Tuesday, July 26, 2016

Canary in tunnel dying—sent by aaajoker

One Analyst's Surprising Indicator Why Recession Is Coming In Early 2017

Tyler Durden's picture

by Tyler Durden

Jul 26, 2016 11:23 AM

Stifel analyst Paul Westra downgraded the restaurant industry in a note released today, slashing estimates and ratings on 11 stocks in the sector, while warning that a slowdown in the restaurant industry is a harbinger for an overall economic recession.

The report warns that the restaurant industry is facing a perfect storm of slowing demand, rising minimum wage mandates across the country and minimal opportunity for commodity cost declines. This fits with the thesis laid out by KeyBanc analysts last week, suggested last week when upgrading Papa John's Pizza on the expectations that the recent surge in political unrest and terrorism fears would prompt more Americans to stay at home and order food instead of eating out.

As Westra says, "Today, we adopt a bearish outlook for restaurants as we confidently believe that, at a minimum, the simultaneous -150 basis points to -200bps deceleration of restaurant industry comps across all categories during the second quarter within our most recent Stifel Sales Survey reflects the start of a U.S. Restaurant Recession"

However, it won't be just a "restaurant recession" - according to the analyst, the weakness would promptly spillover to the broader economy: "restaurants have historically led the market lower during the three to six-month periods prior to the start of the prior three U.S. recessions."

To wit, Stifel highlights prior recessionary periods in the US have been preceded by 200-300bps declines in restaurant industry comps during the 3-9 month periods leading up to the recession.  To that end, the report points out that 2Q16 comps averaged 70bps down from 250bps in 3Q15, reflecting a 180bps decline over the period, which Stifel warns reflects the start of the restaurant recession and likely is a harbinger for a US recession in early 2017.

The charts below illustrate that the 2001 and 2007 recessions were preceded by a substantial deceleration of restaurant comps over the 24 months leading up to the recession. In tracking the current cycle, the deceleration in comps since January 2015 appears to be even more pronounced than the 2001 and 2007 slowdowns.

Industry Comps

2013 -2016 YTD Industry Comp Trends

Stifel contends that Wall Street is often slow to recognize recessionary signals from the restaurant space (or any other ones, we might add) as models tend to underestimate the relative pricing power (price increase less input cost inflation) collapse that occurs during downturns in the industry.  As a result, the low marginal cost of each incremental meal sold relative to the high fixed costs associated with rent and employee overhead causes the worst performing concepts to chase short-term cash flow through price cuts which simply serves to deepen and prolong the contraction

What makes this cycle potentially worse is that demand weakness in previous cycles was somewhat offset by commodity price declines.  In this cycle, however, commodity prices have already collapsed leaving minimal opportunity for further cost deflation from here. 


Moreover, the labor cost side of the restaurant equation is only getting worse as well.  Stifel, points out that 60% of the U.S. population lives in states where the 2017 minimum wage is expected to increase 2.8% YoY led by a 15.4% increase in New York, 10% in Massachusetts and 6.8% in California.

Min Wage

* * *

Is Westra right? We will get the answer shortly, when the bulk of public restaurant companies report earnings in the coming days and weeks as they report earnings. Panera Bread Co. and BJ's Restaurants are set to report results after the close today, while other prominent chains like The Cheesecake Factory, Texas Roadhouse, and El Pollo Loco report over the next two weeks.

So far the "eating out" picture has been gloomy: Starbucks and Chipotle both missed last week, with Del Frisco's reporting a 0.7% drop in same store sales. Earlier today, McDonald dropped after also reporting US sales growth that was half what analysts expected.

Monday, July 25, 2016

Hussman: Speculative Extremes

Speculative Extremes And Historically-Informed Optimism

Jul. 25, 2016 7:52 AM ET

John Hussman

John Hussman

There’s a field in one of our data sets that rarely sees much play, being driven primarily by only the most extreme combination of overvaluation, overbullish sentiment, and overbought conditions we’ve identified across history. It’s one of a variety of such syndromes we track, and I’ve simply labeled it “Bubble,” because with a single exception, this extreme variant has only emerged just before the worst market collapses in the past century. Prior to the advance of recent years, the list of these instances was: August 1929, the week of the market peak; August 1972, after which the S&P 500 would advance about 7% by year-end, and then drop by half; August 1987, the week of the market peak; March 2000, the week of the market peak; and July 2007, within a few points of the final peak in the S&P 500, with a secondary signal in October 2007, the week of that final market peak.

The advancing segment of the current market cycle was different in its response to historic speculative extremes. Air-pockets, panics and crashes had regularly followed these and lesser “overvalued, overbought, overbullish” extremes in every previous market cycle, and our reliance on that fact became our Achilles Heel during the advancing half of this one. In an experiment that will ultimately have disastrous consequences, the Federal Reserve’s policy of quantitative easing intentionally encouraged yield-seeking speculation in this cycle far beyond the point where these warning signals emerged.

In other cycles across history, patient adherence to a value-conscious, historically-informed investment discipline was rewarded, if occasionally after some delay. In the advancing portion of this cycle, Ben Bernanke’s blind, stubborn recklessness made patient adherence to a value-conscious, historically-informed investment discipline itself indistinguishable from blind, stubborn recklessness. In mid-2014, we adapted our own investment discipline to address this challenge (see the “Box” in The Next Big Short for the full narrative). While lesser overvalued, overbought, overbullish syndromes in 2010 and 2011 were followed by significant market losses, the pattern changed once the Fed drove short-term interest rates to single basis points. In the face of these near-zero interest rates, one had to wait for market internals to deteriorate explicitly (indicating a shift toward risk-aversion among investors) before adopting a hard-negative market outlook.

In a series of signals between late-2013 and the beginning of 2014, that rare “Bubble” signal emerged again. This time, however, it was accompanied by quantitative easing, a Treasury bill yield averaging just 0.03%, and uniform market internals across a broad range of individual stocks, industries, sectors, and security types (when investors are inclined to speculate, they tend to be indiscriminate about it). The S&P 500 retreated, but by just 3%, followed by an advance for several more months until market internals deteriorated early in the second-half of 2014. Since then, the broad market has essentially gone sideways, though capitalization-weighted indices such as the S&P 500 have recently clawed to new highs on enthusiasm about negative interest rates abroad (which I believe actually reflect fresh deterioration in global economic conditions across Britain, Europe, Japan, and China).

Last week, market conditions joined the same tiny handful of extremes that defined the 1929, 1972, 1987, 2000 and 2007 market peaks. Still, the false signal near the start of 2014 (and lesser extremes before then), helpless in the face of single basis-point Treasury bill yields and uniform market internals, encourages a certain level of humility and flexibility.

It’s clear that at least between late-2011 to mid-2014, the Fed engineered an environment that disrupted the typical response to extreme and previously reliable warning signs. In 2010 and 2011, lesser overvalued, overbought, overbullish extremes were followed by significant market losses, even though Treasury bill yields were only in the range of 10-15 basis points. In contrast, between late-2011 and mid-2014, T-bill yields averaged less than 5 basis points, and the majority of the intervening market gains overlapped the roughly one-third of that span when our present, adapted measures would encourage a constructive outlook (largely on the basis of favorable market internals). Currently, Treasury bill yields are about 30 basis points (higher than in 2010 and 2011), and while certain trend-following measures are favorable here, our overall evaluation of market internals is still mixed. Put simply, the mitigating factors are weaker here, but it’s not entirely clear what happens next.

As Pauline Boss and Pema Chodron have both observed in different contexts, the only way to find peace in the face of ambiguity is the willingness to hold two diametrically opposed ideas in your mind at the same time:

First, regardless of short-term speculation, the present yield-seeking speculative extreme is likely to be seen in hindsight as one of the three most reckless financial bubbles in U.S. history, on par with the 1929 and 2000 extremes. The present market cycle is likely to be completed by a collapse where a wholly run-of-the-mill outcome would be a decline of 40-55% in the S&P 500 Index. On the basis of valuation measures most tightly related to actual subsequent long-term market returns, we also estimate that the S&P 500 is likely to be lower 12 years from now, compared with current levels, though dividend income may push the total return just over zero on that horizon. We view all of these outcomes as unavoidably baked-in-the-cake as a consequence of current extremes.

Despite this outlook, the uncomfortable possibility of further short-term speculation still exists. The extent to which we make that allowance is dependent on market internals and interest rate conditions. For now, they remain less supportive than speculators may imagine. As I detailed several months ago in Reversing the Speculative Effect of QE Overnight, moving the target Federal Funds rate from zero to 0.25% quietly (and perhaps inadvertently) had an effect that is observationally-equivalent to removing $1.7 trillion from the Federal Reserve’s balance sheet, back to where it was in 2009. A return to a zero target by the Fed would create greater pressure to speculate than remains at present. As for market action, despite record highs in capitalization-weighted indices, the broad market has had less traction, particularly since mid-2014. A more uniform improvement in market internals (reflecting indiscriminate speculation) could signal more durable risk-seeking among investors.

The chart below shows the behavior of the broad-based NYSE Composite versus the S&P 500 Index (which has been more heavily driven by speculative, large-cap components). The performance gap that has blown out between these two indices is not just an indication of dispersion, but particularly since mid-2014, has also been a major, if temporary, headwind for hedged-equity strategies that hold a broadly diversified portfolio of stocks and hedge using the major indices. As of Friday’s close of 10805.04, the NYSE Composite remains below its June 2014 level of 11104.09, as well as its May 2015 record of 11239.66.

Fortunately, the ambiguity between long-term and near-term factors can be managed, because implied option volatility is just 12% and just 15.8% going out several months, which makes hedging market risk (or establishing negative exposures for those so inclined) unusually inexpensive, particularly in the context of strenuously overbought conditions, extreme valuations, and the potential for profound downside losses. To be clear, there’s no certainty that we’ve seen the last of the frantic yield-seeking panic that followed the post-Brexit shock to economic prospects, so there is risk to any investment position other than cash. Still, the rare extremes of current overvalued, overbought, overbullish conditions here, coupled with the absence (at least at present) of the factors that deferred their consequences between late-2011 to mid-2014, suggest that we may be observing the best opportunity to exit the U.S. stock market that investors will see in a generation.

One can object; didn’t I incorrectly believe the same thing years ago, when similarly extreme conditions emerged with no consequence? Yes, I did. In mid-2014, I imposed conditions related to interest rates and market internals to avoid an excessive reliance on overvalued, overbought, overbullish syndromes. Unlike the 2011-2014 period, we’re not inclined to maintain a hard-negative outlook in response to overvalued, overbought, overbullish conditions if those mitigating factors are present, so our downside concerns will be deferred if market internals improve sufficiently, particularly if the Fed was to cut rates at these levels. Those adaptations would have changed our outlook during much of the recent half-cycle. But be careful about dismissing historically reliable evidence of obscene valuations and speculative extremes on the basis of that difficult narrative. Both a century of history, and our own experience in fullmarket cycles before the recent half-cycle advance, argue against complacency here.

Stronger market internals, particularly coupled with a move back to a zero Federal Funds target, would encourage at least a temporary surrender to speculative forces (albeit with a tight safety net if it was to occur near current valuations). I actually think it’s likely that we’ll see this combination over the completion of the current market cycle, but only after a steep retreat in valuations. That combination of improved valuation and early improvement in market action emerges over the completion of every market cycle, and is associated with the strongest estimated market return/risk profile we identify.

As for the enticing concept of “helicopter money,” my impression is that many observers are using the term with no understanding of what they are talking about. Despite the uninhibited imagery it evokes, “helicopter money” is nothing but a legislatively-approved fiscal stimulus package, financed by issuing bonds that are purchased by the central bank. Every country already does it, but the size is limited to the willingness of a legislature to pursue deficit spending. Central banks, on their own, can’t “do” helicopter money without a spending package approved by the legislature. Well, at least the Federal Reserve can’t under current law. To some extent, Europe and Japan can do it by purchasing low-quality bonds that subsequently default, but in that case, it’s a private bailout rather than an economic stimulus. See, those central banks have resorted to buying lower-tier assets like asset-backed securities and corporate debt. If any of that debt defaults, the central bank has given a de facto bailout, with public funds, to the bondholder who otherwise would have taken a loss. So almost by definition, low-tier asset purchases by the ECB and Bank of Japan act as publicly-funded subsidies for bondholders, rather than ordinary citizens. My sense is that if the European and Japanese public had a better sense of this, they would tear down both central banks brick-by-brick.

As for the U.S., I’d actually be quite comfortable with a reasonable amount of “helicopter money” provided that the accompanying fiscal stimulus package was focused, not on consumption, but on productive investment at the public, private and individual level (infrastructure, investment and R&D tax credits, workforce training, education, and so forth). It’s the absence of productive real investment, which since 2000 has slumped to a small fraction of its historical growth rate, along with the encouragement of rank yield-seeking speculation by the Fed, that has repeatedly injured the U.S. economy, and is likely to insult the economy with further crises before any durable lessons are learned.

Here and now, really the only factor that mitigates crash risk, and encourages us to refrain from pounding the tables about immediate market loss, is that some trend-following components in our measures of market internals have become constructive during the recent advance, though not enough - at least as yet - to shift their overall status. In the absence of stronger mitigating conditions, mirroring the late-2011 to mid-2014 period, the decision-making of investors should consider the breathtakingly negative outcomes that have generally followed similarly overvalued, overbought, overbullish extremes. In any event, don’t allow your decision-making to be driven by “fear of missing out” at what is already one of the most extreme points of speculative overvaluation in history.

The current half-cycle market advance is remarkably long-in-the-tooth. There little basis for investment at these valuations - only speculation. Without a strong safety net, that speculation amounts to an attempt to gather pennies under a chainsaw. In recent weeks, we’ve heard some rather ignorant talk of an ongoing “secular bull market” that presumably has years to go. Unfortunately, these analysts don’t appear to recognize that secular bull markets have typically started from valuations literally one-quarter of their present level (see 1949 and 1982), and far below those observed at the 2009 low. With the exception of the 2000 extreme, every secular bull market has died before reaching even the current level of valuations. Moreover, even if this were a secular bull, one would still expect a cyclical bear from current extremes.

By our estimates, investors can expect to scrape out scarcely more than 1% in nominal annual total returns in the S&P 500 Index over the coming 12-year period. We expect that all of this will be from dividends, and that investors will experience a steep roller-coaster of drawdowns and volatility in the interim. The index itself is likely to be below current levels 12 years from today. Even the lowly returns available from cash will likely serve investors better. Of course, we expect the discipline of investing in alignment with the market’s expected return/risk profile, as it changes over the course of the market cycle, to do far better still.

As I’ve noted many times, only a pessimist believes that investors are forever doomed to suffer these elevated valuations and dismal long-term return prospects. Only those who are historically uninformed believe that valuations have no relationship to subsequent returns, or place their faith in scraps of analytical debris like the “Fed Model” without examining their poor correlation with actual subsequent market returns.

Conversely, it is an act of historically informed optimism to expect this market cycle, like all market cycles, to be completed. Every market cycle in history has drawn valuations to levels that have offered disciplined investors far higher return prospects than are available at present. Because prospective 12-year annual market returns have never failed to reach at least 8% by the completion of a market cycle, regardless of the level of interest rates, we view a 40% market decline as a rather minimal target over the completion of this market cycle. Even a 55% loss would be merely run-of-the-mill from current extremes. We recognize that short-term speculative factors will periodically mitigate the immediacy of these risks, and we’ve adapted to that. We wouldn’t rely too much on this at present, but we’ll take new evidence as it comes.

The chart below is a reminder of where the most reliable measures of valuation stand, comparing the current ratio of nonfinancial market capitalization to corporate gross value-added (blue line, on an inverted log scale), along with the actual subsequent S&P 500 nominal annual total return over the subsequent 12-year period (red line, right scale).

The foregoing comments represent the general investment analysis and economic views of the Advisor, and are provided solely for the purpose of information, instruction and discourse. Please see periodic remarks on the Fund Notes and Commentary page for discussion relating specifically to the Hussman Funds and the investment positions of the Funds.

Tuesday, July 19, 2016

What happens when Dry Bulk Shipping breaks down?

Is Dry Bulk Shipping About To Break Down?

Western Bulk Chartering

By Jens Ismar 2016-07-18 19:12:38

Industry commentary is dominated by talk of poor markets and financial challenges facing the industry, and not without good reason. For those of us in dry bulk shipping, the market since the beginning of 2014 has been the worst downturn since the mid-eighties. Access to finance and liquidity will likely continue to be a pressing corporate issue for shipowners until the markets recover, and the longer this takes - the worse the situation will get.  

In the current low-rate and relatively low-volatility environment, margin creation and arbitrage is challenging for commercial operators like charterers. In addition, we are starting to recognize a more tangible and direct consequence of the prolonged dire market on our business: a lag in vessel maintenance and upkeep of the vessels we charter in. Every time a vessel or a piece of machinery is not working to its potential – or not working at all – our ability to manage risk and protect margins is impacted. 

The Tangible Impact of the Market Downturn

Within the dry bulk sector, we are facing a rising tide of mechanical faults and operational disruptions due to not only poor maintenance, but also even possibly poor design and construction. At best, the implication is breakdowns, lost revenues and a significant increase in the number of claims and disputes between owners and charterers. For many, legal action and higher insurance premiums will follow. The worst-case scenario is that ships, and possibly human lives, will be lost. 

Western Bulk Chartering, as a major charterer of handysize to ultramax tonnage, has first-hand experienced of this notable development following the market downturn. Vessel performance has reduced and breakdowns have increased; manifested predominantly in unstable performance of cranes and grabs. 

Some shipowners cannot even afford proper hold cleaning as agreed in the charter party prior delivery of the ship to charterers! We fear that what we are seeing now is the canary in the mine, and that the consequences of continued lack of care and upkeep will affect both ships and crew safety even worse. 

As With Many Things in Life – You Get What You Pay For

There have also been some very concerning statistics on marine claims coming from the recent Nordic Association for Marine Insurers' (Cefor) Annual Report for 2015. The breakdown of quality of shipbuilding countries tells an important story, and highlights the issues the industry now faces after building vessels for the lowest possible price at inexperienced yards and/or because of lack of follow up by owners during construction. 

You do get what you pay for; when buying a car, a watch, and when building and maintaining ships. Surprisingly this report received relatively little media coverage, investigation or follow-up. If you have not read it, you should, for it is rare for Cefor to make such bold statements on one particular market segment. 

Although not conclusive, Cefor observes significant difference in maritime claims between Chinese and Korean/Japanese built vessels. This may not add up to an indictment of Chinese construction techniques and skill, as they correctly point out that China has made major strides in modernizing its shipbuilding industry in the past few years. However, what we may well be facing is the real price of the last eight years' race to the bottom, as the industry has sought to build more ships for the lowest possible price. As with all budget machinery, something has to give in the end. 

As the number of poorly constructed or maintained ships continues to grow as a percentage of the overall global fleet, it is fair to ask “is this build-origin of a ship” going to increase performance risk? Is there now a need for independent third parties, such as RightShip, to play a greater role in assessing vessel risk within the industry? Moreover, what responsibility lies with the class societies, who themselves are facing cost pressure?

A large part of Western Bulk Chartering's business model is managing risk, and we will continue to perform pre-fixture due diligence checks of both vessels and the owners we charter them from, regardless of sector tendencies or trends. However, the current state can only be described as an industry-wide issue which will need to be tackled by the business as a whole; but is there ultimately a will and the means to change?

Jens Ismar is CEO of Western Bulk Chartering.

Monday, July 18, 2016

SVXY:$INDU--Getting close to some kind of pull-back

Markets setting up for a pull-back--how big?--at least 200 points on the Dow--will this be the big one?--I don't know--and I'm skeptical that the big one is staring us in the face--but it certainly is possible.  GL

Visit StockCharts.com to see more great charts.

From Simon Black

July 18, 2016

St. Petersburg, Russia

Now it’s $13 trillion.

That’s the total amount of government bonds in the world that have negative yields, according to calculations published last week by Bank of America Merrill Lynch.

Given that there were almost zero negative-yielding bonds just two years ago, the rise to $13 trillion is incredible.

In February 2015, the total amount of negative-yielding debt in the world was ‘only’ $3.6 trillion.

A year later in February 2016 it had nearly doubled to $7 trillion.

Now, just five months later, it has nearly doubled again to $13 trillion, up from $11.7 trillion just over two weeks ago. 

Think about that: the total sum of negative-yielding debt in the world has increased in the last sixteen days alone by an amount that’s larger than the entire GDP of Russia.

Just like subprime mortgage bonds from ten years ago, these bonds are also toxic securities, since many are issued by bankrupt governments (like Japan).

Instead of paying subprime home buyers to borrow money, investors are now paying subprime governments.

And just like the build-up to the 2008 subprime crisis, investors are snapping up today’s subprime bonds with frightening enthusiasm.

We’ll probably see $15 trillion, then $20 trillion, worth of negative-yielding subprime government debt within the next few months.

So this trend will continue to grow for now, until, just like in 2008, the bubble bursts in cataclysmic fashion.

It took several years for the first subprime bubble to pop. This one may take even longer. But even still, we can already see the consequences today.

A few months ago I told you about the remarkable $3.4 trillion funding gap in the US pension system.

Remember, we’re not talking about Social Security-- that has its own $40+ trillion shortfall.

I’m talking about private companies’ retirement pensions, or public service worker pensions at the city and state level.

(By the way, this is NOT strictly a US phenomenon. Europe suffers its own $2 trillion pension shortfall.)

There’s zero mathematical probability that these pensions will be able to meet their obligations.

They’re already underfunded. And the problem is getting worse, thanks in part to this plague of low and negative interest rates.

You see, most pension funds must achieve a low-risk investment return of roughly 8% in order to stay solvent and pay their beneficiaries.

And making an 8% return used to be a reasonable assumption.

25-years ago, government bonds often yielded more than 8%.

So unsurprisingly, the average return for pension funds over the last 25-years has been around 8% according to the National Association of State Retirement Administrators.

But that’s no longer the case.

With such a huge portion of the bond market now with negative yields, it’s virtually impossible for pension funds to keep their promises.

Even Warren Buffett has written that “[pension] funding is woefully inadequate,” and, “In a world where people are living longer and inflation is certain, those promises will be anything but easy to keep.”

Free money boom

Business | Mon Jul 18, 2016 7:45am EDT

Rate-starved U.S. banks happily gobble mortgage business


A man walks into the JP Morgan headquarters at Canary Wharf in London May 11, 2012.

Just as mortgage bankers were preparing for the end of a historic boom driven by low interest rates, borrowers have begun knocking at their doors again.

In earnings reports last week, JPMorgan Chase & Co (JPM.N), Wells Fargo & Co (WFC.N) and Citigroup Inc (C.N) said they originated $94 billion worth of new mortgages during the second quarter in their core mortgage operations, an increase of $23 billion, or 31 percent, over the first quarter.

The reason for the sudden burst of business? Mortgage rates have dropped to lows not seen since 2013 after the U.S. Federal Reserve dashed expectations for near-term rate hikes. That has led existing borrowers to try and lock in better rates. New borrowers, meanwhile, have been enticed by low borrowing costs and low down-payment offers.

With mortgage rates near historic lows, and volumes still strong in the early days of the third quarter, banks predict the trend will continue, providing a bright spot in a low-rate environment hammering their wider results.

JPMorgan has added more than 1,000 employees this year to handle the swell in mortgage business, said Mike Weinbach, its chief executive of mortgage banking. He believes U.S. lenders will make about $1.8 trillion of mortgage loans this year, 40 percent more than he had expected at the start of the year.

"We thought the refinance market was going to shrink sharply," Weinbach said in an interview. "We've seen a market that has been much bigger than expected."

All this may be cold comfort to big U.S. lenders that desperately need rates to rise for broader profits to improve. Though low rates bring in new mortgage business and deliver fees from refinancing, banks are hard pressed to generate substantial income when rates fall too low.

Adding to the pressure on margins, US banks’ cost of funding has also risen. The difference between what banks pay for U.S. dollars and the Federal Reserve's expected policy interest rates on Friday hit its widest since August 2012.

At some point, there is little room left between what it costs banks to obtain funds and what they can earn from lending and investing. Rates on short- and long-term debt – known as the yield curve – have come closer together, leaving banks with razor thin margins almost regardless of the type of funding or loans they pursue.

"The headwinds from a flatter yield curve and a lower-for-longer rate environment creates challenges for all financial institutions," said John Shrewsberry, chief financial officer of Wells Fargo, which is the No. 1 U.S. mortgage lender.

Wells, JPMorgan and Citigroup each talked about low rates as the main hurdle to producing better results. Their second-quarter profits fell 3.5 percent, 1 percent and 14 percent from a year earlier, respectively.

The U.S. Federal Reserve set its interest rate target to nearly zero as the markets and economy were spiraling into crisis in 2008. The Fed kept rates there until December, it raised its target by 0.25 percentage points, causing optimism on Wall Street that rates would continue to rise gradually through 2016.

Those hopes have since dimmed. Concerns about market volatility and apparent weakness in the U.S. economy earlier this year, combined with Britain's vote in June to exit the European Union have made it much less likely the Fed will raise rates further in the near-term.

"While the rate situation is challenging, there are a few silver linings in the clouds," one of them being mortgages, said KBW analyst Fred Cannon.

(Reporting by David Henry; Editing by Lauren Tara LaCapra and Andrew Hay)

Bulls have stars in their eyes

Scrounging Through The Dumpster

Jul. 18, 2016 7:40 AM ET

|John Hussman

John Hussman

From a long-term and full-cycle perspective, the most reliable valuation measures we follow - those with the strongest correlation with actual subsequent stock market returns across history - are consistent with roughly zero S&P 500 nominal total returns on a 10-12 year horizon, and the likelihood of an interim market loss of about 40-55% over the completion of the current cycle. As I noted last week, however, our near-term outlook is rather neutral, largely because enough trend-following components have improved (though our broadest measures of market internals have not) to keep us from pounding tables about immediate losses. Even as we allow for further near-term speculation, I remain convinced that the S&P 500 is likely to be lower a decade from now than it is today.

The only wrinkle in an otherwise spectacularly hostile investment environment is that speculators appear to be so possessed by collapsing global interest rates that the immediacy of a market loss may be deferred until this fresh round of yield-seeking exhausts itself.As one observer told Bloomberg last week, “they’re out there scrounging through the dumpster looking for yield.”

Notably, the completion of every market cycle in history, even those associated with very low interest rates, has brought 10-12 year expected equity returns into or beyond the 8-10% range. My impression is that investors are overestimating the capacity for Fed easing to avert every market loss, recession, or credit default cycle. Unfortunately, that assumption doesn’t even hold up to the 2000-2002 and 2007-2009 collapses, both which were accompanied by persistent, aggressive, and ineffective easing by the Federal Reserve.

The chart below shows the market capitalization of non-financial equities relative to nonfinancial gross value-added (essentially corporate revenues, excluding double-counting of intermediate inputs, and including estimated revenues derived abroad). The blue line shows this ratio on an inverted left scale. The red line shows the actual S&P 500 nominal annual total return over the subsequent 12-year period. For a discussion of various valuation measures, how they rank in relation to actual subsequent market returns, and why earnings-based measures have such surprisingly weak performance, seeChoose Your Weapon.

Long-term, full-cycle prospects

Neither the likelihood of zero 10-12 year S&P 500 nominal total returns, nor negative real returns over that horizon, nor a 40-55% market loss over the completion of this cycle is dependent on any particular event. As I noted inLatent Risks and Critical Points, once extremely high latent risks have built up in a system, held together by a network of fragile interactions, attempting to predict the specific grain of sand that will trigger the avalanche isn’t particularly useful. The long-term and full-cycle outcomes we expect for the S&P 500 are not worst-case scenarios, but run-of-the-mill expectations that are already baked in the cake.

Put simply, stocks will collapse over the completion of the present market cycle, even given a zero-interest rate environment, because the combination of frantic yield-seeking speculation and weak prospects for economic growth has already established the most punitive and unattractive full-cycle return/risk tradeoff for stocks since 1929.

Consider this. Over the past century, Treasury bill yields have averaged about 3.5% and 10-year Treasury bond yields have averaged about 5%. Meanwhile, the S&P 500 has typically been priced for expected 10-year returns averaging about 10% annually. So even one expects zero-interest rate policy to prevail for another decade, the corresponding offset to zero Treasury bill yields and 1.5% 10-year Treasury yields would be to value the S&P 500 at a level consistent with 10-year prospective returns of about 6.5% annually. Unfortunately, that alone would require a market retreat of over 35%, based on valuation measures most closely related to actual subsequent market returns.

But there’s another problem. A world where short-term interest rates are compressed to zero is also a world where expected economic growth is likely to run several percent below historical norms. The narrow gap between low expected growth and no growth at all implies an elevated probability of intervening recessions and credit strains. The extreme level of equity valuations also implies an elevated potential for steep cyclical drawdowns. In this high-risk environment, investors should be demanding larger-than-normalrisk premiums on equities versus the returns available on Treasury securities. Instead, current stock valuations imply 10-year expected returns that provideno compensation at all for the additional risk.

The fact that low interest rate environments have typically been associated with low growth is why the completion of every single market cycle in history, even those associated with very low interest rates, has brought valuations low enough to place prospective 10-year S&P 500 total returns into at least the 8-10% range. Interest rates do not need to rise for stocks to collapse (which, again, investors should recall even from the 2000-2002 and 2007-2009 episodes). Emphatically, the belief in a one-to-one relationship between 10-year Treasury yields and equity valuations is an artifact of the disinflationary period from 1980-1997. Outside of this period, the correlation between interest rates and equity valuations is roughly zero, and that correlation goes wholly the wrong way outside of the inflation-disinflation cycle from 1970-1997. See the charts in Voting Machine, Weighing Machine for a refresher.

Even a historically normal return spread between interest rates and expected 10-year equity returns would place the S&P 500 more than 35% below current levels. Given the relatively weak correlation between bond yields and equity valuations across history, coupled with the low economic growth and high economic risk inherent in a zero interest rate world, it’s quite likely that equity valuations will revert in this cycle to the same range they have alwaysestablished or breached in every market cycle across history. That outcome would take the S&P 500 down to half its present level.

Quantitative easing and near-term speculation

Reliable valuation measures are highly informative about long-term investment returns and full-cycle risks, but they often have very little relationship with market outcomes over shorter segments of the market cycle. During the Fed-induced yield-seeking bubble of recent years, this has been particularly true, as the novelty, persistence, and breathtaking recklessness of central bank easing outweighed even the usefulness of “overvalued, overbought, overbullish” syndromes that had reliably warned of steep market losses in prior cycles. That turned out to be our own Achilles Heel in the advancing half of the current cycle (see the “Box” in The Next Big Short for that narrative, and how we adapted in mid-2014).

The hinge that distinguishes an overvalued market that holds up from an overvalued market that collapses is emphatically not monetary policy per se, but rather, the inclination of investors toward speculation or risk-aversion. That inclination is best inferred from the uniformity of market action across a broad range of individual stocks, industries, sectors and security types, including debt securities of varying creditworthiness (when investors are inclined to speculate, they tend to be indiscriminate about it). In the face of quantitative easing, even obscene valuations and “overvalued, overbought, overbullish” warning signals were not sufficient to adopt a hard-negative market outlook. One had to wait until market internals deteriorated explicitly before doing so.

As we know from every extreme risk-seeking episode in history, including those that brought stocks to the 1929, 1937, 1972, 2007 and 2007 pre-collapse peaks, there need be nothing sensible, logically consistent, empirically sound, or even factual about the ideas that lead investors to speculate. Rather, extreme risk-seeking relies on “memes” or shared concepts about the world that may have little factual basis at all. As Warren Buffett correctly noted, “a pack of lemmings looks like a group of rugged individualists compared with Wall Street when it gets a concept in its teeth.” Quantitative easing is exactly that sort of concept.

From the standpoint of the real economy, quantitative easing has no measurable economic impact. The global financial crisis ended the moment the Financial Accounting Standards Board abandoned mark-to-market accounting requirements for bank balance sheets in March 2009, and the trajectory of GDP and employment since then has been essentially no different than what could have been predicted from lagged values of wholly non-monetary variables (a fact that can be demonstrated by comparing constrained and unconstrained vector autoregressions).

The main effect of QE has been breathtaking distortion in the financial markets, as the Fed has replaced interest-bearing bonds with trillions of dollars in zero-interest currency and bank reserves that must be held by someone at every moment in time. These hot potatoes created such discomfort that investors abandoned any consideration of risk-premiums or potential capital losses, in a desperate speculative reach-for-yield. Remember, however, that QE can only reliably encourage speculation if investors are already inclined to speculate. Yield-seeking only “works” if investors imagine away the risk of capital losses.

After our measures market internals deteriorated in the third quarter of 2014, indicating a growing shift toward risk-aversion among investors, the “effectiveness” of zero interest rate policy deteriorated enormously. See, if investors are risk-averse, zero-interest liquidity becomes a desirable asset rather than an inferior one. Over the past two years, the broad market has gone sideways, stocks have become much more vulnerable to retreats, and central banks have resorted to ever more dramatic stick-save interventions in order to compensate. With their egos distended by delusions of grandeur, central bankers have become frantic to sustain the belief of investors that QE “works,” because only then can those beliefs be self-fulfilling. That’s why Haruhiko Kuroda, the head of the Bank of Japan, openly observed in early-June, “I trust that many of you are familiar with the story of Peter Pan, in which it says, ‘the moment you doubt whether you can fly, you cease forever to be able to do it.’” It’s also why the world was subjected last week to the narcissistic spectacle of 14 separate speeches from Federal Reserve members. A con-game doesn’t work without confidence.

Where are we now?

On a valuation basis, the long-term and full-cycle prospects for the equity market are awful. A 40-55% collapse over the completion of this cycle would be merely run-of-the-mill, as would zero nominal total returns over the coming decade (which would leave the S&P 500 Index itself at a lower level than it is today). There will undoubtedly be long periods of outstanding investment opportunity in coming market cycles, but recognize how extreme valuations are at present. The fact is that a secular low like 1949 or 1982, even twenty-five years from today, would be associated with S&P 500 nominal total returns averaging just 4% annually over that horizon, even on the optimistic assumption of 5% annual nominal economic growth over the same period (this is just arithmetic - see, for example, Ockham’s Razor and the Market Cycle). All of that gain would be from dividends.

While the message from valuations is clear, the message from market internals is less well-defined here. Our best measures haven’t shifted to a constructive outlook, but enough trend-following components have improved that we’ve refrained from pounding our fists about near-term market losses. It might be more satisfying for our long-term and near-term outlook to be wholly consistent, but market conditions are much better described as offensively negative long-term, yet rather neutral near-term. As interest rates have collapsed in Europe and Japan (which we view as an indication of worsening global economic prospects), a slight improvement in month-to-month U.S. economic figures has left investors with a “Goldilocks” perspective that the economy is not-too-hot and not-too-cold, which has provoked rather aggressive short-covering.

On Friday, the S&P 500 reached its upper monthly Bollinger band (two standard deviations above its 20-period moving average), at a point where the S&P 500 is wickedly overvalued and cyclical momentum has been rolling over. Similar extremes identified the final peaks of the 2000 and 2007 bull markets, but we’ve learned not to rely too heavily on even the most extreme overvalued, overbought, overbullish syndromes if market internals are not explicitly unfavorable. The recent advance amounts to a “technical breakout” from the perspective of many trend-following investors, and it’s not at all clear that the race to jump onto that particular wagon has been exhausted.

Probably the best way to characterize present conditions is to share what I’m seeing in the methods we use to classify the expected return/risk profile of the market. In the chart below, the red line shows the cumulative S&P 500 total return in periods that match the same market return/risk classification we observed last week. This classification represents about 10% of periods across history, and captures a nearly stair-step cumulative market loss of about 92%. That said, during about one-fifth of these periods (2% of history), various trend-following components within our measures of market internals were at least as positive as they are at present. The cumulative market return during this subset is shown in green, and while the cumulative market return is still negative, it is much more muted. Recent market action can be seen as the little upward blip at the very end of the red and green lines.

The blue line does not reflect the present return/risk classification, but the one I view as most likely in the even that market internals improve further. Average market returns under this classification were negative prior to the current market cycle, but have been more favorable in the face of quantitative easing. That’s the reason I’ve noted that a further improvement in market internals could shift our outlook to what might be described as “constructive with a safety net.”

The chart above also shows a few boxes which illustrate the need for a safety net even if market internals improve further. The boxes along the blue line highlight most favorable periods in that market return/risk classification: one in the mid-1960’s, one approaching the 2007 market peak, and one approaching mid-2014 (there is also a smaller one approaching the 2000 peak). These represent periods when, despite an otherwise offensive market climate, market internals demonstrated enough uniformity to suggest that investors were inclined toward risk-seeking. Notice that the next shift was typically into the return/risk classification shown in red, and that the S&P 500 typically followed with significant losses.

For that reason, any improvement in market internals that might warrant a modestly constructive outlook, in the face of otherwise offensive market conditions, should emphatically be paired with a safety net that doesn’t rely on stop loss orders. I remain particularly concerned about a break of the 1980 area on the S&P 500, which could provoke a coordinated attempt by trend-following speculators to exit if it were breached. My impression is that very little buying interest would be available to absorb that supply, except at substantially lower levels. Here and now, the near-term outlook is fairly neutral.

Fuzzy thinking

A few final notes. I’m sometimes asked why we don’t “adjust” valuation measures such as MarketCap/GVA or other metrics for interest rates. While the comparison between prospective equity returns and bond yields is certainly important, the question itself reflects fuzzy thinking on the subject.

See, in order to estimate the price that links a given a stream of expected future cash flows with a particular long-term rate of return, one needs two inputs: the expected stream of cash flows, and the desired rate of return. If the security is purchased at the resulting price, it will then deliver the assumed long-term rate of return provided that those expected cash flows are actually realized over time. Once the expected price is calculated (which embeds some desired rate of return), it can then be compared with the actual current price.

Similarly, in order to estimate a long-term rate of return that links the actual current price with a given stream of expected future cash flows, one also needs two inputs: the current price, and a reliable “sufficient statistic” for those future cash flows. Once the expected rate of return is calculated, it canthen be compared with competing returns on other assets.

The chart below may clarify this point. The horizontal axis measures the price of a 10-year bond, on a log scale. The vertical axis shows the corresponding yield-to-maturity. Since the future stream of cash flows is fixed, the bond price itself is essentially a kind of valuation ratio. Three bonds with different coupon payments are shown, to illustrate that while the slopes are a bit different (and there’s actually slight curvature remaining), there is typically a fairly linear relationship between log valuations and subsequent long-term returns. Useful intuition here is that discounting future cash flows to present value involves exponents, so converting prices to the underlying discount rates involves logarithms. There is no need to “adjust” the bond prices by interest rates. Rather, one first estimates the expected return, and then compares that expected return with other alternatives.

At present, we expect nearly zero nominal total returns for the S&P 500 on a 10-12 year horizon. That’s even less than the unprecedented low yields available on Treasury bonds. Given the steeper downside risk of equities, we actually view cash - yes, poor low-yielding cash - as a very competitive alternative to equities here. That will certainly change over the completion of this market cycle, but at present, we strongly encourage investors to focus on low-risk holdings, hedged equity, and alternative investments not highly correlated with equity market fluctuations or credit risk.

Another example of fuzzy thinking involves the perennial claim at market extremes that there is a mountain of “cash on the sidelines” still waiting to be invested in stocks. As I noted in early 2008, before the market collapsed:

“Over the past week, there has been increasing talk that the current mortgage troubles are ‘closer to the end than the beginning,’ are ‘in the 7th or 8th inning,’ and so on. Along with those comments, some from heads of financial companies such as Morgan Stanley, are assertions that there is ‘a lot of cash on the sidelines’ to support the markets. It would be nice to believe these assurances. But as I noted in my October 15, 2007 market comment (Warning - Examine All Risk Exposures): ‘we're likely to observe a growing amount of what will wrongly be viewed as ‘cash on the sidelines’ and ‘money creation’ in the banking system’... Securities are simply evidence that money has been intermediated from a saver to a borrower. Once the security is issued, it exists until it matures or is otherwise retired. If I have $1000 ‘on the sidelines’ in Treasury bills, it represents money that has already been spent by the Federal government. If I sell this T-bill to buy stocks, somebody else has to buy it, and there will be exactly the same amount of money ‘on the sidelines’ after I buy my stocks than before I bought them. It is simply a fallacy of non-equilibrium thinking to imagine that money ‘goes into’ or ‘comes out of’ secondary markets in securities. We should not look at rapid issuance of government debt, heavy foreign acquisition of our assets, and widening current account deficits with stars in our eyes that somehow our growing mountain of indebtedness is something good.”

Hussman Weekly Market Comment, April 14, 2008

Simply put, every security that is issued has to be held by somebody, in exactly the form it was issued, until that security is retired. If the Federal Reserve effectively retires $4 trillion in government bonds from public ownership, and replaces them with $4 trillion of currency and bank reserves, somebody has to hold that cash, in that form, until it is retired. There is no such thing as this money going “into” the stock market. If a buyer comes “into” the market with cash, the cash goes right back out an instant later in the hands of the seller. Likewise, if trillions of dollars of low-interest Treasury bills, low-yielding corporate debt, and other securities have been issued, those securities have to be held by somebody, in exactly that form, until they are retired. One can call all of this low-interest paper “cash on the sidelines” if one wishes, but the essential fact is still that those securities will never come off the “sidelines” until they are explicitly retired. Until then, they must be held bysomeone, at every moment in time, in exactly the form in which they were issued.

Stock prices don’t go up or down because money goes “into” or “out of” the market. For every buyer, there is a seller. Every dollar that comes in goes out. All that matters is who is more eager - the buyer or the seller. Speculative yield-seeking has certainly produced eager buyers, who have driven virtually every asset class to nosebleed valuations and dismal prospective future returns. At present, zero interest cash is quite competitive with risky assets, so be wary of the assumption that just because cash earns virtually nothing, any risk asset offering a yield must be dominant. Again, yield-seeking only “works” as long as investors imagine away the risk of capital losses. Though we should allow for the possibility of further near-term speculation, those full-cycle losses will ultimately arrive nonetheless.

The foregoing comments represent the general investment analysis and economic views of the Advisor, and are provided solely for the purpose of information, instruction and discourse. Please see periodic remarks on the Fund Notes and Commentary page for discussion relating specifically to the Hussman Funds and the investment positions of the Funds.

Friday, July 15, 2016

Almost over

The Rally Is Over, People

Jul. 15, 2016 3:51 AM ET

Matthew Allbee

Matthew Allbee


The market's recent rally has been based on greed and shouldn't be trusted.

Market indicators show that rising prices will not be a sustained phenomenon.

Wait until the indicators I go over in this article have cooled down before wading in.

According to multpl.com, the composite P/E ratio of the S&P 500 (NYSEARCA:SPY) is currently just above 24. This is above the average, and in the range of common reversal areas for P/Es.

As you can see, P/Es have consistently bounced off of these levels, barring a few extraordinary cases, for more than 100 years. To me, this could signal a small bubble in the equity market. This reasoning goes along with the circumstances in the overall financial markets.

As interest rates have continued to fall, return-starved investors have been forced to look at riskier assets in hopes of preserving their previous rates of return. What happened after the Brexit vote? Why has the stock market been so highly correlated to crude oil for much of this year?

Both of these things caused yields to fall - on economic growth fears in the case of Brexit and deflation fears for oil. This further lowered the return on bonds.

While not a definitive signal, this should give you a strong reason to pause before buying at current levels. Hopefully, the picture will become even clearer after the next section.

The Fear & Greed Index is signaling "extreme greed" in the markets

The CNN Fear & Greed Index is a surprisingly well put-together tool for analyzing current market sentiment. It creates a composite score using 7 indicators: the put/call ratio, stock price strength, market momentum, advancing volume vs. declining volume, the yield spread between junk and investment grade bonds, safe-haven demand, and VIX movements. Altogether, these indicators are giving a composite score of 85 out of 100, or "extreme greed."

Unfortunately, the graphs of each indicator are not downloadable, so you'll have to go to the link if you want to view them. Even if you don't care what the charts look like, the index is chock full of relevant, easy-to-read, info.

Put/Call Ratio

The put/call ratio, is a measure of the short versus long bets in the options markets. A put is an option to sell a security at a certain price, while a call is an option to buy a security at a certain price. They are often used as proxies to measure the long and short sentiment of the market.

As per CNN, put buying is around the lowest levels seen "during the last two years," pushing the ratio below 0.7. This is a sign that investors are largely discrediting a move downward. Long positions outweigh short positions much more strongly than is normal. Bullish sentiment is overextended.

When market anxiety invariably begins to rise again, many of the weak hands may all sell at once. This would lead to a rip downward and further selling pressure for a few days after. On the other hand, more good news will have less sway, as investors are already overwhelmingly long.

Stock Price Strength

Stock price strength is measured by the change in new 52-week highs minus new 52-week lows. This measure has been steadily increasing since the sharp drop in January of this year. At the most recent reading, it was pushing +10%.

As investors have become more confident in the future prospects of companies, they bid up prices - and this index, in a sense, estimates the growth or decline in the growth of this confidence by calculating the percentage change in the number of companies that investors are more confident in now than at any other time in the last 52 weeks. It is up to you to determine if this growing confidence is founded in reality. Is the outlook for U.S. stocks greater than at any other point during this year? How realistic were the estimates then?

Junk Bond vs. Investment Grade Yields

The spread between yield and investment grade bonds is an important indicator of risk aversion, with a lower spread indicating reduced risk aversion. It peaked in January and has been fallen throughout the year. Interestingly, despite growing economic uncertainty, yields have continued their declines into July.

This, again, points to return-hungry investors with no other choice reaching for higher-risk investments. While this is nice for junk bond issuers, it isn't based on fundamentals. When bond markets invariably reprice back to fundamental values, these trades may quickly be unwound with harmful consequences for the holders of these high yield debts.


Financial markets are screaming "OVERBOUGHT." Just because the major indices are reaching new all-time highs doesn't mean they are destined to continue rising. Don't get sucked into the hype. Sit out it at least until a pullback brings everything back to more reasonable levels.

Disclosure: I/we have no positions in any stocks mentioned, but may initiate a short position in S&P E-MINIS over the next 72 hours.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Bubbles, Bubbles, Bubbles

Bubbles In Bond Land——It’s A Mania!

by David Stockman • July 14, 2016

Tweet about this on TwitterShare on FacebookShare on LinkedInPrint this pageEmail this to someone

Sometimes an apt juxtaposition is worth a thousand words, and one from this morning’s news is surely that.

Last year Japan lost another 272,000 of its population as it marches resolutely toward its destiny as the world’s first bankrupt old age colony. At the same time, the return on Japan’s 40-year bond during the last six months has been an astonishing 48%.

That’s right!

We aren’t talking Tesla, the biotech index or the FANGs. To the contrary, like the rest of the JGB yield curve, this bond has no yield and no prospect of repayment.

But that doesn’t matter because its not really a sovereign bond, anyway. It has actually morphed into a risk free gambling chip.

Leveraged front-runners are scooping up whatever odds and sots of JGB’s that remain on the market and are selling them to the BOJ at higher, and higher and higher prices.

At the same time, these punters face virtually no risk. That’s because the BOJ already own 426 trillion yen of JGB’s, which is nearly half of the outstandings. And it is scarfing up the rest at a rate of 80 trillion yen per year under current policy, while giving every indication of sharply stepping-up its purchase rate as it segues to outright helicopter money.

It can therefore be well and truly said that the BOJ is the ultimate roach motel. At length, virtually every scrap of Japan’s gargantuan public debt will go marching into its vaults never to return, and at “whatever it takes” in terms of bond prices to meet the BOJ’s lunatic purchase quotas.

Surely, Kuroda will go down in history as the stupidest central banker of all-time. But in the interim the man is contributing—-along with Draghi, Yellen and the rest of the central bankers guild—-to absolute mayhem in the global fixed income market.

That’s because these fools have succeeded in unleashing a pincer movement among market participants that is flat-out suicidal.To wit, the leveraged fast money gamblers are chasing prices ever higher as the sovereign bonds of “open to buy” central banks become increasingly scarce.

At the same time, desperate bond fund managers, who will loose their jobs for just sitting on cash, are chasing yields rapidly lower on any bond that still has a positive current return.

This is the reason the 30-year US treasury bond has produced a 22% return during the last six months. To say the least, that’s not shabby at all considering that its current yield is just 2.25%.

Today’s Wall Street Journal piece entitled, “35-Year-Old Bond Bull On It’s Last Legs”,  quotes a European fund manager that explains why everything is going haywire:

Neil Dwayne, global strategist at Allianz Global Investors,is still buying. “Every piece of analysis we do on the bond market tells us they are structurally overvalued,” he said. But he is buying Treasurys anyway. “That’s what you have to do when you have the ludicrous valuations in Europe and Japan.”

Exactly. The poor man is buying a bond he hates because Draghi and Kuroda have driven him out of what amounts to a $15 trillion corner of the sovereign debt market.

The frenzied flight of yield seeking fixed-income investors is even more dramatically evident in the case of a Japan. As Zero Hedge recently demonstrated, Japanese investors have been frantically buying foreign bonds at record rates, as they scour the planet for yield:

This planetary scramble for yield puts Janet Yellen right in the financial dunce chair where she belongs.

She and the rest of her posse keep insisting that 90 months of ZIRP and $3.5 trillion of bond-buying have so far produced no serious signs of over-valuation or bubbles. But, pray tell, what does she think is happening in the US Treasury market at this very moment?

Over the last seven years, the Fed has done it level best to drive US treasury yields into the sub-basement of economic plausibility. Now the other major central banks are finishing the job.

In addition to the Wall Street front-runners on repo, we now have institutional fund managers from all over the world piling into the US bond market in frantic chase of the last positive yield standing.

Needless to say, this can’t go on much longer. As shown below, the weighted average yield in the entire DM government bond market has now skidded to just 40 bps. At the current rate of decline, the entire global market will be in subzero land by the end of the year.

You could call this central bank driven yield stripping. And the latter would be bad enough if its effects were limited to just the vast moral hazard it poses to governments and politicians all over the world.

After all, we are now entering the zone in which government debt is tantamount to free money, and, in fact, Germany actually issued new ten-year debt yesterday which bears a negative coupon.

In just the last three years, bund auctions have gone from what were all-time low yields in the 2% range at the time to the netherworld of subzero.


Undoubtedly, whatever vestigial impulses toward financial discipline which remain among the nations of the world will soon be extinguished in a frenzy of “helicopter money” style fiscal stimulus. Keynesian snake oil salesman like Larry Summers even make the utterly specious argument that now is the time for an orgy of spending on infrastructure, social improvements, and even pyramids for that matter, because government borrowing rates have never been lower.

That is true enough. The 10-year treasury closed a few days ago at a yield of1.34%——the lowest rate since 1790!

But, pray tell, how does the good professor think government bond yields got to this ridiculous estate, and what will happen after an orgy of spending and borrowing when rates return to normal sometime down the road?

They never say.

But in the meanwhile, it is not just politicians that are being lulled into the delusion of free money. The central bank driven stampede for yield has spilled over into every nook and cranny of the fixed income and equity markets around the world. Anything which prices on a spread basis against sovereign debt, or which is impacted by the endless destructive arbitrages that falsification of bond prices inherently generate, has been drastically over-valued.

It now appears that US corporate bond issuance will hit a record $1.7 trillion this year—-or 55% more than the last blow-off in 2007. And that is due to one reason alone——bond managers are desperate for yield and are moving out the risk spectrum exactly as our monetary central planners have ordained.

Here is the thing. Real net business investment in the US is still 10% below its turn of the century level. Accordingly, this massive fund-raising spree by corporate America is being cycled right back into the stock market in the form of stock buybacks, M&A deals and other financial engineering maneuvers.

In fact, during the most recent quarters the S&P 500 companies have cycled back into the Wall Street casino upwards of 125% of their net incomes in the form of dividends and buybacks. Yet Janet Yellen and her merry band see no bubbles.

Needless to say, you do not need a PhD in econometrics to see that the above chart goes a long way toward explaining an especially salient mystery of the moment.

To wit, how is it that the S&P 500 could be trading at an all-time high at25X reported earnings at the very time that retail equity fund outflows have sharply intensified?

During the last six months, in fact, outflows have even exceeded levels experienced after the 2001-2002 dotcom bust.

Yes, the buyer of last resort is the stock trading rooms in America’s corporate C-suites. Our stock option crazed CEOs and boards are doing nothing less than de-equitizing their balance sheets and eating their seed-corn.

Some day the due bill will arrive. But in the interim it is useful to contemplate the starting point. Corporate finances are being ransacked owing to the scramble for yield set in motion by central banks and the $13 trillion of subzero sovereign debt that has been generated in the last two years.

But this monumental deformation is so recent that there is very little negative coupon debt that has yet been issued in the marketplace. Subzero land is overwhelmingly a phenomena of the one-the-run market, meaning $13 trillion of bonds are trading at significant premiums to par—-and, in some Japanese and German issues, massively so.

In short, the global bond market has become a giant volcano of uncollectible capital gains. For example, long-term bunds issued four years ago are now trading at 200% of par.

Yet even if the financial system of the world somehow survives the current mayhem, the German government will never pay back more than 100 cents on the dollar.

Can you say multi-trillion dollar bond implosion?

Better try. Its evenutal arrival is an absolute certainty.

Oil’s Death Spiral--sent by aaajoker

As Chinese Refiners Flood The World, Gasoline Tankers Pile Up In New York City Harbor

Tyler Durden's picture

by Tyler Durden

Jul 13, 2016 9:33 PM

Just over a month ago, when we pointed out that that the gasoline curve was about to shift from contango into backwardation, we said that the gasoline tanker armada off the coast of Singapore was about to start offloading as it would soon become uneconomical to hold product in offshore storage. This meant one thing: China was about to unleash a wave of accelerated gasoline exports across the entire world.

We pointed out the unprecedented surge in Chinese gasoline stocks...

... and added that as China continues to imports tremendous amounts of both crude and product, far greater than actual demand, this would send "China's gasoline stocks to even higher record levels. In other words, the global glut is now not only at the crude and distillate level, but also in global gasoline stocks."

One month later we find out that this was a correct assessment of the situation. 

According to the WSJ, while initially China’s demand for oil helped soak up some of the surplus crude sloshing around the world, China is no longer the handy excess supply "buffer" it once was and as a result China's teapot refiners are now flooding markets with products including diesel and gasoline, in the latest example of how surging Chinese exports are shaking the commodities industry.

China’s total exports of refined fuels jumped 38% on-year to 4.2 million tons, or roughly 1.02 million barrels a day, in June, according to the latest data released Wednesday by the customs administration. Its refined fuel exports are up 45% overall so far this year. Much of the surge is attributable to a leap in China’s shipments of diesel. In May, China’s exports of the fuel mainly used in heavy industry had quadrupled on-year to 1.5 million tons; detailed data for June is due later this month.

The sharp rise is merely a confirmation of what many have said all along: in its relentless bailouts of all enterprises, the Chinese government is unleashing a deflationary wave around the globe, which forces Chine to dump its products to any and every buying around the globe, in the process massively undercutting prices. This mirrors similar increases in China’s exports of processed basic materials like steel in recent months, a trend that has provoked anguished complaints from governments and industry bodies across the world.

Worse, what many thought was stable Chinese domestic demand, ended up being just the filling of every possible container, not to mention the now almost full SPR, in lieu of actual domestic commodity demand. As such, China's sagging demand as the economy slows once more has left the country’s oil and metal refiners with huge surpluses they are increasingly looking to sell abroad.

“[China’s] demand for diesel continues to disappoint, mainly as a result of slower industrial output compared to [the] same period in 2015,” according to a recent report from the Organization of the Petroleum Exporting Countries. 

Thus, unable to sell at home, China is aggressively exporting the latest deflation tidal wave, and the flood of Chinese diesel and other refined products spilling outward is bringing down prices in Asia, hitting China’s regional rivals hard. Refining margins—the difference between what refiners pay for crude versus the prices of the refined products they sell—have dropped by a third to around $4 a barrel since the first quarter across Asia, according to a report by J.P. Morgan.

Gasoline hasn’t proved immune.

Despite relatively strong demand within China as passenger vehicle sales continue to rise, China has been exporting more, with shipments doubling in May from last year to 780,000 tons.  “[Global gasoline] demand was off the chart last year and margins were in the double digits. All the refiners were incentivized to produce gasoline,” said Michal Meidan, a China specialist at Energy Aspects, a London-based energy research firm. “But demand for this year is not as stellar, so you have a surplus of gasoline everywhere,” she said.

That is most certainly true not only for China, but as we noted earlier in our post about oil's "death spiral" in the US as well, where plunging crack spreads likewise confirm that the US also now finds itself with far too much product (albeit due to different dynamics). As we have explained previously, much of the increase in Chinese refined product exports is due to shifts in the way the industry is regulated at home. Beijing has more than doubled the amount it allows refiners to sell abroad this year, according to Energy Aspects data.  The resurgence of China’s independent crude refiners, known as teapots, has also been key.

Last year, Beijing allowed these teapots to directly import crude from abroad for the first time, rather than having to buy more expensive crude from domestic state-owned oil companies. Their subsequent ramp-up in production has provided big state-owned refiners such as Sinopec and China National Petroleum Corp. with greater competition at home, leading them to sell more abroad.

But the worst news is that this is just the beginning:

Teapot refiners could also soon export more too: Some are aiming to ship 50% of their total output abroad within three years, up from around 10% currently, says Nelson Wang, energy analyst at brokerage CLSA, based on recent conversations with a number of such operators.

But who will they sell too? After all the world is already flooded with gasoline? Well, for a low enough price, they will find buyers. Teapots already often sell refined products at a discount compared to their rivals at home and abroad to attract customers. “This is just the beginning, and the bigger threat [on margins] is yet to come,” Mr. Wang said.

But the worst possible case is if China's economy were to hit another major snag. As the Chinese government seeks to steer the economy from an industry-heavy focus to a consumption-based one, domestic demand for refined fuels could wane further, in turn stoking more exports of diesel, analysts say. In turn, analysts say China’s crude imports could also decline: they hit a five-month low in June at 30.62 million tons, though that was still up 3.8% on-year.

Chinese refineries’ rising output could keep its gasoline exports high too. The country’s gasoline production could outpace domestic demand growth by 9% this year, according to analysts at energy researcher ICIS.

“Exports are still the main solution for China to mitigate the oversupply of gasoline,” said ICIS, forecasting China’s shipments this year to hit 8 million metric tons, or 160,000 barrels a day, a jump of 40%.

And while Chinese gasoline exports have not hit the US yet (and they well may eventually), the US is already having a major problem with storing all the gasoline the rest of the world has to export. None other than the IEA in its monthly report said that the global gasoline glut is so big that tankers are now storing in New YOrk's harbor. “Brimming” inventories, concern over gasoline demand in key markets, “weighed down” prices for the fuel in June.  The IEA also adds that some companies "have been forced to turn to floating storage in the New York Harbour area."

As Reuters reported last week, at least two tankers carrying gasoline-making components have dropped anchor off New York Harbor for nearly a week, unable to discharge their cargoes in the latest sign that storage for the fuel is running out, traders said. Several tankers with gasoline have also been diverted from the New York region to Florida and the U.S. Gulf Coast in recent days, a rare move that underscores oversupply in the pricing hub for the benchmark U.S. gasoline.

The 74,000 tonne tanker EMERALD SHINER , carrying a cargo of alkylite from the west coast of India has been anchored off the New York Coast since June 28, according to Reuters shipping data and traders.

The 37,000 tonne ENERGY PROGRESS , with a cargo of reformate from Turkey, has similarly been waiting outside New York since June 28.

Furthermore, at least three cargoes of gasoline from Europe, which heavily relies on exports to the U.S. East Coast, have been diverted in recent days from New York Harbor to Florida and the U.S. Gulf 

Coast, ship tracking showed.

Those include the tankers ENERGY PATRIOT , SEASALVIA and ANCE.

“Tanks are full to the brim in New York Harbor,” a trader said.

There is much more on this topic, but at its core it is a very simple story of too much supply and not enough demand.

And now that the market is finally realizing what happened, the understanding that oil's "death spiral - edition 2016" is being catalyzed not just by oil market dynamics, but by oil products such as diesel and gasoline, is finally being appreciated by the market...  just as we predicted would happen back in February.

Time is running out

War Is Coming And The Global Financial Situation Is A Lot Worse Than You May Think

By Michael Snyder, on July 13th, 2016

Share on FacebookTweet about this on TwitterPin on PinterestShare on Google+Share on LinkedInShare on StumbleUponEmail this to someone

city skyscrapers clock time stopwatch seconds - public domainOn the surface, things seem pretty quiet in mid-July 2016.  The biggest news stories are about the speculation surrounding Donald Trump’s choice of running mate, the stock market in the U.S. keeps setting new all-time record highs, and the media seems completely obsessed with Taylor Swift’s love life.  But underneath the surface, it is a very different story.  As you will see below, the conditions for a “perfect storm” are coming together very rapidly, and the rest of 2016 promises to be much more chaotic than what we have seen so far.

Let’s start with China.  On Tuesday, an international tribunal in the Hague ruled against China’s territorial claims in the South China Sea.  The Chinese government announced ahead of time that they do not recognize the jurisdiction of the tribunal, and they have absolutely no intention of abiding by the ruling.  In fact, China is becoming even more defiant in the aftermath of this ruling.  We aren’t hearing much about it in the U.S. media, but according to international news reports Chinese president Xi Jinping has ordered the People’s Liberation Army “to prepare for combat” with the United States if the Obama administration presses China to abandon the islands that they are currently occupying in the South China Sea…

“Chinese president Xi Jinping has reportedly ordered the People’s Liberation Army to prepare for combat,” reports Arirang.com. “U.S.-based Boxun News said Tuesday that the instruction was given in case the United States takes provocative action in the waters once the ruling is made.”

A U.S. aircraft carrier and fighter jets were already sent to the region in anticipation of the ruling, with the Chinese Navy also carrying out exercises near the disputed Paracel islands.

Last October, China said it was “not frightened” to fight a warwith the U.S. following an incident where the guided-missile destroyer USS Lassen violated the 12-nautical mile zone China claims around Subi and Mischief reefs in the Spratly archipelago.

Meanwhile, the relationship between the United States and Russia continues to go from bad to worse.  The installation of a missile defense system in Romania is just the latest incident that has the Russians absolutely steaming, and during a public appearance on June 17th Russian President Vladimir Putin tried to get western reporters to understand that the world is being pulled toward war…

“We know year by year what’s going to happen, and they know that we know. It’s only you that they tell tall tales to, and you buy it, and spread it to the citizens of your countries. You people in turn do not feel a sense of the impending danger – this is what worries me. How do you not understand that the world is being pulled in an irreversible direction? While they pretend that nothing is going on. I don’t know how to get through to you anymore.

And of course the Russians have been feverishly updating and modernizing their military in preparation for a potential future conflict with the United States.  Just today we learned that the Russians are working to develop a hypersonic strategic bomber that is going to have the capability of striking targets with nuclear warheads from outer space.

Unfortunately, the Obama administration does not feel a similar sense of urgency.  The size of our strategic nuclear arsenal has declined by about 95 percent since the peak of the Cold War, and many of our installations are still actually using rotary phones and the kind of 8 inch floppy disks for computers that were widely used back in the 1970s.

But I don’t expect war with China or Russia to erupt by the end of 2016.  Of much more immediate concern is what is going on in the Middle East.  The situation in Syria continues to deteriorate, but it is Israel that could soon be the center of attention.

Back in March, the Wall Street Journal reported that the Obama administration wanted to revive the peace process in the Middle East before Obama left office, and that a UN Security Council resolution that would divide the land of Israel and set the parameters for a Palestinian state was still definitely on the table…

The White House is working on plans for reviving long-stalled Middle East negotiations before President Barack Obama leaves office, including a possible United Nations Security Council resolution that would outline steps toward a deal between the Israelis and Palestinians, according to senior U.S. officials.

And just this week, the Washington Post reported that there were renewed “rumblings” about just such a resolution…

Israel is facing a restive European Union, which is backing a French initiative that seeks to outline a future peace deal by year’s end that would probably include a call for the withdrawal of Israeli troops and the creation of a Palestinian state. There are also rumblings that the U.N. Security Council might again hear resolutions about the conflict.

For years, Barack Obama has stressed the need for a Palestinian state, and now that his second term is drawing to a close he certainly realizes that this is his last chance to take action at the United Nations.  If he is going to pull the trigger and support a UN resolution formally establishing a Palestinian state, it will almost certainly happen before the election in November.  So over the coming months we will be watching these developments very carefully.

And it is interesting to note that there is an organization called “Americans For Peace Now” that is collecting signatures and strongly urging Obama to support a UN resolution of this nature.  The following comes from their official website

Now is the time for real leadership that can revive and re-accredit the two-state solution as President Obama enters his final months in office. And he can do this – he can lay the groundwork for a two-state agreement in the future by supporting an Israeli-Palestinian two-state resolution in the United Nations Security Council.

Such a resolution would restore U.S. leadership in the Israeli-Palestinian arena. It would preserve the now-foundering two-state outcome. And it would be a gift to the next president, leaving her or him constructive options for consequential actions in the Israeli-Palestinian arena, in place of the ever-worsening, politically stalemated status quo there is today.

Sadly, a UN resolution that divides the land of Israel and that formally establishes a Palestinian state would not bring lasting peace.  Instead, it would be the biggest mistake of the Obama era, and it would set the stage for a major war between Israel and her neighbors.  This is something that I discussed during a recent televised appearance down at Morningside that you can watch right here

At the same time all of this is going on, the global economic crisis continues to escalate.  Even though U.S. financial markets are in great shape at the moment, the same cannot be said for much of the rest of the world.

Just look at the country that is hosting the Olympics this summer.  Brazil is mired in the worst economic downturn that it has seen since the Great Depression of the 1930s, and Rio de Janeiro’s governor has declared “a state of financial emergency“.

Next door, the Venezuelan economy has completely collapsed, and some people have become so desperate that they are actually hunting cats, dogs and pigeons for food.

Elsewhere, China is experiencing the worst economic downturn that they have seen in decades, the Japanese are still trying to find the end of their “lost decade”, and the banking crisis in Europe is getting worse with each passing month.

In quite a few articles recently, I have discussed the ongoing implosion of the biggest and most important bank in Germany.  But I am certainly not the only one warning about this.  In one of his recent articles, Simon Black also commented on the turmoil at “the most dangerous bank in Europe”…

Well-capitalized banks are supposed to have double-digit capital levels while making low risk investments.

Deutsche Bank, on the other hand, has a capital level of less that 3% (just like Lehman), and an incredibly risky asset base that boasts notional derivatives exposure of more than $70 trillion,roughly the size of world GDP.

But of course Deutsche Bank isn’t getting a lot of attention from the mainstream media right now because of the stunning meltdown of banks in Italy, Spain and Greece.  Here is more from Simon Black

Italian banks are sitting on over 360 billion euros in bad loans right now and are in desperate need of a massive bailout.

IMF calculations show that Italian banks’ capital levels are among the lowest in the world, just ahead of Bangladesh.

And this doesn’t even scratch the surface of problems in other banking jurisdictions.

Spanish banks have been scrambling to raise billions in capital to cover persistent losses that still haven’t healed from the last crisis.

In Greece, over 35% of all loans in the banking system are classified as “non-performing”.

Even though U.S. stocks are doing well for the moment, the truth is that trillions of dollars of stock market wealth has been lost globally since this time last year.  If you are not familiar with what has been going on around the rest of the planet, this may come as a surprise to you.  During my recent appearance at Morningside, I shared some very startling charts which show how dramatically global markets have shifted over the past 12 months.  You can view the segment in which I shared these charts right here

I would really like it if the rest of 2016 was as quiet and peaceful as the past couple of days have been.

Unfortunately, I don’t believe that is going to be the case at all.

The storm clouds are rising and the conditions for a “perfect storm” are brewing.  Sadly, most people are not going to understand what is happening until it is far too late.