“Why Anyone Believes Printing Money Will Leave Us Better Off Is Beyond Me”

From a tactical point of view, Saxobank's CIO Steen Jakobsen lives in a very simple world:

 

''A great deal of intelligence can be invested in ignorance when the need for illusion is deep” — Saul Bellow
 
Just back from four cruel weeks of travelling: Bucharest, London, Sydney, Melbourne, Lisboa, Porto, Madrid, and Z├╝rich. Housing bubbles everywhere to be seen, and all denied by local policymakers and economists. 
 
The big selloff in 2015 will come from housing and housing-related investments as the marginal cost of capital rises through regulation and through “margin calls” on banks as their profit-to-GDP ratios grow too high for the economy to function properly. The dividend society is here and the true manifestation of Japanisation is not a future event but a thing we are living in right now…
 
Core trading view
 
Ten-year bond yields (US) will continue lower into the second quarter of 2015. I see acceleration to the downside, mainly in the US where 10-year yields could hit 2.00% and bottom out at 1.5% by Q2 as GDP comes off (relative to “lift off” consensus).
  • European factors: Lower than anticipated growth in Germany (China rebalancing, lower US current account deficit and EZ overall); the impact of the Russian crisis is only beginning to impact the real economy, and of course there is the deflation (which the European Central Bank promised us would never happen…).
  • US factors: Energy sector moving towards default and closing down capacity, subtracting 0.3-0.5% from GDP, plus a lackluster housing market (despite record low mortgage rates), plus contraction in monetary aggregate…
  • Chinese factors: Despite reserve requirement ratio cuts, the economy is already at 5.0% in real terms and without reform in health care(why people save money), competition (anti-corruption) and deeper capital markets (sort of happening), the marginal change will continue to be negative. 
  • Emerging markets factors: A strong US dollar is the last thing emerging markets need. It’s a de facto tightening of monetary policy at a time when “export markets” continue to weaken. 
The world is barely surviving at an average yield of 1.5-2.0% . Markets forget that we have two drivers of growth: the US and emerging markets. EM are under pressure as we end 2014, forced into the defensive by a lack of reforms but also a much stronger US Dollar. This means the “mean-reversion” trade is for 2015 is for a weaker US dollar to rebalance towards EM growth as the path of least resistance.
 
I have no doubt that EM will become a major buy sometimes in Q2 when world is off the concept of an ever-stronger US dollar based on a growth lift-off that is never coming.
 
EEM (iShares MSCI EMG) vs. S&P 500 — S&P lead by 11%+ (reversal in 2015?)
IShares MSCI Emerging Markets
Source: Yahoo! Finance
 
The never-ending illusion of “lift off” for the US economy
 
Again, the revised data for US GDP shows Real Personal Consumption expenditures increased 2.2% in the third quarter — a much better (the only reliable) indicator of growth as inventories, investment and trade generally add up to zero over a full year. In other words, where RPCE goes, so does the US economy. Too see why this is, please see the composition of GDP in the US here:
 
US GDP composition
Source: Federal Reserve Economic Data
 
US growth has been 2% (plus or minus) since the financial crisis started, this year it will be 2%… and next year? Two percent is nowhere close to the 3-4% expected by the markets building on “surveys” and feel-good factors. Trust me, as someone who spent too much time travelling this year, the world is worse off, not better.
 
I meet frustration, lack of access to credit and near-desperation when the question concerns asset allocation, but… 2015 looks like a year of change. The Federal Open Market Committee will definitely continue to sell the “pipe dream” of normalisation, while the Bank of Japan is done and toast. 
 
Why anyone believes printing money will leave Japan better off is a mystery to me. Compare the FX policies of Switzerland and Japan: One has an ever-rising currency (Switzerland) which forces its “Mittelstand” (small and medium-sized enterprises) to be flexible, productive and acquisitive; the other (Japan) has tried to intervene in its currency in order to avoid changes and reforms.
 
Japan
 

On offer from Tokyo: smoke, mirrors and currency intervention. Photo: iStock
 
No, if there is any reality left in the world the market will realize — by its mistaken support for long USDJPY positions — that productivity gains and competitive edges are driven by the “need” to change… not from isolation but from cause and effect (but that’s also a 2015 story).
 
In closing I have very little positions — the stock market is on a mission to kill the shorts (which will probably succeed), the FX market believes in Santa Japan and the ECB continues to do nothing but talk… but for now it’s enough to sell the product, which is risk-on at all costs.
 
The correction will be deeper and deeper as the market is dislocated through zero interest rates and an investing crowd that is rewarded for throwing all conservative risk rules overboard in a year where we again have double digit gains on… low interest rates.
 
Let’s hope the ECB plays ball for the market to buy some more time; for now we are playing musical chairs, and when the music stops, more than one chair will be missing…
 
Positions
 
  • 75% of risk is long fixed income (mainly US FI).
  • 10% risk in equities, mainly mining plays (Alcoa & Fortescue); looking to add VALE and others in sector on inflation expectations hitting rock bottom in Q1.
  • 5% long silver, bought on sell-off.
  • 5% natural gas, preparing for a long and cold winter.
  • 5% upside optionality in EUR c USD p.
 
How bad are things? Well, let me give you my starting slide from a presentation done in November:
 

How bad is it?

Source: Saxo Bank

 




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