2019 has been a pleasant ride so far for high yield investors. Over the past 9 months the global high yield market has delivered a total return of 10.9% and an excess return of 6.4%, in part thanks to the U-turn of major central banks. Despite all the good news, things have occasionally gone wrong.
Recent events have reminded high yield investors that investing doesn’t come without risk. Thomas Cook, the UK tour operator, was grounded after final restructuring negotiations failed. To blame Brexit or the slowdown in global growth for the default would be a hasty conclusion. The business, operating in a structurally challenged industry, had long stretched its financials to the limits. The fragile situation did not go unnoticed by customers, who had stopped booking with the business. As a result of this, 2018 EBITDA (earnings before interest, taxes, depreciation and amortisation) dropped by 14.6% year-on-year which also changed the ability to materially generate positive cash flow. The company produced a negative free cash flow of £148 million in 2018. 2019 half year numbers revealed an even worse picture, with a seasonal outflow of £839 million; £121 million higher than the previous year. Operating with current liabilities that exceeded current assets by £2bn, made the solvency issue even more pressing and, in the end, didn’t allow the company to recover in time. This is a prime example of how quickly things can fall apart if consumers lose trust in a business. With bonds trading currently at 7 cents in the euro, investors only foresee a limited recovery rate for the asset-light business, which is also carrying a large amount of debt structurally senior to the bonds.
Thankfully, these default cases are the exception rather than the rule and we’ve only seen a handful of defaults in Europe this year. Early on in the year, the Retail space made headlines. It was high street retailer New Look who had to capitulate after net leverage skyrocketed well into the double digit region following weak Christmas trading. Shortly after, UK department store Debenhams announced restructuring after a period of operational underperformance combined with structural issues. Debenhams was disproportionately hit by the structural shift to online shopping, given its long-term rents and large store estate hindered the retailer from adopting quickly to the new shopping behaviour that resulted in less footfall.
Rallye, the holding company that effectively controls French food retailer Casino Guichard-Perrachon SA, pushed the Retail default rate up by one. Having sold most non-core assets over the past several years, the core investment of Rallye has been Casino. Rallye started to look insolvent as the Casino share priced dropped, and Rallye debt is now being restructured. This is an important reminder for bond investors to consider the additional risks of lending to a holding company, particularly if it only has one income stream.
In the US, the Energy sector has been the dominant sector of defaults in 2019, accounting for more than half of the defaulted universe. In fact, the energy sector was the bottom performer in the US high yield market in the first 3 quarters of 2019 delivering an excess return of -2.9%. While the sector is up by 2.5% in total return terms, this makes dull reading compared to the broad US high yield market which generated a return of 11.5% over the same period. In contrast to the wider HY market, credit spreads of the energy sector have actually widened, which might come as a surprise considering that WTI (West Texas Intermediate) is up 17% since the turn of the year, now trading in the mid-50s and above breakeven levels for many oil players. So what is behind the underperformance and defaults in this space?
One part of the answer is execution risk, which was also the source of trouble for Alta Mesa, the recent default victim in the US HY market. The company’s acreage turned out to be less robust than anticipated. In addition, the company was having technical difficulties in drilling their wells, a problem that has already befallen several drillers operating in emerging shale basins across the states. For companies with a single asset exposure, this can be fatal. Bond investors need to carefully weight up whether the low entry costs compared to more established drilling areas such as the Permian basin, are worth the risk of missing production forecasts and consequently the failure to generate the cash flow needed to service its bonds.
As always, a major concern of US Exploration and Production companies is the degree of debt that some players are saddled with, making it impossible to grow into their capital structure should production levels disappoint due to operational issues even when WTI is in the 50’s.
Overall however – particularly outside the Energy and Retail space – defaults remain low in high yield. That being said, the portion of bonds trading at distressed levels, defined by a spread level higher than 1000bps, is on the rise, which tends to be a good leading indicator for future defaults. Therefore, I would expect default rates to increase somewhat from here due to idiosyncratic issues, such as those experienced by Thomas Cook. Bond investors are currently witnessing an increasingly two-tier market. Those that are in favour can borrow cheaply and benefit from the low interest rate environment. Those falling out of favour find themselves locked out of the market with market concerns perpetuating a vicious cycle.
Donald Trump Presents: ‘Plotting Lovebirds’ And The Search For ‘Loser’ Hunter Biden
President Trump delivered a fiery performance in Minnesota on Thursday night, where he pulled few punches laying into his political opponents. After a brief warmup, Trump kicked things off by reminding the crowd he’s still the outsider in DC – who’s now being attacked with a “phony” Democrat narrative which has formed the basis of a House impeachment inquiry.
“Our bold pursuit of this pro-America agenda has enraged the failed ruling class in Washington,” said Trump, adding “not easy to get ’em out but we’re doing it slowly but surely.”
“These corrupt politicians and the radical leftists got rich bleeding America dry, and they knew that my election would finally end their pillaging and looting of our country. And that’s what they were doing. And that’s what they continue to try and do.”
Trump then proclaimed “from day one, the wretched Washington swamp has been trying to nullify the results of a truly great and democratic election – the election of 2016. They’re trying, but they’re not getting very far. They want to erase your vote like it never existed. They want to erase your voice. And they want to erase your future.”
Trump then did a dramatic recreation of FBI ‘lovebirds’ Peter Strzok and Lisa Page discussing how they were going to bring Trump down.
The two high-ranking FBI officials were busted exchanging anti-Trump / pro-Clinton text messages while investigating both Trump and Clinton.
“Remember he and his lover Lisa Page,” Trump said, before mocking the pair.
“Oh I love you so much. I love you, Peter! I love you too Lisa! Lisa, I love you. Lisa, Lisa, Oh God, I love you, Lisa.
“And if [Hillary Clinton] doesn’t win, Lisa, we’ve got an insurance policy, Lisa! We’ll get that son of a bitch out.”
Trump then turned to ‘crooked’ Adam Schiff (D-CA), who “had to make up a fake conversation that never happened” about Trump’s phone call with Ukrainan President Volodomyr Zelensky, after the White House released a transcript of the call which proved that Trump asked – not pressured, Ukraine to look into corruption allegations against Joe and Hunter Biden. Trump then tore into House Speaker Nancy Pelosi (D-CA) for insisting Schiff was using Trump’s own words.
“These people are sick,” Trump said of the Democrats. “I’m telling you. Had they waited one day longer, they would have had the actual transcript of the call. Instead, they went early. You know why? Because they never thought in a million years that I was going to release a transcript of the call”
“So Nancy Pelosi upon hearing a false story from a whistleblower that has no clue what was going on in that call – or somebody gave hervery bad advice – but also hearing it from ‘shifty’ Schiff. Nancy Pelosi said a day before seeing a transcript of the call with the Ukrainian President “WE’VE GOT TO IMPEACH HIM!”
And then she saw the call and she said to her people “what the hell? Nobody ever told me this was the call!”
Then, after calling polls crooked ‘like the media,’ Trump tore into Joe and Hunter Biden – calling the former Vice President “totally owned, and totally controlled by the Washington swamp for many years.”
“Two months after President Obama put Joe in charge of Ukraine policy – he put Joe Biden in charge of Ukraine policy (and the press will not write it) … Joe’s son Hunter got thrown out of the Navy and then he became a genius on Wall Street in about two days.”
“By the way, what ever happened to Hunter? Where the hell is he?” Trump asked, before pitching an idea for a ‘Where’s Hunter’ T-shirt (which is now for sale at the official Trump campaign website).
“Hunter, you know nothing about energy, you know nothing about China, you know nothing about anything, frankly. Hunter, you’re a loser. Why did you get $1.5 billion dollars Hunter?“
Then, as if speaking to to Hunter, Trump said: “Your father was never considered smart … He was never considered a good senator. He was only a good vice president because he understood how to kiss Barack Obama’s ass.“
“The Bidens got rich, and America got robbed,” Trump added.
Hunter Biden served on the board of Ukraine’s largest private gas company, Burisma, for nearly five years. While Hunter’s position raised eyebrows at the time, controversy erupted earlier this year after footage emerged of Joe Biden bragging about threatening the President of Ukraine by withholding $1 billion in US loan guarantees if he didn’t fire the country’s lead investigator, Victor Shokin, who was leading an inquiry into Burisma at the time.
Trump also laid into Rep. Ilhan Omar (D-MN), who represents the Minneapolis district in which the rally was held – telling the crowd “Leaders in Washington brought large numbers of refugees to your state from Somalia without considering the impact on schools and communities and taxpayers,” adding “Congresswoman Omar is an America-hating socialist.”
“Sea Of Green” As Trade Deal, Brexit Optimism Send Futures, World Markets Soaring
So far, Friday has been a rerun of the Thursday session, where early “trade war” gloom turned to euphoria with the market convinced a mini trade deal between the US and China will be announced momentarily, just as soon as Trump and Liu He are scheduled to meet at 2:45pm in the White House. Throw in some Brexit optimism and there’s your reason why US equity futures jumped over 30 points overnight…
… and why global stock markets were a sea of green.
The MSCI world index jumped 0.8% to head toward its first weekly gain in four weeks. The broader Euro STOXX 600 surged 2.5%, led by a 3.4% surge in the German DAX. Tech shares led European gains, with the Stoxx 600 Technology Index surging 3.2%, most since April 24, led higher by SAP. Banks also rose, with the index rising 2.4%, most in a month, while S&P 500 futures jumped 0.9% Asian shares had rallied earlier, with an index of Asia-Pacific shares outside Japan climbing 1.3%.
The improvement in appetite for riskier bets came after U.S. President Donald Trump on Thursday called the first day of trade talks with China in over two months “very, very good.” Trade optimism was bolstered overnight after a Chinese state newspaper said on Friday that a “partial” trade deal would benefit China and the United States, and Washington should take the offer on the table, reflecting Beijing’s aim of cooling the row before more U.S. tariffs kick in.
China’s top trade negotiator, Vice Premier Liu He, said on Thursday that China is willing to reach agreement with the United States on matters that both sides care about so as to prevent friction from leading to any further escalation. He stressed that “the Chinese side came with great sincerity”.
Adding to that, the official China Daily newspaper said in an editorial in English: “A partial deal is a more feasible objective” adding that “Not only would it be of tangible benefit by breaking the impasse, but it would also create badly needed breathing space for both sides to reflect on the bigger picture.”
Additionally, and not coincidentally, hours ahead of an expected meeting between China’s Liu and U.S. President Donald Trump at the White House, China’s securities regulator unveiled a firm timetable for scrapping foreign ownership limits in futures, securities and mutual fund companies for the first time, suggesting that professional US gamblers will be welcome to invest, and lose, other people’s money in Chinese fraudcaps. China previously said it would further open up its financial sector on its own terms and at its own pace, but the timing of Friday’s announcement suggests Beijing is keen to show progress in its plan to increase foreigners’ access to the sector, which is among a host of demands from Washington in the trade talks.
Chinese officials are offering to increase annual purchases of U.S. agricultural products as the two countries seek to resolve their trade dispute, the Financial Times reported on Wednesday, citing unidentified sources. The U.S. Department of Agriculture (USDA) on Thursday confirmed net sales of 142,172 tonnes of U.S. pork to China in the week ended Oct. 3, the largest weekly sale to the world’s top pork market on record.
A (very unlikely) U.S.-China currency agreement is also being floated as a symbol of progress in talks between the world’s two largest economies, although that would largely repeat past pledges by China, currency experts say, and will not change the dollar-yuan relationship that has been a thorn in the side of Trump.
There were also overnight reports that the White House is reportedly mulling Public Company Accounting Oversight Board (PCAOB) dispute over access to China audits, according to reports. Officials are fixating on why Chinese companies can sell shares in the US when American regulators are prohibited from inspecting their books.
Analysts have noted China sent a larger-than-normal delegation of senior Chinese officials to Washington, with commerce minister Zhong Shan and deputy ministers on agriculture and technology also present. Separately, the SCMP reported that China’s Vice Premier Liu has a letter from President Xi, which may or may not be given to US President Trump in their meeting today.
The sudden optimism about a potential de-escalation is in stark contrast to much more gloomy predictions in business circles just days ago on the heels of a series of threatened crackdowns on China by the Trump administration. On Tuesday, the U.S. government widened its trade blacklist to include Chinese public security bureaus and some of China’s top artificial intelligence startups, punishing Beijing for its treatment of Muslim minorities. Surprised by the move, Chinese government officials told Reuters on the eve of talks that they had lowered expectations for significant progress.
Friday’s China Daily editorial also warned that “pessimism is still justified”, noting that the talks would finish just three days before Washington is due to raise tariffs on $250 billion worth of Chinese imports. The negotiations were the “only window” to end deteriorating relations, it added.
Investors cautioned that markets were hoping for, at best, a deal limited in scope, and they noted that sunny rhetoric had in the past failed to translate into more meaningful moves. “I would caution that we have been here before, where we have seen positive talk,” said Mike Bell, global market strategist at J.P. Morgan Asset Management. “It’s possible they will be able to do a smaller deal around tariffs, where there is some room for movement.”
Elsewhere, Brexit optimism was also rampant and the pound soared higher on Friday – its largest daily percentage gain in seven months and biggest 2-day jump since June 2016 – after Donald Tusk, EU council president, said he had seen “promising signals” about the chance of a fresh Brexit agreement between the UK and the EU, even if the country hasn’t come forward with a workable, realistic plan. Optimism that a deal could be reached has been increasing following a meeting between Boris Johnson, UK prime minister, and Leo Varadkar, Irish taoiseach, on Thursday, after which the two said they could see a “pathway” to a possible Brexit deal.
After meeting British Prime Minister Boris Johnson for talks, Irish Prime Minister Leo Varadkar said on Thursday that a deal to let Britain leave the European Union in an orderly fashion could be sealed by the end of the month. Varadkar called the talks “constructive,” while the two leaders said in a joint statement that they could “see a pathway to a possible deal”. But it remained unclear what the pair agreed on.
But with Britain due to leave the world’s biggest trading bloc on Oct. 31, the fate of Brexit is still in the balance. Market players said investors remained skittish. Moves in sterling reflected a tendency to jump on any signs of progress.
“We are moving to a glimmer of hope, rather than strong expectation that things will get done,” Tim Drayson, head of economics at Legal & General Investment Management. Yet Drayson said that any deal struck between Dublin and London would then face the hurdle of the British parliament, even after securing agreement from the European Union. “I think the odds are that we don’t reach an agreement, but I’m not expecting a crash out on October 31.”
“We still think that markets are probably underpricing the likelihood of a hard Brexit scenario,” said Salman Baig, a cross-asset investment manager at Unigestion whose pound short appears to have been steamrolled by a backbreaking short squeeze.
In geopolitics, US House Republicans said they will introduce sanctions against Turkey in response to its offensive against Kurds in Northern Syrian, according to newswires. Subsequent reports indicate European response could be debated as early as next week
In commodities, oil prices jumped by 2% after Iranian news agencies said a state-owned oil tanker was struck by two missiles in the Red Sea near Saudi Arabia, raising the prospect of supply disruptions from a crucial producing region. Brent crude was up around 2.1% at $60.36 per barrel.
Expected data include the University of Michigan Consumer Sentiment Index. Fastenal is reporting earnings
Market Snapshot
S&P 500 futures up 0.7% to 2,962.75
STOXX Europe 600 up 1% to 386.50
MXAP up 1.2% to 157.15
MXAPJ up 1.4% to 504.43
Nikkei up 1.2% to 21,798.87
Topix up 0.9% to 1,595.27
Hang Seng Index up 2.3% to 26,308.44
Shanghai Composite up 0.9% to 2,973.66
Sensex up 0.9% to 38,227.49
Australia S&P/ASX 200 up 0.9% to 6,606.81
Kospi up 0.8% to 2,044.61
German 10Y yield fell 1.4 bps to -0.483%
Euro up 0.05% to $1.1010
Italian 10Y yield rose 8.7 bps to 0.616%
Spanish 10Y yield fell 3.3 bps to 0.194%
Brent futures up 1.5% to $59.96/bbl
Gold spot up 0.4% to $1,499.17
U.S. Dollar Index down 0.2% to 98.52
Top Overnight News from Bloomberg
Trump said the first day of high-level trade negotiations between the U.S. and China on Thursday went “very well” and that he plans to meet with the top Chinese negotiator Friday
The U.K. and the European Union took a step closer to agreeing the terms of Brexit after a positive meeting between the British and Irish leaders identified a “pathway” to a potential deal. The pound jumped by the most in seven months. No-Deal Brexit to cost Ireland 73,000 jobs, central bank Says
The “jury is out” on whether the current slowdown in the U.S. economy will turn more severe amid weaker global growth and uncertainty over trade policy that’s chilling investment, according to Federal Reserve Bank of Dallas President Robert Kaplan. Federal Reserve Bank of Cleveland President Loretta Mester says U.S. central bankers should wait for fresh economic information before deciding their next policy move
The Bank of Japan’s promise to keep pumping extra money into the economy will eventually clash with its efforts to control interest rates, according to Hiromi Yamaoka, the former head of the central bank’s financial markets department. Yamaoka said the pledge to expand the monetary base until inflation is above 2% should be changed to make it easier for the BOJ to keep yields where it wants them
Asian equities took their cue from the rally on Wall Street which saw the DJIA close just below 26,500 as US President Trump said he will meet with Chinese Vice Premier Liu He. ASX 200 (+0.9%) was supported by energy and mining names, whilst Nikkei 225 (+1.2%) felt tailwind for a weaker Yen. Elsewhere, Hang Seng (+2.4%) outperformed as heavyweight financials and oil-related stocks bolstered the index amid a high-yield and firmer oil price environment. Meanwhile, Shanghai Comp. (+0.9%) swung between gains and losses with the mainland remains on-guard as sticking points remain between the two largest economies. Hong Kong Protesters reportedly are mulling whether to scale back on vandalism and violence as it risks alienating more moderate supported, according to reports. Japanese Typhoon Hagibis is forecast to be the most powerful typhoon to hit Tokyo since 1958, according to the meteorological agency.
Top Asian News
Malaysia Widens Budget Deficit Target to Weather Trade War
Tencent Gets ‘Wakeup Call’ From China’s Assertions of Patriotism
Violent Typhoon Heads for Japan, Canceling Over 1,000 Flights
Major European bourses are firmer thus far this morning as US-China newsflow remains light ahead of Trump and Liu He’s meeting at 19:45BST today; and following a positive Asia-Pac session where sentiment remained buoyed going into day two of talks. Sectors clearly illustrate the mornings heavy newsflow. With IT the notable outperformer following SAP (+7.6%) reporting earnings which were above Prev. and news that the CEO is to step down with immediate effect being well received. Also, firmer this morning are energy names following an Iranian tanker incident this morning, which is outlined in the Commodity section below. However, consumer discretionary names are suffering on the back of Hugo Boss (-13.3%) cutting their FY19 EBIT target citing persistent macroeconomic uncertainties; alongside, a number of downgrades at brokerages. Elsewhere, the FTSE 100 is this morning’s clear laggard given the recent upside in Sterling on positive Irish/UK PM comments regarding Brexit. However, in-spite of the index’s weakness the upbeat Brexit commentary has lent support to politically sensitive Co’s such as housebuilders and banks; although most recent comments from EU Council President Tusk have brought yet more urgency into the talks stating if there are no sufficient proposals today then he will have to announce there is no chance for a deal at next week’s summit. International Air Safety Panel have faulted the FAA for their certification of the Boeing (BA) 737 Max; FAA failed to sufficiently assess the MCAS system, did not sufficiently consider now design features of the craft, some regulations are out of date.
Top European News
Equinor Green-Lights $550 Million Subsidized Floating Wind
European Equities To Fall 8% in No-Deal Brexit Scenario: BofAML
Two Out of Three Options Trades Now Look for a Stronger Sterling
EU Will Discuss Sanctions Against Turkey Next Week: Syria Update
In FX, Aud/Usd has extended gains beyond 0.6750 and through the 50 DMA (0.6778) to within a whisker of 0.6800 on a wave of US-China trade optimism after day one of talks in Washington and generally positive updates from both sides on the status of trade negotiations thus far.
GBP – Yet another white knuckle ride for Sterling after a more pronounced short squeeze on Irish backstop breakthrough hype inspired by Thursday’s meeting between UK PM Johnson and Ireland’s Varadkar, and the latest catalyst came via EU’s Tusk rather Britain’s Brexit Minister Barclay or EU kingpin Barnier that have now completed their rendezvous to discuss the situation. In short, Tusk said the deadline for alternative border/customs proposals is today and as yet they have not been submitted, prompting an abrupt/sharp Pound plunge, but then revived bullish momentum by noting that promising signs from the Irish PM mean a deal can still be done. In terms of market moves, Cable collapsed to almost 1.2400 before regrouping and flying back up to 1.2500+ awaiting the debriefing from Barnier to EU states and fading just short of 1.2550, while Eur/Gbp has whipsawed between 0.8867-0.8789 and is poised just above 0.8800, but below the 200 DMA (0.8830).
NZD/EUR/CAD – All firmer vs a flagging Greenback (DXY only just holding above 98.500), with the Kiwi piggy-backing its Antipodean counterpart and climbing towards 0.6350, Euro consolidating above 1.1000 and Loonie maintaining a bid over 1.3300 ahead of Canadian jobs data and as oil prices rally in wake of an Iranian tanker missile attack . Back to Eur/Usd, decent option expiries at the 1.1000 strike may figure (1.4 bn), while tech levels could also influence trade/direction given Fibs at 1.1021 and 1.1055 and DMAs at 1.1054 and 1.0987 (55 and 21 respectively).
CHF/JPY – More safe-haven unwinding has nudged the Franc a bit nearer parity vs the Dollar and a test of 1.1000 against the single currency, while the Yen has slipped under 108.00 to expose September’s peak a fraction below 108.50.
EM – The Cnh is also anticipating good news from the President Trump-VP Lui He date at the White House that will officially close the latest round of talks, with the offshore Yuan hovering around 7.0900, but the Try has retreated in wake of US sanctions over Turkey’s military actions in Syria awaiting the EU’s response at next week’s summit – Lira back down towards 5.8750.
In commodities, Brent and WTI have been lifted this morning to gains of over USD 1/bbl at best on the back of early geopolitical newsflow that a Iranian tanker was on fire after a explosion near Saudi’s Jeddah port which led to heavy tanker damage and reports that oil was leaking into the Red Sea. TankerTrackers believe this tanker could be the SINOPA tanker which was on route to Syria and had a cargo of 1mln barrels on board. Subsequently, newsflow noted that the explosion was due to missiles and there were some reports that this originated from Saudi Arabia; however, Iran’s National Tanker Co. have denied reports that they said the missiles originated from Saudi Arabia though the Foreign Ministry confirm two hits on the tanker. The updates evidently led to a crude bid on further geopolitical tensions, particularly as reports note this is the 3rd Iranian tanker to be hit in around 6-months in this area; focus now turns to clarity on where the missiles originated from. Separately, today’s IEA report marked the end of the monthly trio where they cut their demand forecast form 2019 in stead with the other two reports. In terms of metals, spot gold was lifted above the USD 1500/oz mark on the middle-east geopolitical premium with the upcoming US-China trade talks also in focus; although it has since dropped back below.
US Event Calendar
8:30am: Import Price Index MoM, est. 0.0%, prior -0.5%; Import Price Index YoY, est. -2.1%, prior -2.0%
8:30am: Export Price Index MoM, est. -0.05%, prior -0.6%; Export Price Index YoY, prior -1.4%
10am: U. of Mich. Sentiment, est. 92, prior 93.2; Current Conditions, est. 109, prior 108.5; Expectations, est. 82.5, prior 83.4; 1 Yr Inflation, prior 2.8%; 5-10 Yr Inflation, prior 2.4%
11:45am: Bloomberg Oct. United States Economic Survey
DB’s Jim Reid concludes the overnight wrap
What does or doesn’t happen over the next few days could have major ramifications for global politics for years to come. At the start of the week things looked bleak on prospects of any kind of US/China trade deal and even bleaker on the prospect on a Brexit deal. However we close out the week with renewed hopes on both of these with the latter being the more surprising of the two.
Indeed the Irish and U.K. PM’s joint statement “agreed that they could see a pathway to a possible deal.” The Irish Times suggested that there had been “significant movement” from the UK on the customs issue. If there has been a concession on NI customs this could very easily alienate the DUP and they’ve suggested they won’t back it. However where this would become clever is if Mr Johnson agreed to back down on this and agree a deal only on the basis that the EU refuse to back an extension if U.K. MPs vote this deal down. In this scenario ironically the very people who forced the government into the Benn Act (that takes no deal off the table) would be the ones responsible for a no deal if they voted the deal down. This calculation does rely on the ERG group staying with PM Johnson and not going back to rebelling but their bar to rebel seems to be higher under Johnson than May. So far we’ve got no details from the U.K. side and only cautious positive soundbites from the Irish (a big improvement relative to where we’ve been though). However no leaked news is probably good news for now and it’s remarkable that I’ve woken up this morning with nothing on the wires to flesh out the progress. Sterling rallied +1.97% against the dollar yesterday – the most in 7 months. In terms of next steps, the UK’s Brexit Secretary Stephen Barclay will be meeting the EU’s chief negotiator Michel Barnier today as the two sides look to move closer towards a deal ahead of Thursday’s EU Council summit. A long long way to go but unexpected hope after yesterday.
Prior to the Brexit developments the mood in markets started to pick up after a tweet from President Trump just after the US open, as he confirmed he would meet with Vice Premier Liu He at the White House today at 2:45pm. The fact that the President is meeting the Vice Premier directly can be seen as a positive sign for the path of negotiations, offering hope that some sort of ‘partial deal’ of the sort that has been briefed out might be possible. After US markets had closed, Trump said that the discussions were going “very well,” helping S&P 500 futures to trade +0.37% higher this morning. As part of this reported partial deal, Bloomberg reported that the White House is looking at rolling out a currency agreement with China that they’d previously agreed before the talks broke down earlier in the year, while not going ahead with the tariff hikes planned for October 15. For their part, China is reportedly asking for no further tariff hikes, as well as the elimination of sanctions on their national champion shipping company, COSCO. The US had barred American firms from doing business with the Chinese shipping giant last month, accusing the firm of transporting Iranian crude oil.
As a final point on the trade war, it’s worth reading this report (link here ) from our US economists from earlier this week. They delve into regional data to show that the trade war has had an outsized negative effect on counties that rely more on manufacturing. Interestingly, those counties also tended to be the ones which supported President Trump more in the 2016 election, meaning there are clear political implications to the current trade war.
Trade-sensitive stocks saw the biggest gains for the second consecutive day, with the Philadelphia semiconductor index up +0.97%, while the S&P 500 and the NASDAQ closed up +0.64% and +0.60% respectively. Meanwhile bonds continued their earlier sell-off following the tweet, with 10yr Treasuries +7.9bps, and we saw another slight steepening of the curve, with the 2s10s closing +0.3bps, its 3rd consecutive move steeper. Bunds (+7.8bps) and BTPs (+8.9bps) also lost ground, with 10yr bund yields closing above -50bps for the first time in in over 3 weeks. Gilt yields rose +12.7bps, their biggest one-day increase in over a year.
The initial catalyst for the Euro government move seemed to be the FT story we mentioned as we went to press yesterday that the ECB monetary policy committee was at odds with the governing council. As we’ll see below the minutes backed up the splits at the ECB but nothing that came out yesterday should be a surprise. The market just decided to react to it more yesterday, and the selloff was given further boosts by the improvement in risk sentiment and a move higher in oil prices (+2.03%) after OPEC Secretary General Barkindo committed to do “whatever it takes” to prevent a drop in prices.
Asian markets are higher this morning on the more positive trade sentiment with the Nikkei (+1.08%), Hang Seng (+2.19%), Shanghai Comp (+0.44%) and Kospi (+1.00%) all up alongside most other markets. Yields on 10yr JGBs are up +2.7bps to -0.190%. Elsewhere, WTI crude oil prices are also up a further +0.56% and most agriculture (CBT Soybean +0.68%) and base metal (Copper c. 1%) commodity futures are also up.
Overnight we also got some Fed speak with Cleveland Fed President Loretta Mester, a hawk, saying that US central bankers should wait for fresh economic information before deciding their next policy move. She also said that she did not support the central bank’s decision to cut interest rates in July and September as her preferred strategy “was to take action only if there were evidence of a material deterioration in the outlook and not merely on heightened risks”. Meanwhile, on the Fed’s ongoing framework review, she said that she understands the argument for a so-called make-up strategy, like average-inflation targeting, for addressing below-target inflation, but says the Fed would be challenged to commit credibly to such an approach and added that it would be better for the Fed to not overreact to variations of inflation around the 2% target. Elsewhere, in an interview with the WSJ, Minneapolis Fed President Neel Kashkari, a dove, said that if data continues to come in the way it has, he will support another rate cut of 0.25%.
Back to yesterday and the positive sentiment also supported European equities, with the STOXX 600 up +0.65% and bourses across the continent ending in the green. Amidst the sterling rally, the FTSE 100 underperformed other European bourses rising only +0.28% despite the positivity in the air. Brexit sensitive stocks like U.K. financials were strong after the joint statement with the more domestically-focused Lloyds and Barclays gaining +3.89% and +2.90% respectively, while the more international and sterling-exposed HSBC retreated -1.09%.
In terms of the data yesterday, there were signs that the UK might have avoided a recession this quarter. Although monthly GDP data for August showed a -0.1% contraction (vs. unch expected), the July figures were revised up a tenth to +0.4% mom. After the -0.2% contraction in Q2, there has been nervousness that the economy would enter a technical recession, but the quarterly growth for the 3 months to August was at +0.3% qoq (vs. +0.1% expected). In spite of this, a number of the sector readings disappointed, with industrial production contracting by -1.8% yoy, the biggest yoy contraction since August 2013.
This contraction in industrial production was a theme elsewhere in Europe, with data from France also disappointing. Industrial production fell -1.4% yoy (vs. +0.1% expected), which is the biggest contraction of 2019 so far. It was a similar story in Italy, where industrial production fell -1.8%, as expected, but also the biggest yoy fall this year so far.
Turning to the US, CPI came in slightly below forecasts, with the September reading showing no mom change in prices (vs. +0.1% expected), which meant that the yoy reading remained at +1.7% (vs. +1.8% expected). Core inflation was also slightly below expectations, +0.1% mom (vs. +0.2% expected), with the yoy reading remaining at +2.4% (vs. +2.4% expected). Meanwhile weekly initial jobless claims were better than expected at 210k last week (vs. 220k expected), with the 4-week moving average ticking up slightly to 213.75k (vs. 212.75k previously).
Back to Europe, and the release of the minutes from September’s ECB meeting confirmed much of what we already knew, in that a number of members on the Governing Council had been opposed to the package of easing the ECB unveiled. Although the account revealed that “a few members” had been prepared to cut the deposit facility rate by 20bps, “in particular as part of a package that would exclude net asset purchases”, there were others who were against even the smaller 10bp cut, “as they were concerned about the possibility of increasingly adverse side effects from additional rate cuts.” With President Draghi departing at the end of the month, there’s going to be work to do in bringing unanimity back to the Governing Council under the ECB’s next leadership.
Speaking of EU leadership, France’s candidate for the next European Commission, Sylvie Goulard, was rejected by the European Parliament yesterday. She currently serves as the Deputy Governor at the Banque de France, and is the 3rd candidate for the next Commission to have been rejected so far in the confirmation hearings.
The Eurogroup of finance ministers also met yesterday, and agreed on a new common budget instrument, the budgetary instrument for convergence and competitiveness or BICC. However, this instrument is small at around 0.2% of GDP and draws its funding from the EU budget, so it does not represent a new fiscal commitment by European authorities. Also, Commissioner Moscovici, who has been watched for signals that the EU would allow countries to loosen their purse-strings this year, said “if there is a more marked downturn, we should not tighten our policies.” That’s an extremely tentative signal that the Commission would allow for easing if growth deteriorates further.
Looking at the day ahead, the data highlights include the final September CPI readings from Germany, while the main US release will be October’s preliminary University of Michigan sentiment indicator. Elsewhere, we’ll have the US import price index for September, as well as the Canada’s unemployment rate for September. Central bank speakers include the Fed’s Kashkari, Rosengren and Kaplan, along with the ECB’s de Guindos, Hernzndez de Cos and Costa. Finally, the winner of this year’s Nobel Peace Prize will be announced.
Pound Climbs As Top EU Official Says Brexit Deal Looks “Promising”
The pound extended its Thursday-evening gains on Friday after EU Council President Donald Tusk said he had seen “promising signals” from UK PM Boris Johnson’s Thursday meeting with Irish PM Leo Varadkar, according to the FT.
With these remarks, Brexit optimism, which has been slowly simmering all week, is cresting heading into the weekend after Varadkar said he could see a “pathway” to a deal. In one week, the UK and its EU partners will meet in Brussels at a EU Council meeting where Johnson hopes a final deal can be hammered out. Of course, he then would have to sell the deal to Congress.
Tusk said Friday during a speech in Brussels that “I have received promising signals from the Taoiseach [Varadkar] that a deal is still possible. Technical talks are taking place in Brussels as we speak. Of course, there is no guarantee of success and the time is practically up. But even the slightest chance must be used.”
However, Tusk cautioned that the UK still hasn’t come forward with a “workable, realistic proposal.” Varadkar has said he thinks a deal can be secured by the end of the month, but Johnson wants to nail down an agreement before the start of the EU Council meeting next weekend.
As we noted yesterday, Johnson and his team of negotiators believe winning over Varadkar is their best hope for a deal. After trying to negotiate with Michel Barnier, the EU27’s appointed lead negotiator, the UK believes Barnier is too intransigent in his positions, and can’t be trusted to meet the UK halfway, even after No. 10 has made meaningful concessions. Still, Johnson’s Brexit Secretary Steven Barclay met with Michel Barnier on Friday to work out the technical details of a “consent mechanism” and new customs arrangements for Northern Ireland. A spokesman for the European Commission later described Barnier’s meeting with Barclay as “constructive,” sending cable even higher. Whatever happens, Johnson and his team must ensure that a new deal can make it through parliament.
Even Julian Smith, secretary of Northern Ireland, said there was now a “distinct possibility” of a deal. According to the FT, details of a “compromise” deal could start leaking as early as Friday afternoon.
Most investment banks (including Goldman Sachs and Deutsche Bank) still believe the UK will leave the EU with a deal. But this wouldn’t be the first time that both sides have sent out signals that a deal is imminent, only for nothing to materialize.
Iranian Oil Tanker Struck By 2 Missiles Near Saudi Port
Many questions remained unanswered early Friday after an attack on an Iranian oil tanker in the Red Sea sent oil prices higher, in the latest attack on energy-industry infrastructure in an increasingly volatile part of the world. According to the New York Times, a fire erupted on an Iranian oil tanker about 60 miles from the Port of Jeddah on Friday after the tanker’s two major tanks were struck by missiles, causing an oil spill.
No crew members were hurt and the ship is reportedly in stable condition, according to Iranian state news media. The National Iranian Oil Company, which owns the tanker, said the ship was struck at 5 am local time and 5:20 am local time. Iranian officials said Friday that the incident was “an act of terrorism”, but they insisted that the ship had suffered minimal damage and that only a small amount of oil had spilled into the ocean. The Iranians also denied that the ship had caught fire, despite photos purportedly depicting the blaze.
#BREAKING: There is No longer fire & oil leakage in #Iran‘s oil tanker #SABITI. Images taken an hour ago show the oiler in #RedSea after changing its course. There are two possibilities behind the two explosions in the ship: 1-#SaudiArabia‘s attack 2-#Israel Navy attack. pic.twitter.com/2WGYMHlV3R
Iranian media said “technical experts” are still investigating the cause of the explosion, though Iranian state media initially blamed Saudi Arabia. The Kingdom, meanwhile, denied any responsibility for the attack. However, according to conflicting reports, the National Iranian Oil Company denied that Saudi Arabia, Iran’s archrival in the region, was behind the attack, and instead pointed the finger toward Israel.
Another inconsistency emerged when Iran said a tanker known as the Sabiti had been hit. But the ship-tracking website Marine Traffic shows the vessel hasn’t transmitted any location data since mid-August.
Of course, this isn’t the first attack on an oil tanker in the region this year. Iran has been blamed for torpedoing oil tankers belonging to Japanese and Panamanian shipping companies in an incident that also hasn’t been fully explained. Iran has also been accused of an attack on an Aramco facility inside Saudi territory (that attack was reportedly carried out with drones and cruise missiles). Saudi Arabia has only just restored production to its levels from before the attack. The US Navy said it was “aware” of the attack.
Oil prices jumped on news of the attack. Brent crude futures were up 2% early Friday, sending them back above $60 a barrel. Bunds and Treasuries climbed on a haven bid.
Whatever the details of the attack may be, there’s no questions that the attack marks a major escalation of tensions in the region.
Man, I want to get away from US (and UK) politics, it’s too depressing and I’ve already covered it so much. But I keep getting drawn back in by the nonsensical propaganda out there. I read a lot of stuff every single day, and every single piece is starting to look like any other. I took the following from the Guardian, but it could have been any MSM outlet really. The whole thing is one big insult to my one remaining brain cell (which I’m trying to kill but can’t find).
First: if you see written or otherwise pronounced anywhere that Donald Trump fears Joe Biden, in elections or anywhere else, you’re reading propaganda. Trump has no reason to be afraid of Biden. Not that he minds the Democrats thinking he is. Second: if you see people claiming that accusations about Biden’s ‘dealings’ in Ukraine are unproven, remember that they’ve never been investigated. Maybe a Special Counsel would be an idea. Say, three years and $40 million? Let’s see after that.
Despite the lack of scrutiny, both from the DOJ and the media, we do know that Hunter Biden was paid $50,000 a month by Ukrainian energy company Burisma for not knowing anything about gas, oil or Ukraine. And we know from a Ukrainian MP that Joe Biden himself was paid $900,000 by Burisma. Those are not unproven allegations, as almost every outlet calls them. And they sure as hell ain’t unfounded.
Plus, Trump has every right to ask questions about this, whether in the US or elsewhere. Where he won’t be able to ask questions, if Pelosi and Schiff have their way, is in the fake impeachment inquiry. There he may not even be able to bring a lawyer. Who’s afraid of whom exactly, and of what? Here’s that Guardian piece:
Joe Biden has for the first time called for Donald Trump to be impeached for abusing the powers of his office to help his own re-election. Delivering a blistering 25-minute speech at a campaign event in New Hampshire on Wednesday, Biden, the former vice-president under Barack Obama, departed from his usual campaign pitch and signalled that he will aggressively confront Trump as the president pushes unfounded accusations that Biden and his son Hunter had nefarious dealings in Ukraine.
Trump is “shooting holes in the constitution”, Biden said, by asking foreign powers to interfere in the 2020 election by pursuing dirt on the Bidens and then refusing to cooperate with a resulting House impeachment inquiry. “This is a president who has decided this nation doesn’t have the tools, the power, the political will” to punish bad behavior, Biden said, cataloguing a litany of Trump’s misdeeds that he said warrant impeachment. “He’s not just testing us,” Biden said. “He’s laughing at us.” Trump retorted via Twitter. “So pathetic,” he wrote.
It is curious. The entire fake impeachment inquiry is based on Trump pursuing dirt on Biden, specifically in his phone call with Ukraine president Zelensky. Something Zelensky himself more than once has squarely denied ever happened. What must he think of the US, when his denials are completely ignored?
What did happen, says John Solomon, is that a DNC contractor solicited Trump dirt in 2016 in Ukraine. Given the above, is it any wonder Zelensky’s said he’d be happy to investigate what happened in Ukraine in 2016? He might take a look at the Biden family while he’s at it.
Nancy Pelosi, the House of Representatives speaker and the most powerful Democrat in Congress, announced an impeachment inquiry against Trump on 24 September after a whistleblower alleged the White House had attempted to cover up a July call between Trump and the Ukrainian president. At issue is the question of whether Trump abused his office by using its power to his own political advantage, by pushing a Ukrainian investigation of Joe Biden and his son Hunter, who was on the board of a Ukrainian energy company.
There is no evidence to support Trump’s claims that Biden exploited his influence as vice-president to aid his son or his business. Biden on Wednesday again condemned Trump’s “lies and smears and distortion” and said the president peddles them because he fears facing Biden in a general election. “He’s trying to create a campaign where truth and facts are irrelevant,” Biden said, adding that the spectacle covers the president’s “manifest incompetence”. “We’re not going to let Donald Trump pick the Democratic nominee for president,” Biden added. “I’m not going to let him get away with it. He’s picked a fight with the wrong guy.”
Joe, Joe, Trump didn’t pick a fight with you. And he’s not scared of you either (but he loves for you to think he is). You’re flattering yourself. And you’re not some tough guy either, you’ve lived on Capitol Hill for too long to be tough.
Without evidence, and contrary to the accounts of several Ukrainian officials, Trump has claimed Biden used his role as vice-president to protect his son from corruption investigations when he pressed for the firing of the top Ukrainian prosecutor, Viktor Shokin, during Obama’s second term. Ukrainian officials, including one Shokin successor, have disputed Trump’s claims, and Biden has previously noted that the Obama administration’s position was supported by many other western governments, who saw Shokin as incompetent or corrupt.
Yeah, you know who called Shokin incompetent or corrupt? Victoria Nuland, that’s who. The story was that he wasn’t tough enough on corruption, but in reality he was too tough on corruption involving the US and its friends. For instance, he was investigating Burisma, and Joe Biden didn’t like that one bit. And the ‘many other western governments’ didn’t have enough knowledge to contradict the US in this.
Many of the other 19 Democratic 2020 candidates have long supported the opening of an impeachment inquiry into Trump, following the findings of Robert Mueller’s investigation into Russia’s interference into the 2016 election and links between the Trump 2016 campaign and Moscow.
This takes the cake. And eats it too. What the Guardian claims here is that the utter failure that was the Mueller probe, which failed to find any dirt on Trump, has been reason for the Democratic candidates to support an impeachment inquiry into Trump over a phone call with Ukraine. How convoluted is that? There were no links between the Trump 2016 campaign and Moscow. Don’t take my word for it, Mueller said so.
“Following the findings of Robert Mueller’s investigation..” Mueller didn’t find anything, remember? The only things left standing in his report were accusations against Julian Assange and a bunch of anonymous Russians, because he knew these were people who couldn’t defend themselves. Because of that, I said back in February that Robert Mueller Is A Coward And A Liar. He is. He is not a stand-up straight shooter.
Biden’s speech on Wednesday came as his campaign continues internal deliberations over the best way to handle Trump’s broadsides and an impeachment inquiry that could last months and potentially never result in the Republican-led Senate removing Trump from office – even if the Democratic-led House impeaches him. “When I announced my candidacy,” Biden recalled,“I said I was running in order to restore the soul of America. That wasn’t hyperbole.”
Ha ha. Could have fooled me there, Joe. Restore the soul of America without hyperbole. Brilliant!
But his advisers also point to the 2016 presidential campaign, when Trump dominated media narratives of the Republican primary and the general election against Hillary Clinton with a barrage of attacks on his opponents that forced them to campaign on his terms. Biden nodded at that reality, as well, and promised he won’t let that get in his way. “I’m not going to be distracted,” he said. “None of these attacks are true, and I’m going to stay focused on your lives. That’s what this election is about,” he continued.
Look, it’s not okay that whistleblower rules are changed in half-secrecy overnight from requiring first-hand to second (or third) hand information. It’s not okay that the Democrats try to start an impeachment inquiry while disregarding the rules that have long existed for such an inquiry. It’s not okay that they do so on the basis of a phone call that the Ukraine president himself says contained none of the ingredients the Dems claim it did.
It’s not okay to try and keep the Republican House minority out of the proceedings, and it might even disqualify those proceedings entirely. If Trump is as bad a person and politician as the Democrats claim, it must be possible to figure that out while at the same time respecting the rules, regulations and the entire political system. Once you deviate from all that, you put the system itself at risk. Is that worth it? There’s an election in just over a year.
The media continues to refer to Trump’s allegations about Biden as unproven, knowing full well they’ve never been investigated. At the exact same time, they also keep bringing up Trump’s alleged ‘nefarious’ dealings with Russia, even though 2+ years of Robert Mueller and an entire platoon of lawyers came up empty on those. A level playing field?
I think I have an idea who’s afraid of whom. And there’s also this creeping/creepy feeling that the impeachment inquiry that isn’t one, is part of the 2020 election cycle. And that isn’t, and should not be, what such inquiries are for. Not even if you’re afraid of losing the election – that’s cheating.
Specifically, US banking regulators have dropped an idea to subject local branches of foreign banks to tough new liquidity rules (forcing US branches of foreign banks to hold a minimum level of liquid assets to protect them from a cash crunch).
As The FT further details, people familiar with his thinking say Randal Quarles, the vice-chair for banking supervision at the Fed, accepts the banks’ argument that any liquidity rules on bank branches should only be imposed in conjunction with foreign regulators.
“Without some international agreement, we could have the situation where each country is trying to grab whatever isn’t nailed down if there is another scare.”
And Deutsche Bank benefits most (or rescued from major liquidity needs) since it has by far the largest assets in US branches…
Why would The Fed do this?
Simple, it cannot afford another Lehman-like move (or even the fear of one)…
The Swedish Board of Education has backed down from a plan to erase teaching of the country’s ancient history and replace it with “postmodernism” classes after a huge backlash.
Skolverket initially announced a plan to abolish teaching of history prior to 1700, including ancient Greece, the Swedish Great Power era in the 17th century, Rome, and the dark ages.
The classes were set to be replaced by a greater focus on “postmodernism” and the post war 20th century era.
However, the board was forced to back down after acknowledging there was “a lack of support for our suggestion.”
The original proposal was widely denounced, including by Professor of History Dick Harrison, who labeled the idea “intellectual suicide and f**king sick.”
One wonders what kind of state a country is in that it would try to abolish teaching of its own history.
Back in 2017, “cultural journalist” Kristina Lindquist said that Sweden is so xenophobic, it doesn’t even deserve to celebrate its own national day and that “nationalism should be wiped out.”
The next year, Sweden appointed a Pakistani Muslim migrant as the head of its national heritage board, with the individual admitting that he had not “read anything about cultural heritage.”
* * *
My voice is being silenced by free speech-hating Silicon Valley behemoths who want me disappeared forever. It is CRUCIAL that you support me. Please sign up for the free newsletter here. Donate to me on SubscribeStar here. Support my sponsor – Turbo Force – a supercharged boost of clean energy without the comedown.
“A Serious Malfunction” – How French Intelligence Overlooked The Terrorist In Their Ranks
It’s an alarming oversight with terrifying implications: The intelligence unit of Paris Police somehow overlooked a radicalized Islamic convert within their own ranks. Last week, the troubled individual in question carried out an attack inside Paris Police headquarters that ended with four victims stabbed to death, while the attacker was shot down by his former colleagues.
WSJ has the full the story of how Mickaël Harpon, the 45-year-old attacker in question, evolved from a quiet IT expert into a disaffected convert to Salafism – a fundamentalist version of Islam that is widely credited as the inspiration for Al Qaeda and other terror groups.
According to WSJ, the attack has destroyed the country’s confidence in its intelligence apparatus and its procedures for rooting out potential purveyors of Islamic terror.
Even though he worked inside the Paris Police’s Intelligence Unit, his transformation into a dangerous ideologue somehow went unnoticed. What’s worse: As one of the unit’s IT specialists, Harpon had access to top-secret information, including the identities of agents going undercover inside mosques around the city. His desk was positioned just steps away from the division’s leaders. Now, hundreds of agents are examining flash drives found at Harpon’s desk, and they’re trying to determine whether he shared any classified intel with other extremists.
Despite his seeming importance within the organization, Harpon told friends that he felt he wasn’t being taken seriously at the office, and that he suspected he had been passed over for promotion because of a disability.
The disability? Deafness in one ear that forced him to wear a hearing aid. The disability stemmed from his childhood on the French Caribbean island of Martinique. As a boy, Harpon was afflicted with meningitis in his youth. The sometimes fatal illness caused the hearing loss.
Soon after he was hired by the intelligence division inside the Paris police force in 2003, his superiors found him to be a dedicated and efficient employee. Slowly, he gained more trust and more seniority within the organization. He converted to Islam several years after joining the Paris PD, after he had moved in with a Muslim woman from Madagascar. They eventually married, despite a complaint filed by the woman claiming she had been abused by Harpon. The complaint was later withdrawn, but it resulted in Harpon receiving an administrative sanction.
When he married, Harpon should have triggered another background check for himself and his bride. However, it was never carried out, and he maintained his security clearance.
French Interior Minister Christophe Castaner described this oversight as “a malfunction”.“Would that have changed things? I don’t know,” he added.
But that’s not even the most galling oversight. In 2015, shortly after the shooting at the offices of Charlie Hebdo, a colleague of Harpon’s allegedly heard him comment that the victims “deserved it.” He reported this comment to superiors within the department. But shockingly, nothing was done.
There was neither a mention of the complaint in Harpon’s personnel file, nor a motion to carry out another background check. His next background check to maintain his security clearance was slated for 2020.
Castaner described this oversight as “a serious malfunction.”
A friend of Harpon’s told WSJ that he was a quiet man who never showed any indication that he had become radicalized, and was planning an attack.
“He felt people didn’t take him seriously because of his handicap,” the friend told WSJ.
Even his wife told police that she didn’t suspect an attack. At worst, she feared, Harpon might kill himself.
Hopefully, French intelligence will tighten up its security standards and oversight of its employees after this incident. But winning back the trust of the public will probably require a serious effort on behalf of the agency.
It has been over a decade since Zimbabwe was ravished by one of history’s worst experiences in hyperinflation, reaching 79,600,000,000 percent as prices doubled approximately every 24.7 hours in November of 2008. Today under new leadership, it seems as though the government of Zimbabwe has failed to learn from its previous mistakes in what policy to ascribe to as it enters into another period of tumultuous times and economic hardship for its citizens as hyperinflation has entered the picture again.
Zimbabwe’s horrendous experience with hyperinflation came from monetizing its expenses as a result of several years of failed political reforms such as confiscation of agricultural properties and price controls. This resulted in GDP declining -17 percent in 2008 (see Figure 1). With Zimbabwe’s practice of printing money, the government decided in 2009 to abandon their local currency and replaced it with foreign currency such as the US dollar and African Rand, which helped provide more stabilization.
Figure 1: Source: World Bank (Zimbabwe GDP 2008–2018)
However, after its rapid expansion from 2009 to 2012, Zimbabwe’s economy began to slow down significantly in 2013 as they were met in the beginning of the year with the government having a minuscule balance of $217 in its public account. The same year Robert Mugabe, representing the ZANU-PF party, was reelected in the general election with the promise of continuing indigenization policies. The indigenization policies would attempt to create greater equality and economic growth by violating property rights and requiring foreign or white-owned companies to give a majority portion of their ownership to indigenous blacks. In doing so, Mugabe’s policy sent uncertainty within the market as it discouraged future foreign investment with the threat of asset confiscation, creating a lack of capital to expand production.
In addition, thanks to continued regime uncertainty, and with no monetary policy of its own, by 2014 Zimbabwe began to experience a shortage of physical cash which had reportedly led some people to use candied sweets and condoms in replace of change. Combined with this challenge, Zimbabwe had a poor harvest as it faced a drought in 2016 affecting five million people causing it to run a USD 1.4 billion deficit that made up 10 percent of national output causing an even further shortage of cash.
On November 21, 2017, after 37 years of ruling Zimbabwe with an iron fist, Mugabe resigned amidst political pressure of impeachment through a military coup. By the end of that week on the 24th, Emmerson Mnangagwa had become the new president of Zimbabwe. Immediately following Mnangagwa’s ascension to power, the president assured the population of drastic policy changes to help stabilize and boost economic growth.
Shortages and Price Controls
In the start of 2019, Zimbabwe’s highly-regulated economy began to experience a shortage of fuel. To curb the demand, and as an attempt to keep fuel supplies within the country, Mnangagwa decided to use the state-managed energy sector to raise diesel by 125 percent and petrol by 131 percent overnight. Such a drastic increase immediately led to a three-day protest leaving 12 people dead and 78 treated for gunshot wounds as a result.
In Zimbabwe, the increase in the price of fuel has caused transportation costs to soar, which resulted in detrimental effects for businesses as their costs rose. In order to compensate for the increased cost in fuel, entrepreneurs must offset that by either lowering profit margins or raising prices. In an interconnected economy where entrepreneurs rely on each other to supply goods and services to each other and utilize those goods and services for future production when one entrepreneur increases their prices, this begins to cause other entrepreneurs to raise their prices in order to maintain profitability.
Returning to Local Currency
By June of this year, worsened by a variety of factors from fuel prices to declining domestic output, ZIMSTATS (Zimbabwe National Statistics Agency) reported that inflation in Zimbabwe had reached 175.66 percent%. In an effort to to combat this hyperinflation, Zimbabwe’s finance minister Mthuli Ncube then declared that the use of foreign currency will be forbidden in domestic transactions and that its civilians can only use electronic Real Time Gross Settlement Dollars (RTGS) to combat the shortage of US dollars. If a citizen decides to withdrawal the RTGS from their local bank, then they will receive paper bond notes in the denominations of $2, $5, $10, and $20.
Source: Bloomberg
Adopting the RTGS as a single unit of exchange is a rapid change from the not too long ago hyperinflation blunder. After 2009, the Zimbabwean state had stabilized its monetary affairs by using nine different currencies as legal tender. Now, the act of abolishing the use of foreign currency will only invoke the practice of off-the-grid transactions through the black market if businesses lose confidence in the RTGS. Confidence in the RTGS has already taken a hit as the black market ratio for RTGS to USD has reached 11 to 1 compared to the governments set ratio at 6.2 to 1. The difference in exchange ratios has shown that Zimbabwe cannot be trusted by issuing its currency as people have yet to build that confidence since it’s debacle in 2008.
Furthermore, Zimbabwe has suffered a drought this year and is estimated to have its corn crop drop by 54 percent, which would result in the necessity to import corn to make up for the shortage. However, importing goods is challenging, considering the country has been short of US dollars for the past few years. In the same period, Zimbabwe has also undergone continuous power outages due to the drought, lasting up to 18 hours per day and costing manufacturers over $200 million in lost production. To make matters worse President Mnangagwa in August raised fuel for the seventh time up over 500 percent.
Since the inflation report, Zimbabwe’s finance minister Mthuli Ncube said that inflation figures would be postponed until February 2020. The reason for the delay is so that government officials will have more time and information to accurately determine what the inflation rate is as the present prices are not measured in US dollars. However, many citizens have objected to this postponement with the belief that the government is attempting to hide the real inflation rate while the black market inflation rate in Zimbabwe is estimated to be at 558 percent.
When government intervenes within the market by setting the price of a commodity outside of the natural market forces of supply and demand while enforcing legal-tender laws to require its citizens to make transactions in a currency they do not trust, such actions will inevitably lead to hyperinflation such as the situation in Zimbabwe. As we reflect upon the present crisis and monitor the situation until the next inflation statistics come out in 2020, the conditions look gloomy going forward unless Zimbabwe changes its direction toward more free-market-oriented policies and avoids continued government intervention that impoverishes the standard of living of its people.
