This week’s episode is sponsored in part by the People's Bank of China, makers of fantasy Excel generated growth numbers. In part by the European Central Bank, the entity responsible for bringing you bonds that allow you the privilege of paying the government for the right to tie your money up for 10 years. And finally, by the United States Federal Reserve Chairman Janet Yellen, who apparently builds products that she herself doesn’t trust. All of this and much more, on, As The World Turns.
Last week was a slow week and frankly, if I had to write an entire commentary on the Fed, I’d choose to eye guzzle all 6 seasons of Dance Moms instead. For the record, I had to Google how many seasons there were, I swear. But have no fear those of you who are faithful Fed watchers, I’ve got a couple of nuggets from the latest Fed minutes to share with you. But in total, last week was one of those weeks when there really wasn’t one central theme that popped out to me but rather a smorgasbord of happenings that I felt deserved your attention in what is very quickly becoming a soap opera in the markets.
There is plenty of reason to be skeptical of the economic numbers that get reported out of China. But the truth is, if they are making this stuff up as they go along, couldn’t they do a better job? There are a lot of numbers that get released but few do a more succinct job of giving you the overall view of the Chinese economy than the Big 3: retail sales, industrial production and fixed asset investment.
Let’s start with the Chinese consumer where the latest retail sales number hit the lowest level since 2006. This isn’t a one-off event, retail sales peaked in 2011, have been in a solid downtrend ever since, and there doesn’t appear to be a floor in sight.
Turning to the business side of the equation, industrial production also laid an egg. Since peaking at 18% growth, post Crisis in 2010, IP has been in a bear market ever since and is now trading around a 6% growth rate.
Lastly, fixed asset investment put a bow on top of the Big 3 by coming in at the lowest level since 2000! The only reason FAI hasn’t fallen off a cliff is because of the government’s attempts to prop it up. Private sector contribution to FAI has been sliding for quite some time.
But it’s not just the economic data in China that’s reaching levels not seen in a while. The Chinese corporate bond market contracted in May for the first time in 6 years for two primary reasons. First, fears that the handful of defaults seen so far this year are only the beginning. Second, the fact that Chinese corporations binged on new debt to start the year and so they may just be taking a breather. Neither scenario is promising.
In addition, the MSCI denied China’s plea to include it’s A-shares in the MSCI Emerging Market Equities Index. MSCI said that there had been significant improvements in an investors capacity to access A shares but that China had not come far enough for inclusion.
All-in-all, China’s economy, its consumer and its capital markets continue to deteriorate and hit low levels not seen in years. This reality doesn’t bode well for the rest of the world.
Our next stop is the Eurozone, where we will discuss a first time ever event.
Another week, another first time ever occurrence. Boy oh boy do we live in interesting times. Last week marked the first time in the history of the German 10-year Bund, that these instruments traded with a negative yield. The Bund has been around since the 1800s and has never gone negative. You might be saying, why does this matter?
Seemingly, the only government bonds available today without a negative yield are Treasuries. It matters because Germany is the locomotive and the foundation on which the Eurozone relies. It matters more because the last time German Bunds even came within spitting distance of zero yield was during the Great Depression. Can you hear me now?
What makes the Eurozone picture even more bleak is what’s happening right now with the banks. In short, the banks are getting crushed. Most Eurozone banks are in full crash mode, down 20% or more, over the last 12 months. But more important, this crash has accelerated in the last 3 weeks, with a number of banks declining 12-15% in that short amount of time.
For some perspective, the iShares MSCI Europe Financials ETF, EUFN, is down 27% over the last year, 17% year to date and down 14% in just the last 3 weeks. Things are ugly and getting uglier.
And despite the fact that the ECB is now buying Eurozone corporate bonds in droves, yields across the Eurozone are blowing out, most prominently in Spain and Italy. Investors are demanding big returns for these governments to borrow their money.
Income at banks is tough to come by when equity markets are falling, because corporations retreat from investment banking activities and this has an immediate impact on bank revenues. To wit, Eurozone equities are down 13% since November, 7% in the last 3 weeks and there is not a real stable floor for another 8% down from Friday’s close.
If you believe, like many do, that banks are a good proxy for the overall health of an economy, then the Eurozone may very well have the first case of smallpox since 1980.
Next we hop the pond and land in the United Snakes of America.
When I was a kid, we used to recite the Pledge of Allegiance to start each school day. Until I was about age 6, I used to say, “I pledge allegiance to the Flag of the United SNAKES of America…” Its ok, I’m fine. My parents had me tested. It turns out I just had a preoccupation with snakes. Perusing the latest Fed minutes took me back to my childhood and made me want to shed my skin.
I wasn’t surprised by the outcome of the Fed’s latest meeting. And I’m not surprised that the market has done a full 180 and is now pricing in only 1 rate hike in the next 3 years. I’ve been discussing the “no rate hike” for months as the most probable outcome given the trajectory of the global economy and the trajectory of monetary policy outside of the US. However, never one to disappoint, the Fed did catch me off guard with a couple of things.
First, the Fed cut its growth forecasts for this year and next, not surprising. Then it acknowledged that labor market improvement had slowed, also not surprising.
Now comes the kicker, the Fed tied things off by saying that it expects the labor market indicators to strengthen in the coming months. Huh?
I’m certainly not a Nobel Prize winning economist and luckily I don’t need to be in order to do my job well. But do labor markets generally improve or get worse during economic slowdowns? How about recessions?
Last week’s latest US industrial production report showed a decline in the annual growth rate for the 9th consecutive month. This is the longest such streak without a US recession.
I’m not cherry picking the data here, feel free to look around the US for a green shoot of any kind, it’s not there. Not to mention the discussion we just had about China and the Eurozone. How does the Fed think that the labor market is going to improve when they themselves think that US growth is going to continue to slow and the rest of the global economy looks like the front lawn of a frat house on Sunday morning?
Maybe the Fed is planning on the US decoupling from the rest of the world. Or maybe they are simply downplaying or outright ignoring the data that they don’t like, similar to Yellen when she discussed the latest Labor Market Conditions Index, LMCI.
I mentioned this index a couple of weeks ago because it was developed, in part, by Yellen herself. Last week she acknowledged that they’ve been watching this index closely for several months but downplayed its importance by saying it was still in the experimental stage. However, she went on to say that the LMCI “supports the conclusion that the labor market has improved significantly over the past year.”
Is that right Janet? Please tell the good people why the latest reading on this index, a -4.8, is exactly the same as when the everything hit the fan back in 2000. Or explain to them that this level has been reached on 3 previous occasions, each time a recession followed.
This kind of crap drives me up a wall. The Fed, Wall Street, mainstream media, they are all David Copperfield. They want you focused on the right hand, when what really matters is happening in the left.
They want you focused on data that is 3 months old, forecasts that are 6 months out and have no chance of being right, or better yet, just look at the S&P 500.
If you just watch the S&P, which gets 90% of the media and research coverage then you probably think things are moving along swimmingly. How bad could things be when the equity market is within 3% of a new all-time high?
If that’s you, take your head out of the sand because our central bank-fueled financial world is on a collision course with reality and the S&P is sitting within ear shot of a brand new all-time high doesn’t even begin to tell the whole story. Sorry Steve Liesman.
When this central bank-fueled collision occurs, don’t be in the majority of investors who wake up to a sea of red in world markets and scratch their head saying, “what happened?”
Now, more than at any other time since The Crisis, you, as an investor, must keep your head on a swivel. I’m not suggesting that you build a bunker and switch to a diet composed entirely of canned food. In fact, I’m not suggesting anything. I’m telling you point blank that the global markets are teetering. They are teetering above a crevasse like you’d find on Everest, so deep that it's seemingly bottomless.
If watching the S&P lulls you into a false sense of security about the state of the world, that’s going to do you as much good as having your childhood blanky wrapped around you in a snake pit.
If you’re an active investor, look at being SHORT the S&P, LONG gold and long-dated Treasuries.
If you’re more passive, I’d still suggest looking into long-dated Treasuries and I’d suggest cash.
Yes, my friend, cold-hard cash is a legit investment position. Despite what your local advisor might tell you, when you’re in the snake pit, unlike your childhood blanky, cash can protect you.
I hope you enjoyed this week’s episode of As The World Turns. Stay tuned next week, because whatever I choose to discuss, the only goal is to help you become a better-informed, and wealthier investor.