Tag: finance

Almost exactly one year ago, we wrote “Mario Draghi, Collateral Scarcity, And Why The ECB Will Soon Buy Corporate Bonds.” 11 months later, the ECB confirmed this when for the first time ever, Mario Draghi said he would do purchase corporate bonds when he launched the ECB’s Corporate Sector Purchase Programme (CSPP), confirming that with government bond collateral evaporating and the liquidity situation getting precariously dangerous and forcing moments of historic volatility (as in the April/May 2015 Bund fiasco), he had run out of other options.

And while we have been covering this key development closely since its announcement more than a month ago, we were surprised by how little attention most of the sellside was paying to what is clearly a watershed moment in capital markets as a central banks now openly backstops corporate bond issuance (among other things pointing out a month ago Why The ECB Will Be Forced To Buy Junk Bonds Next). Ironically, the market was fully aware of what the ECB’s action meant as we showed in the “The ECB Effect: European Telecom Issues Largest Ever Junk Bond After More Than 100% Upsizing.”

Now, following the release of the full details of its corporate bond buying program, analysts are once again keenly focused on hits program who impact will be dramatic over the coming years.

First, as a reminder, here are the big picture details:

• May buy in primary and secondary markets
• Issue share limit of 70% per ISIN
• Inclusion of bonds issued by insurance companies
• Can buy bonds of companies incorporated in the euro area whose ultimate parent is not based in the euro area
• Remaining maturity of 6 months and maximum of 30Y

What does this mean?  Deutsche Bank did a quick run through of the details:

As a quick summary assuming most have seen the details, some of the interesting or most notable points were as follows: The inclusion of non-bank financial institutions; The Eurosystem collateral framework as a basis for determining the eligibility (Non euro-area parent company bonds could be included); The Bank will be active in both the primary and secondary market; Minimum rating of BBB-; Maturity between 6 months and 30 years; Issue share limit size of 70%. It was also confirmed that the purchases will not be conducted by a third party and rather by six national central banks and are due to commence in June. 

 

So what are our thoughts? Well overall the technical parameters of the programme have exceeded our expectations in terms of the resulting size of the eligible universe. In particular this includes the criteria around incorporation, minimum rating, maturity and lack of minimum size of bond issue. As a result, the ECB should be able to do more than we previously expected, provided it is willing to. Our reading of the announcement is that they will at least try to make the CSPP a meaningful part of the extra €20bn of monthly QE purchases announced at their March meeting. We now estimate the size of the eligible universe to be about €770bn based on amount outstanding, and €865bn by market value. These amounts are 50% larger than we expected and we now estimate monthly purchases to be to the tune of about €5bn. While we appreciate that this positive announcement signals the ECB means business when it comes to corporate bond purchases, it still remains to be seen to what extent challenging liquidity conditions in the corporate bond market allow it to buy in size. We think the ECB will try to put a lot of emphasis on primary market purchases and rely on some “supply response” from eligible issuers.

Focus on the “liquidity conditions” part as that is where the next surprise to the market will emerge when there is another exogenous shock to valuations.

Or perhaps not, because as DB’s Barnaby Martin writes in a note overnight, “amid the [ECB’s] potential hubris, perhaps there has never been a greater need for credit investors to be alert to the divergence of spreads and fundamentals. For instance, Glencore and Shell bonds would appear to be eligible for the ECB to buy. But if commodity prices sour again, will spreads for these names move wider? Moreover with the inclusion of UK headquartered names on the ECB eligible list, can potential Brexit concerns ever adequately be priced into Sterling credit spreads before the Referendum?”

More to the point, Martin who notes that the ECB’s CSPP “is bullish for high-grade and also high-yield (via BBs), and expect secondary cash spreads to tighten more meaningfully in June once ECB buying starts (just as issuance is likely to have cooled down)” asks the simple question “Will the ECB QE the world”?

His answer is a tongue in cheek yes.

The reason, the ECB left a very calculated loophole in its buying parameters which allows the ECB to buy the corporate bonds of virtually any global corporation as long as it has an SPV incorporated in Europe!

We think the scope of ECB corporate bond buying could potentially be much greater than we had initially anticipated in March. The ECB stands ready to buy bonds from Euro Area issuers even when their parent companies are outside of the bloc. Already we can find a number of US, UK and Swiss headquartered names that issue out of SPVs incorporated in the Euro Area. If this trend to SPV issuance catches on, then the ECB’s policies will likely be very reflationary for all credit markets across the globe, and because of a likely refinancing wave – equity markets too.

Before we get into the specifics, here is his detailed breakdown of the CSPP and its immediate implictions.

• The Eurosystem’s collateral framework will be the basis for determining CSPP eligibility. The list is updated daily on the ECBs website (and each National Central Bank contributes). This will be the ultimate decider of whether a bond is “in” or “out”.
• The Eurosystem will purchase IG, Euro-denominated bonds issued by non-bank corporations, established in the Euro Area.
• Six Eurosystem NCBs will carry out purchases (Belgium, Germany, Spain, France, Italy and Finland. Note no Netherlands). While the ECB will coordinate the purchases, each NCB will be responsible for purchases from a particular part of the Euro Area.
• For an IG rating, a bond must have a minimum first-best credit assessment of at least BBB- obtained from an external rating agency. This confirms our expectation that the ECB will partially be buying the high-yield credit market.
•  Purchases will take place in both primary and secondary markets.
• Bonds with a minimum remaining maturity of 6m and a maximum remaining maturity of 30yr (at purchase time) will be eligible (in line with PSPP methodology).
• Bonds where the issuer is a corporation established in the Euro Area, defined as the location of incorporation of the issuer, will be eligible. Importantly, bonds issued by corporations incorporated in the Euro Area whose ultimate parent is not based in the Euro Area are also eligible.
• Bonds issued by a credit institution (or where the parent is a credit institution) will not be eligible. Neither will bonds issued by a Resolution Vehicle created to facilitate financial sector restructuring (such as the FROB for instance).
• A 70% issue share limit will be applied to securities. This is much larger than we were expecting (but is actually a similar amount to covered bonds).
• Senior insurance bonds are eligible, where the insurer is not defined as a credit institution and does not have a parent that is a credit institution.
• Auto bank bonds will be eligible when the parent company is not a bank (which is the case for RCI Banque and VW bank bonds). Other auto finance bonds (leasing bonds etc.) appear eligible as the ECB does not classify them as credit institutions.
• There is no minimum issuance volume for eligible debt instruments.
• Negative yielding corporate debt is eligible (as long as the yield is more than the deposit rate).
• There will be weekly and monthly publishing of CSPP volumes, and holdings will be made available for securities lending by the relevant national central banks.
• Buying will partly reflect a benchmark. The benchmark will be based on the facevalue weighted amounts of debt that are eligible under the above paramaters.

And here is why the hedge fund known as the European Central Bank has just unleashed what BofA dubs QE for the world:

In our view, the most powerful conclusion from the above is that the ECB could likely end up buying corporate bonds from all over the world. The relevant paragraph is:

 

Debt instruments will be eligible for purchase, provided….the issuer is a corporation established in the euro area, defined as the location of incorporation of the issuer. Corporate debt instruments issued by corporations incorporated in the euro area whose ultimate parent is not based in the euro area are also eligible for purchase under the CSPP, provided they fulfil all the other eligibility criteria;

 

And in the FAQ:

 

Issuers incorporated in the euro area will be eligible for CSPP purchases. In practical terms, this means that issuers must be euro area residents, as in the list of marketable assets eligible as collateral for Eurosystem liquidity-providing operations. The location of incorporation of the issuer’s ultimate parent is not taken into consideration in this eligibility criterion. Thus, corporate debt instruments issued by corporations incorporated in the euro area but whose ultimate parent is not established in the euro area are eligible for purchase under the CSPP, provided they fulfil all other eligibility criteria.

 

Looking at the “ISSUER_RESIDENCE” column of the ECB eligible assets spreadsheet, we see a list of bonds that are classified as Euro Area resident because the issuance vehicle is an SPV (while the GUARANTOR_RESIDENCE is a non-Eurozone country). Table 1 lists these names. They are a mixture of US, Swiss and UK companies (based on the domicile in our corporate bond indices) but the ECB clearly views them as having Euro Area domicile because the issuing entity is a Dutch or Irish SPV.

 

Note that Glencore Finance bonds should be eligible to buy, as will Shell bonds.

 

 

 

The conclusion from this is twofold, in our view:

 

Firstly, the credit market could (worryingly) become much less sensitive to fundamentals such as commodity prices. For instance, if commodity prices fall, debt spreads of Glencore could still tighten if the ECB remains an active buyer of their bonds.

 

Secondly, there is clear motivation for non Euro-Area companies to issue Euro debt via a Euro-Area incorporated SPV. Our understanding is that the process (and time needed) to set up such a vehicle is not too cumbersome.

 

If this is the way that the credit market in Euros develops, then the ECB could potentially be “corporate QE’ing the world”. All credit markets stand to benefit in such a scenario as the trickle-down effect looks significant to us.

 

Yet, investors will need to keep an even closer eye on the likelihood that credit spreads disconnect from fundamentals. For instance, if the ECB buys UK credits then this will exacerbate the lack of Brexit premium in the £ credit market.

And once again, here is why U.S. companies will soon be rushing to create European SPVs to take advantage of the ECB’s geneorosity:

We believe the scope of the CSPP could potentially be much larger than we had initially thought in March. Bonds of Euro Area issuers whose ultimate parent company is outside the Euro Area will also be eligible. This could mean that the ECB buys bonds from US, UK and Swiss headquartered issuers, for example, simply because they fund via Euro Area SPVs. The ramification of this is that the ECB will be helping to reflate the global credit market.

But the cherry on top is that this is ultimately a brilliant plan to also keep the Euro weaker:

If more US issuers flock to the Euro credit market for funding, then
converting the money back into US Dollars would helpfully (for the ECB)
keep the Euro weak.

Our question: how long until we see a surge of US-based near insolvent shale companies rushing to incorporate SPVs in the Netherlands or Ireland, just to get the green light to be included in the ECB’s asset purchases. We are confident that within 2-3 months of this post, we will see at least one deeply distressed US oil and gas producer suddenly announcing that henceforth its ultimate parent is a post box located somewhere in Dublin…

As for the biggest implications, they are truly troubling: the disconnect between fundamentals and prices will hit never before seen levels, pushing not only equity but corporate bond prices dramatically higher, and as in the case of European sovereign bonds, prevent any true price discovery no matter how deplorable the underlying economic situation is. It also will confirm what most know: that price discovery no longer exists, that markets are merely policy vehicles, and that central banks will be more intertwined in capital markets than ever before, meaning that any attempt at renormalization will be doomed to fail as pricing in the elimination of the expanded global “Draghi put” will lead to a collapse of all asset prices, not just equities but also corporate bonds.

via http://ift.tt/1TnwyyY Tyler Durden

A rumor of The BoJ doing something moar (helping banks with NIRP loans) was the apparent catalyst for today’s epic USDJPY spike, but the kindling was a record position among speculative futures traders that USDJPY would continue to fall.

 

Today’s 250 pips plunge in Yen relative the dollar is the largest since Oct/Nov 2014 when The Fed ended QE3 and BoJ stepped in with QQE2 (or 22).

 

For now, however, the machines have failed to get inspiration for stock buying euphoria from this usually positive carry pump…

 

It seems Central Bank omnipotence is really starting to ebb – especially The BoJ’s.

via http://ift.tt/1Nod4Lu Tyler Durden

Submitted by Michael McDonald via OilPrice.com,

A central tenet in the thesis by analysts about the oil markets rebalancing has been that as prices declined, oil companies would be forced into bankruptcy. That in turn would lead to declining production, and eventually a rebalancing of supply and demand in the market, followed by higher prices. That process is already taking longer than many expected, and it looks like more time is needed. That additional time to balance the market is being driven by an unexpected factor; bankrupt oil companies are still pumping.

As oil prices have declined, the number of bankruptcies and distressed oil majors has quickly risen into the dozens. In fact, a recent Reuters analysis suggests little effect on production from when companies enter bankruptcy. Reuters cited Magnum Hunter as a primary example of this reality.

While Magnum Hunter filed for bankruptcy in December 2014, the firm has scrambled even in Chapter 11 to keep its oil flowing, resulting in O&G production rising by roughly one-third between mid-2014 and late 2015. The firm has used the protection bankruptcy courts to help stave off creditors while keeping the pumps flowing full tilt. Nearly all of Magnum Hunter’s 3000 wells are still producing crude, and that makes sense for several reasons.

First, daily costs for operating wells remain well below current spot prices. While drilling new wells is not economical, it is perfectly logical to keep exploiting existing wells. Fracked wells usually start to see a significant decline in production after about two years of operations. So eventually Magnum Hunter and other companies will see their production fall, but two years can be a very long time to pump.

 

Second, creditors want to extract maximum value from the company and the best way to do that in the current environment is to keep the oil flowing. Bid-ask spreads on oil assets for sale are simply too wide for most companies to be interested in selling assets while in Chapter 11. Instead, creditors maximize the present value of their assets by continuing to pump oil. This oil can either be stored leading to a large risk free profit, or it can be sold on the spot market. Either way, Magnum Hunter and other bankrupt producers are acting in the best interests of their creditors by continuing to pump. Unfortunately, those actions are not in the best interests of the broader industry or energy sector stock investors.

 

Third, management at bankrupt producers also have little reason to do anything other than keep the crude flowing. In the current energy market, getting a job is very difficult, especially for top managers coming from a bankrupt producer. As a result, managers rationally want to make sure they stay useful in Chapter 11 and that means trying to convince creditors to keep the company operating rather than converting to a Chapter 7 liquidation. Not all O&G firms should be kept operating – some firms are better off being liquidated – but creditors often lack the necessary industry expertise to be able to distinguish between firms that have a future after emerging from Chapter 11, and those that don’t and are better off in a Chapter 7 sale. And again, management has very little incentive to put themselves out of a job by recommending Chapter 7.

On the whole then, while the oil markets are slowly making progress in rebalancing, the process is slower than most investors would like. Bankruptcy alone cannot rebalance the oil markets. Instead, natural well depletion and a lack of new investment are the driving forces that are reducing production over time. Those forces will continue in the future, but for now investors will just have to be patient and not get ahead of themselves.

via http://ift.tt/1SoPMSl Tyler Durden

In an interview posted on Swiss Finanz und Wirthschaft, Jeff Gundlach unleashes his deep ir, and in traditional style, offloads on both the Fed and all central banks, sayng that “negative interest rates are the dumbest idea ever“, adding that the Fed has given up both trying to normalize interest rates as well as trying to actually stimulate the economy:

What you see is that the same pattern has been in place since 2012: Hope for growth in the new year that ends up being revised downwards, over and over and over again. But now we have reached the point at which no one bothers anymore about the comedy of predicting 3% real GDP growth. Even nominal GDP growth isn’t probably going to be at 3% this year. Actually, nominal GDP is at a level that has historically been a recessionary level. It isn’t this time because the inflation rate is close to zero. But no one bothers anymore and the Federal Reserve has basically given up.

He also says the he has “been waiting for about two years for the Fed to capitulate on their interest rate increase dreams. Now, I think they did.“

As noted above, Gundlach has seen many stupid ideas in his time but nothing as bad as NIRP. “I think the next big thing will be that at some point central bankers in Japan and in Europe will have to realize that they need to give up on negative interest rates. Negative interest rates are the dumbest idea ever. It’s horrible. Look at how badly it’s been working. The day that the Bank of Japan went negative the Yen started strengthening like crazy and the stock market is down. That’s exactly the opposite of what they wanted. The same thing happened with the ECB.”

He then takes on the US stock market, saying it “seems egregiously overvalued versus other stock markets…. fundamentally, it’s very hard to believe in US stocks. Earnings and profit margins are dropping and companies basically are borrowing money to pay dividends and to buy back shares.” He spares no love for junk bonds either: “it’s likely that you are going to see declines in the US stock market and since the correlations are so high this means that probably the junk bond market will go back down, too.”

What about oil: “I predicted oil would make it easily to $ 40 and it did so very comfortably. But now it’s having a very hard time getting to $45. It bounces up a dollar, down a dollar and I think if oil is going back down to $ 38 people are going to be very concerned.“

His diatribe against conventional wisdom continues, when he blast that “the riskiest things are now stocks and other investments perceived to be safe. One of the most popular categories in US investing are low volatility stock funds. But there is no such thing! If you think that a stock like Johnson & Johnson can’t go down, you’re wrong. And if people own funds that invest in stocks which they think are immune from decline and they start to decline, all hell breaks loose.”

What does Gundlach like? Gold and TSYs:

“Gold is doing fine. It’s preserving capital in the US, it’s been making money over the last couple of years for European investors. That’s why I own gold. Because in a negative return environment anything that holds its value or makes a little is good.”

On the topic of who wins the election, he says that “Trump is going to win. I think Clinton and Sanders are both very poor candidates. I know the polls are signaling the opposite. But the polls said the opposite four years ago, too.”

He also thinks Trump would be the best candidate for the US economy:

In the short term, Trump winning would be probably very positive for the economy. He says a lot of contradictory things and things that are not very specific. But he does say that he will build up the military and that he will build a wall at the border to Mexiko. If he wins he’s got at least to try those things. Also, he might initiate a big infrastructure program. What’s his campaign slogan? Make America great again. What that means is let’s go back to the past, let’s go back to the 1960s economy. So he might spend a lot of money on airports, roads and weapons. I think Trump would run up a huge deficit. Trump is very comfortable with debt. He’s a debt guy. His whole business has had a lot of debt over time and he has gone bankrupt with several enterprises. So I think you could have a debt-fuelled boom. But the overall debt level is already so high that you start to wonder what would happen after that.

Finally, here is Gundlach’s explanation on what it takes to be a good investor:

I made a name for myself primarily because in March of 2005 I was convinced that there would be a complete collapse of the credit market. When it was still hypothetical, people argued with me. They said that this would never happen. But I was right. So you have to find a center piece idea that will be important in driving the market. And you have to have an intuition about how other investors will react if you’re right and they wake up to that idea. Such opportunities do not happen very often. It is not always so obvious. So you have to pick your moments. In the financial markets, 80% of the time it’s a coin flip. But the other 20% of the time you have very high confidence and it’s not a coin flip. For instance, I don’t think the stock market is a coin flip. Especially in the United States stocks are very expensive, particularly low volatility stocks.

In short, Gundlach doing what he does best: holding nothing back.

* * *

His full interview with FuW below:

Jeffrey Gundlach, CEO of the investment firm DoubleLine, expects central bankers to capitulate on negative interest rates and is bearish on US stocks.

In the global financial markets the bulls have taken over once again. In the United States, stocks are even flirting with a new record high. Nevertheless, Jeff Gundlach doesn’t trust this recovery and expects a severe setback. «The riskiest things are now stocks and other investments perceived to be safe», says the CEO of the Los Angeles based investment firm DoubleLine. The star investor, who is celebrated on Wall Street as the new bond king, is surprised that nobody seems to care anymore about the worldwide growing mountain of debt. Especially in the junk bond market, he sees a massive wave of defaults on the horizon. Mr. Gundlach likes gold and thinks the Federal Reserve has given up on its plans to normalize interest rates. Next, he expects central bankers elsewhere to capitulate on negative interest rate policies.

Mr. Gundlach, it is getting suspiciously quiet in the global financial markets. What is your assessment of the current situation?
What you see is that the same pattern has been in place since 2012: Hope for growth in the new year that ends up being revised downwards, over and over and over again. But now we have reached the point at which no one bothers anymore about the comedy of predicting 3% real GDP growth. Even nominal GDP growth isn’t probably going to be at 3% this year. Actually, nominal GDP is at a level that has historically been a recessionary level. It isn’t this time because the inflation rate is close to zero. But no one bothers anymore and the Federal Reserve has basically given up.

How serious is this slowdown? Could the US even fall into a recession?
We will be on watch for that in the coming months. But it doesn’t really matter. Recessions don’t drive financial markets. It’s the other way around. People are so focused on this «recession-yes-or-no-question». What really matters is that we are in a low nominal growth environment and global growth keeps getting marked down. It is going to be slower in 2016 than in 2015.

What does that mean with respect to monetary policy in the United States?
I have been waiting for about two years for the Fed to capitulate on their interest rate increase dreams. Now, I think they did. Federal Reserve Chair Janet Yellen basically capitulated on March 29th. So far she had been acting as if each voice at the Fed carried the same weight: One official would say this, and another official would say something different. And because there were contradictory statements being made, the markets were getting very confused. But Janet Yellen took control with her speech at the Economic Club of New York. She did a good job and said that she is not going to raise rates at the next Fed meeting in April despite all these other Fed officials saying that April is a possibility. But it’s not going to happen. We’re not going there. So you’ve gotten about as much capitulation as you can get.

But what about a rate hike at the more important Fed meeting in June?
The Fed has already reduced its forecast to two rate hikes. And that’s going to turn into one hike pretty quickly because we’re getting close to mid-year and I really doubt that they are going to do a rate hike in June. But what they are going to do is a rolling twelve month two hikes type of thing. So in June they will signal two hikes by June 2017 and then they will just keep pushing it forward. That’s a movie we’ve seen before. The Fed has pushed forward such decisions for years. We were always going to get to a Federal Funds Rate of 3% and it was always going to be starting in six months. But it never happened.

But actually, the Fed raised interest rates in December for the first time since the financial crisis.
Well, that didn’t work very well. The stock market crashed and the credit markets were a disaster. The Fed’s dots of four rate hikes this year made no sense and they’ve capitulated. The markets have humiliated the Fed into abandoning their pretty idiotic forecast.

So what’s next for the financial markets?
The capitulation of the Fed is pretty much fully priced in. But I think the next big thing will be that at some point central bankers in Japan and in Europe will have to realize that they need to give up on negative interest rates. Negative interest rates are the dumbest idea ever. It’s horrible. Look at how badly it’s been working. The day that the Bank of Japan went negative the Yen started strengthening like crazy and the stock market is down. That’s exactly the opposite of what they wanted. The same thing happened with the ECB. Around a year ago, the consensus recommendation was to sell US equities and to buy European stocks because of negative interest rates in Europe. That turned out to be the most common mistake that was made in 2015. It’s been a horrible outcome. So there is mounting evidence that negative interest rates do the opposite of what the central bankers were hoping for.

Why don’t negative interest rates work?
Negative interest rates are designed to fight deflation. But they are the very definition of deflation: Your money is disappearing. As an investor, you are going to have less money in the future than you have today with negative interest rates. That’s deflation! So negative interest rates are deflationary and they are tremendously negative for monetary velocity. For instance, in Japan they’re issuing huge amounts of high denomination Yen notes. That’s because of negative interest rates people don’t want to put their money in the bank and they don’t want to invest in Yen denominated bonds. That’s why I think eventually you are going to get helicopter money.

Are you concerned about that?
I’m not concerned about anything. My job is not to set policies. I’m not an economist or a politician or a central banker. I invest people’s money. So I’m agnostic as to what’s good and what’s bad in terms of policy. I just deal with it.

So how do you deal with negative interest rates and central bank capitulation?
It’s all about capital preservation. If you can get a few percent return in a deflationary environment you’re doing fine. Because if you invest in European government bonds your base case is that you are going to have a negative return. The same applies if you invest in Japanese government bonds. So gold is a high yielding investment. You are getting zero yield versus negative yields in the case of short term European bonds and most Japanese bonds. Gold is doing fine. It’s preserving capital in the US, it’s been making money over the last couple of years for European investors. That’s why I own gold. Because in a negative return environment anything that holds its value or makes a little is good. Also, US bonds look relatively good. You have a positive yield of 2 or 3% this year from a bond portfolio in the US. Of course, that’s not great for European investors because the dollar has been weakening.

And what about stocks? Especially in the US, equities have staged a surprising comeback since the heavy turmoil at the beginning of the year.
The US stock market seems egregiously overvalued versus other stock markets. Emerging markets look vastly better, Japan looks better and Europe does too. That’s because they’re all down. It’s remarkable that the US stock market is within about 2% of its all-time high and every other significant stock market is down substantially. Also fundamentally, it’s very hard to believe in US stocks. Earnings and profit margins are dropping and companies basically are borrowing money to pay dividends and to buy back shares. That’s completely non-productive borrowing and just creates a bigger debt burden. So it’s likely that you are going to see declines in the US stock market and since the correlations are so high this means that probably the junk bond market will go back down, too.

There’s also a strong correlation between junk bonds and oil. What’s your take on the recent rally in crude?
I predicted oil would make it easily to $ 40 and it did so very comfortably. But now it’s having a very hard time getting to $45. It bounces up a dollar, down a dollar and I think if oil is going back down to $ 38 people are going to be very concerned.

Energy companies are playing an important role in the junk bond sector. What would oil at $ 38 mean for the credit markets?
Just like oil, the high yield market has enjoyed the easy rally. I think it’s basically over. I don’t see how you are supposed to be all fond off high yield bonds, since they are facing enormous fundamental problems. I thought people would learn their lesson but the issuance in the years 2013/14 was vastly worse than the issuance in 2006/07. Also, in the bank loan market covenant lite issuance rose to 40% in 2006/07. In this cycle it climbed to 75%. The leverage in the high yield bond market is enormous and you’re about to have a substantial increase in defaults. I wouldn’t be surprised if the cumulative default rate in the next five years were going to be the highest in the history of the high yield bond market.

What would be the consequences of that?
We are now in a culture of default. There is no stigma about defaulting anymore. During the housing crash, homeowners walked away from their mortgages. That was the beginning of a massive tolerance of default. Today, people talk about Puerto Rico defaulting like it’s nothing. But if Puerto Rico defaults why won’t some clever person in Illinois say: «Let’s default, too! » Constitutionally, Illinois is not allowed to default, but Puerto Rico wasn’t either. For Illinois it just seems impossible to pay their pension obligations. And then, what about Houston, what about Chicago, what about Connecticut? I am surprised that people have lost their focus on the enormity of the debt problem. Remember, in 2010 and 2011 there was such a laser focus on the debt ceiling in the US and we were worried about Greece. Nobody is worried anymore. People are distracted by this negative interest rate experiment.

That’s also interesting with respect to the presidential elections. In contrast to 2012, this time there is not much talk about national debt and budget cuts.
What you see this time is only child’s play. The next election is going to be much more transformative than this one. Because in this election, both parties are kind of clinging to the belief that they can keep the genie in the bottle. But we’re on the cusp of big change and, unfortunately, it’s all wrapped up in generational problems. The big problem that is coming, of course, is the unfunded liabilities that have been promised to the baby boomers. According to one calculation, the unfunded liabilities of all these entitlements on a present value basis are $ 60 trillion in the United States, just at the federal level. But in this election, nobody is talking about addressing them. Donald Trump wants to keep social security the same, Bernie Sanders says make it even bigger, while Hillary Clinton represents more of the same.

So who do you think will win the race for the white house?
Trump is going to win. I think Clinton and Sanders are both very poor candidates. I know the polls are signaling the opposite. But the polls said the opposite four years ago, too.

How would the financial markets react should Trump win?
In the short term, Trump winning would be probably very positive for the economy. He says a lot of contradictory things and things that are not very specific. But he does say that he will build up the military and that he will build a wall at the border to Mexiko. If he wins he’s got at least to try those things. Also, he might initiate a big infrastructure program. What’s his campaign slogan? Make America great again. What that means is let’s go back to the past, let’s go back to the 1960s economy. So he might spend a lot of money on airports, roads and weapons. I think Trump would run up a huge deficit. Trump is very comfortable with debt. He’s a debt guy. His whole business has had a lot of debt over time and he has gone bankrupt with several enterprises. So I think you could have a debt-fuelled boom. But the overall debt level is already so high that you start to wonder what would happen after that.

How do you explain that a guy like Trump might actually win the election?
His popularity is very similar to the popularity of unconstrained bond funds. About two or three years ago, unconstrained bond funds became the most popular thing in the United States retail market and in the institutional market probably, too. Because when investors analyzed all the bond segments they were familiar with, they didn’t like what they saw. They didn’t like treasuries, they were scared of the Fed, they didn’t like traditional strategies. So, if everything you think you know looks unattractive, you go for something that you have no idea about. And that’s an unconstrained bond fund. The thinking was: «Don’t even tell me what you are doing, I do not want to know. Because if I know, I won’t like it. » The same is true with respect to the elections: «Don’t give me a traditional candidate. Give me someone who I have no idea what he is going to do» – and that’s basically Donald Trump.

That shows that it is not easy to invest your money these days. What does it take in general to be a good investor?
I made a name for myself primarily because in March of 2005 I was convinced that there would be a complete collapse of the credit market. When it was still hypothetical, people argued with me. They said that this would never happen. But I was right. So you have to find a center piece idea that will be important in driving the market. And you have to have an intuition about how other investors will react if you’re right and they wake up to that idea. Such opportunities do not happen very often. It is not always so obvious. So you have to pick your moments. In the financial markets, 80% of the time it’s a coin flip. But the other 20% of the time you have very high confidence and it’s not a coin flip. For instance, I don’t think the stock market is a coin flip. Especially in the United States stocks are very expensive, particularly low volatility stocks.

What exactly is the problem with low volatility stocks?
The riskiest things are now stocks and other investments perceived to be safe. One of the most popular categories in US investing are low volatility stock funds. But there is no such thing! If you think that a stock like Johnson & Johnson can’t go down, you’re wrong. And if people own funds that invest in stocks which they think are immune from decline and they start to decline, all hell breaks loose.

via http://ift.tt/1XN6jU1 Tyler Durden

Submitted by Eric Bush via Gavekal Capital blog,

The gold/silver ratio recently took out 2009 highs and the gold/copper ratio is at its highest level since 2009. This is a negative signal that US inflation, using CPI, could be headed for another leg lower. Since 2008, the gold/silver ratio has had a -73% correlation to the year-over-year change in US CPI (with a 2-quarter forward lag for the gold/silver ratio) . So as the gold/silver ratio increases, the year-over-year change in the CPI tends to fall.

 

A similar relationship exists between the gold/copper ratio and US CPI. Over the past 20-years, the year-over-year change in US CPI has a -58% correlation to the gold/copper ratio (lagged forward one quarter).  The current level of the gold/copper ratio suggests that the year-over-year change in CPI could fall below 0%.

 

And all of this needs to be understood in the context that deflation remains a major fear in the stock and bond market. This fear can been visualized through the correlation between stocks and bonds. The four-year rolling correlation between US stocks and 10-year treasury yields has fallen from the all-time historic high seen from 2013-2015, however, it is still higher than at any other time going back to 1875 excluding the 2012- current period. When stocks and bonds are negatively correlated, as they were from 1967-1997, the dominant fear in the market is inflation. Since inflation erodes the real return of bonds while stocks can pass on some of that inflation as nominal top-line growth, stock prices and bond yields tend to move in opposite directions.

However, when deflation is the dominant fear, as it has been since tech bubble, stock prices and bond yields tend to move more in tandem.

via http://ift.tt/22TRNuO Tyler Durden

Via ConvergEx’s Nick Colas,

Tell me truthfully: do you actually get a lot of value from quarterly earnings reports?  It’s not actually me asking; it is the Securities and Exchange Commission and the NIRI trade group, the most influential group of Investor Relations professionals in U.S. markets. 

 

Last week the SEC published a concept release that seeks public input on a range of issues, perhaps most notably quarterly financial reporting for public companies.

 

Questions include: “Do investors, registrants, and the markets benefit from quarterly reporting?” and “Should we revise or eliminate our rules requiring quarterly reporting?”

 

In today’s note we consider what less frequent reporting might accomplish in terms of both the good (more long term thinking among both corporations and investors, for example) and the bad (potentially lower valuations and volatility).  In the end, this is a good conversation to have regardless of where it goes.  Even if nothing really changes, considering the intersection of 90-day reporting periods and investor behavior is a worthwhile discussion.

Let me take you back to the world of the Wall Street equity analyst on earnings days before the internet, email and even quarterly calls with management ever existed.  For those of you with less than 20 years on the job, this would be the early 1990s:

You waited by the PR Newswire terminal with all the other analysts who had companies reporting that day. It was usually in the mailroom.  Yes, companies faxed out their releases, but telephone line transmission rates were so slow you might not see the report for hours.

 

When your company’s earnings popped up on the screen, you printed out the release on a dot-matrix printer. It took 3-4 minutes to print a typical 6-10 page release.

 

You took the report back to your desk and plugged the financial results into your spreadsheet (we did have those, at least). No one had junior analysts back then – you did it all yourself.

 

While entering those numbers, you called the CFO at the company. His or her assistant would take a message.  You never got through right away, and only the very largest companies had investor relations people.

 

Once the CFO returned your call, you had about 4 minutes to ask all the questions you wanted.

Things are a lot more civilized now, with the Internet and conference calls and transcripts and so forth, but financial results still come every 90 days whether you like it or not.  That much is exactly the same.

A longtime friend and fellow auto analyst – someone who also remembers the pre-Internet days – pointed me to some recent developments, however, that might just change that.  Her name is Susanne Oliver (http://ift.tt/1U8MHdW) and she has my thanks for bringing this topic to my attention.  Three points to consider:

Starting in the middle of last year, some high profile asset managers and other Wall Streeters began to openly question the value of quarterly financial statements. No less a figure than Marty Lipton, founding partner of Wachtell Lipton, wrote that the SEC should ‘Pur(sue) disclosure reform initiatives and otherwise act to promote, rather than undermine, the ability of companies to pursue long term strategies.”  You can read his whole note here, which is in support of several large active asset managers asking for various regulatory changes: http://ift.tt/1HYIdLU. Also, a Slate article which mentions that Presidential candidate Hillary Clinton doesn’t like “Quarterly Capitalism”: http://ift.tt/22TIDyo…

 

In an SEC concept release last week, the Commission asked for public input on Regulation S-K reform. In case you aren’t up on your SEC Regs, this is the one that lays out reporting requirements for SEC filings used by public companies.  It is a long document, but on page 285 the SEC explicitly asks for comment on questions as basic as “Do investors, registrants, and the market benefit from quarterly reporting?”  Also on the docket: “Should we revise or eliminate our rules requiring quarterly reporting? Why or why not?” and “Should we consider reducing the level of disclosure required in the quarterly reports for the first and third quarters?”  The whole release is here and it is important enough to actually scan the whole thing: http://ift.tt/1YFACw3

 

This week, James Cudahy – the President and CEO of the National Investor Relations Institute (NIRI) – dedicated his weekly email to members and friends to this topic and offered up a NIRI poll asking what the SEC should do. This is significant, in that NIRI is to investor relations what the CFA Institute is to analysts: the keepers of the professional flame.  As of 7pm Tuesday evening, votes were split: 50% of respondents thought the SEC should not change quarterly reporting requirements and 42% thought the Commission should make quarterly reporting voluntary.  If you want to cast your own vote or see how opinion shifts, click here: http://ift.tt/22TIDyq.

So how would moving to semi-annual financial releases change U.S. equity markets?  While different equity markets around the world have had varying levels of financial disclosure requirements over time, it is hard to overlay those experiences with domestic equities.  Different industrial concentrations, shareholder bases, and market dynamics all make it hard to calibrate how semi-annual reporting might change the U.S. equity market.

Here, however, are a few thoughts:

#1 – Changes in Single Stock Price Volatility

 

Positives of fewer earnings releases: Earnings reports are consistently a source of single stock equity price volatility.  Not only does the company reporting earnings often see larger-than-normal price swings, but also those of competitors, suppliers, customers and substitutes.  Reducing reporting cycles to 2/year from 4/year cuts this volatility cycle in half.

 

Negatives of fewer releases: By reducing the number of earnings releases, you may simply coil the volatility “spring” tighter for when companies do report.  Leaving 180 days between peaks behind the financial curtail will almost certainly result in more surprises than an every-90-day look.

 

#2 – Impact on Single Stock Valuations

 

Positives of fewer releases: Over the long run (years), companies that report less frequently should have more time and capital to devote to their business. Instead of scrambling to close the books every 90 days, the finance staff could be helping operating managers more thoroughly plan new projects and products, just to pick one example. The higher returns on capital should improve valuations.

 

Negatives of fewer releases: Over the short term, cutting back on financial reporting frequency will almost certainly be difficult for investors to accept.  A quarterly look at the financials provides some comfort (real or imagined) that the company in question is still on track.  Absent that, investors may not be willing to pay the same valuation multiple for a company that reports semi-annually as one that releases detailed financials on a quarterly basis.

 

#3 – Industry effects

 

Positives for fewer releases: Some industries are so transparent and/or non-cyclical that investors are well-informed of the general state of affairs even without quarterly reporting.  Consider consumer non-cyclical companies or well-capitalized energy concerns.  In the former case, earnings rarely vary and, in the latter, commodity prices often drive profitability far more than internal corporate decisions.  Less reporting may have little effect on investor confidence in such companies.

 

Negatives for fewer releases: Companies with a product story (like most of technology) may never willingly choose to report semi-annually as long as their story is working.  Why miss a chance to ring the bell, after all?  And, is so often the case, if these companies are making acquisitions for stock all the more reason to keep the good news flow coming.  Now, when such a company decides to move to semi-annual reporting, it will be a powerful signal that the best days are over.  How and when a company chooses between voluntary quarterly and required semi-annual reporting will be a useful signal to in investors.

In summary, this debate is clearly just starting, so it will pay to keep an open mind as it develops.  We certainly agree that – in theory – anything that encourages longer term corporate decision making is likely a good idea.  It will, over time, create more value for public companies and may even entice some private companies to take the IPO plunge since they won’t be beholden to the quarterly earnings slog.  At the same time, the devil will be in the details and such a transition would be best done during the upswing of a business cycle (when things are improving) than going into a downturn.

via http://ift.tt/22TIFX8 Tyler Durden

For the latest indication of how bad the recession in the US sector field is, we took a look at last night’s Schlumberger results which were modestly better than expected, beating expectations of $0.37 by one cent, however as usual the non-GAAP adjusted bottom line did not tell the full story. The Company’s net income plunged nearly 50%, to $501 million, or 40 cents a share, from $975 million, or 76 cents, a year earlier. 

Profit fell in the first quarter as the company, which helps explorers find pockets of oil underground and drill for it, adjusts to shrinking margins in North America as customers scale back work. Customers are slashing spending by as much as 50 percent in the U.S. and Canada.

“It’s a weak beat mainly because they guided estimates down,” Rob Desai, an analyst at Edward Jones in St. Louis, who rates the shares a buy and owns none, said in a phone interview. “North America came in weaker than we expected.”

The world’s No.1 oilfield services provider said its costs to do business in North America exceeded the revenue it earned there in the quarter, the first time it had negative margins in the region since oil prices started falling in mid-2014.

“North America was the biggest surprise to the downside, with negative margins, which did not occur during 2008-2009 oil drop,” Edward Jones analyst Rob Desai said.

The company was pressured from the collapse in crude prices were seen in North America, the world’s largest hydraulic fracturing market, where Schlumberger reported a loss of $10 million, before taxes. Elsewhere, the company announced earlier this month plans to cut back activity in Venezuela, holder of the biggest oil reserves of any country, due to unpaid bills.

The the real tell of what is coming came from the company’s going forward actions. Not only did SLB cut its 2016 capital spending budget to $2 billion from $2.4 billion, and hinted at further cost cuts.  The company also cut another 2,000 jobs in the first quarter as the world’s largest provider of oilfield services sees the industry in an unprecedented downturn. The global headcount dropped to 93,000 at the end of the first quarter with the reduction, Joao Felix, a spokesman for the company, said by e-mail. More than a quarter of Schlumberger’s workforce, or roughly 36,000, has now been cleaved off since the worst crude-market crash in a generation began in late 2014.

If anything these cuts suggest that the true picture for the US shale space is getting worse not better.

And the punchline was what Chairman and Chief Executive Officer Paal Kibsgaard said: “The decline in global activity and the rate of activity disruption reached unprecedented levels as the industry displayed clear signs of operating in a full-scale cash crisis. This environment is expected to continue deteriorating over the coming quarter given the magnitude and erratic nature of the disruptions in activity.”

We are confident this lack of downstream demand from the company that has the best visibility into the US shale sector is why oil is up another 2% even as virtually all oil producers are now ramping up production to even higher levels in a furious attempt to beggar their mostly OPEC neighbors.

via http://ift.tt/1QsirDT Tyler Durden

Earlier this week we described the personal come to non-GAAP Jesus moment of trading commentator Richard Breslow, who confessed in no uncertain terms that he has had it with endless central banking intervention: “a portfolio built to only withstand stress thanks to central bank intervention is one destined to blow-up spectacularly. The embedded flaw in this new logic is that central banks give investors perfect foresight. And nothing can go wrong… You don’t need to be a Taleb or Mandelbrot to calculate that we have been having once in a hundred year events on a regular basis for the last thirty years.“

Today it is another famous skeptic, SocGen’s Albert Edwards who has had enough and says he feels “utterly depressed” because  he has not “one scintilla of doubt that these central bankers will destroy the enfeebled world economy with their clumsy interventions and that political chaos will be the ugly result. The only people who will benefit are not investors, but anarchists who will embrace with delight the resulting chaos these policies will bring!”

As he openly warns his readers :

“I have long recognised my own contrariness (or is it bloody-mindedness) and hopefully put it to good use in my chosen profession. If you want the consensus bull-market cheerleading nonsense, readers know it is amply available elsewhere.”

With that warning in place, here is why the man who popularized the deflationary “Ice Age” blows up.

I am neither monetarist nor Keynesian. I see merit and demerit in both sides of a very fractious argument. But what I do know is when in the last few weeks I have heard that Janet Yellen sees no bubble in the US, when Ben Bernanke hones and restates his helicopter money speech, and when Mario Draghi says that the ECB’s policy of printing money and negative interest rates was working, I feel utterly depressed (I could also quote similar nonsense from Japan, the UK and China). I have not one scintilla of doubt that these central bankers will destroy the enfeebled world economy with their clumsy interventions and that political chaos will be the ugly result. The only people who will benefit are not investors, but anarchists who will embrace with delight the resulting chaos these policies will bring!

We said in 2010 when the Fed launched QE2 that the ultimate outcome would be civil (or more than civil) war, so we thoroughly agree with Edwards “depression” because sadly he is right, but since stocks keep rising, few others seem to care.

Edwards’ lament continues:

I?m not really sure how much more of this I can take. So here we are 5, 6 or is it now 7 years into this economic recovery and it still remains pathetically weak. And so it should in the wake of one of the biggest private sector credit bubbles in history. The de-leveraging hangover was always going to be massive and so it is. Quick-fix monetary QE nonsense has made virtually no difference to the economic recoveries other than to inflate asset prices, make the rich richer, inequality worse and make Joe and Joanna Sixpack want to scream in rage. They are doing so by rejecting the establishment political parties and candidates at almost every electoral turn and seeking out more extreme alternatives at both ends of the political spectrum. And who can blame them apart from the chattering classes?

 

I have just returned from Germany on a marketing trip. I absolutely agreed with their Finance Minister Schäuble when he blamed ECB loose money policies for contributing to the rise in the extremist right Alternative for Germany party. Schäuble, “said to Mario Draghi…be very proud: you can attribute 50% of the results of a party that seems to be new and successful in Germany to the design of this [monetary] policy,” And this is not just a German phenomena – it is a global one. The people are angry and they are lashing out. But central bankers have painted themselves into a corner with their overconfident rhetoric and monetary experiments. They have now committed us all to their road to perdition.

Finally for those convinced in central bank ultraomnipotence, Edwards has the following parting words:

As investors hung on the words of ECB chair Mario Draghi once again, I was reminded when reading the excellent monthly newsletter of Graham Summers at Phoenix Capital just how desperate Central Bankers will become once they are painted into a corner. Graham  writes “Whereas another Central Banker might state, “we are ready to act if warranted,” Mario Draghi says things like he’ll “do whatever it takes… and believe me it will be enough.” Bear in mind that famous statement was made entirely off-the-cuff as former Treasury Secretary Timothy Geithner revealed.

 

Geithner:

[T]hings deteriorated again dramatically in the summer which ultimately led to him saying in August, these things I would never write, but he off-the-cuff – he was in London at a meeting with a bunch of hedge funds and bankers. He was troubled by how direct they were in Europe, because at that point all the hedge fund community thought that Europe was coming to an end. I remember him telling me [about] this afterwards, he was just, he was alarmed by that and decided to add to his remarks, and off-the-cuff basically made a bunch of statements like ‘we’ll do whatever it takes’. Ridiculous.

 

 

Interviewer: This was just impromptu.

 

Geithner: Totally impromptu?. I went to see Draghi and Draghi at that point, he had no plan. He had made this sort of naked statement of this stuff. But they stumbled into it. (Source: Financial Times)”

 

Here is former Secretary of the Treasury, Timothy Geithner, stating openly that Mario Draghi had “no plan” and was simply bluffing when he claimed, “we’ll do whatever it takes.” Lets not kid ourselves, these “guys” are literally making it up as they go along!

There is little more to add, suffice that all of the above explains the relentless thrust by the mainstream media to pain central bankers as nothing less than supermen, or in the case of Roger Lowenstein’s famous op-ed, “Heroes.”

via http://ift.tt/1r4jTYH Tyler Durden