s Treasuries selloff will find most of the evidence pointing to technical rather than fundamental reasons.

A combination of supply indigestion, a potential $50 billion position unwind and vanishing liquidity exacerbated moves as traders aggressively repriced the Federal Reserve rate-hike outlook, despite no major economic developments or shifts in tone from policy makers.

“It wasn’t an orderly selloff and certainly didn’t appear to be driven by any obvious fundamental continuation or extension of the reflation thesis,” wrote NatWest Markets strategist Blake Gwinn in a note to clients. A number of more “technical-style” factors were in the mix, against a backdrop of a good-old-fashioned buyers strike, he said.

In a bull market buying the dips always works. When buying the dips stops working, the bull market is over. That might seem tautological but it is the strategy every investor ends up following because buying the dips is the best risk-adjusted way of buying in an uptrend. That question will be discussed in every emergency meeting at fixed income fund management houses today and over the weekend.

The 5-year note is of particular interest to many in the $21 trillion Treasuries market. Earlier this week, tepid demand in an auction of five-year notes brought into focus this key part of the curve, which also reflects medium-term expectations for Fed policy. Then on Thursday, a measure of demand for a $62 billion auction of 7-year Treasury notes came in at a record low.

The rout comes as investors continue to reprice expectations for Fed hikes as the vaccine rollout and the prospect of additional stimulus foster a rosier outlook for the economy. Yields on 2- and 5-year yields are more influenced by the starting point and speed of normalization, said Bank of America Corp. rates strategist Ralph Axel.

“Everything that we see keeps pushing us into sooner, faster, more in terms of removing accommodation,” Axel said.

The surge in yields is hurting riskier assets. Emerging-market currencies such as the South African rand and Mexican peso sold off sharply against the dollar, and the S&P 500 Index dropped as much as 2.6%.

In Europe, peripheral countries have led a bond sell-off, with Italy’s 10-year yield spread over Germany climbing back above 100 basis points. Core debt wasn’t spared, with yields on France’s benchmark debt turning positive for the first time since June.

The 5-year Treasury best approximates the average duration of the US debt market so it tends to attract a lot of notice from bond traders. The surge in yields is being driven by two factors. The first is investors are increasingly willing to price in a quick recovery. The second is the indifference of the Fed to higher rates.

The selloff in Treasuries sent the yield on the 30-year bond surging on Wednesday, putting the long-end
benchmark on track for its biggest one-day advance since early January.

Rates climbed across notes and bonds, with the long-end increasing most and the curve steepening. The 30-year yield jumped by around 11 basis points at one stage, hitting a one-year high of 2.29%, while the 10-year rate rose as much as 9 basis points to 1.43%.

Global bond markets are suffering this year amid the prospects for U.S. stimulus and a surging reflationary narrative, with volatility gauges climbing to multi-month highs. That’s prompted fears over a potential tantrum in havens, such as Treasuries and German bonds. While Federal Reserve Chairman
Jerome Powell this week called the recent run-up in bond yields “a statement of confidence” in the economic outlook, the move raises pressure on central banks to keep financing conditions easy.
 

“The market is nervous about additional stimulus, worried about the risks of higher inflation, and concerned about QE tapering,” said Gennadiy Goldberg, senior U.S. rates strategist at TD Securities. “The selloff is likely being exacerbated by convexity hedging and positioning stop-outs.”

Demand for save havens is waning. That’s perhaps the easiest way to explain the run-up in yields; globally. The scale of the flight to quantity because of angst at the lockdowns drove yields down to historic lows almost everywhere.

At Greatest Risk from Higher Bond Yields? Eoin, we have seen some sizable sell offs in recent weeks from the hottest sectors such as Green Power, and the various Innovation Funds/ETFs as well as Electric Vehicle sector. As you'd pointed out, they are benefit from super low rates as growth is essentially free. What risk for EM though, which otherwise has been on cruise control of late? Today has seen a sizeable sell off, but is this just the first shot across the bow? Which of the EMs would you be most guarded against? What else might be at greatest risk given the run ups we have had in markets over the last 12 months?

The ARK Innovation ETF has pulled back by about 20% over the last six sessions. That’s a sizable pullback but the fund was up 383% since March 2020 so it was due some consolidation. This reaction has broken the 12-month sequence of higher reaction lows so the trend is no longer as consistent as it was on the way up.