Kocherlakota on Inflation

December 19th, 2014 10:34 am

Via the WSJ:

One of men who cast a dissenting vote at this week’s Federal Reserve policy meeting said Friday the U.S. central bank is playing an increasingly risky game that could lead to further declines in already weak inflation.

The official, Federal Reserve Bank of Minneapolis President Narayana Kocherlakota, said in statement the persistent weakness of inflation in the U.S. economy calls into question any move by the Fed toward raising interest rates. The fact that the Fed is edging toward higher rates “creates an unacceptable downside risk to inflation and inflation expectations,” he said.

Mr. Kocherlakota was one of three officials who offered formal votes of opposition against the policy stance put in place by the Fed at its monetary policy meeting it held over Tuesday and Wednesday.

In that gathering, the Fed upgraded its economic assessment and indicated it would be patient with the timing of interest rate increases. In a news conference after the meeting, Fed Chairwoman Janet Yellen said the Fed is “unlikely to begin the normalization process for at least the next couple of meetings,” suggesting long-standing expectations the Fed would raise short-term rates off their current near zero levels in the middle of next year remain in place.

The Fed’s decision brought a rare level of opposition, earning three “nay” votes for the first time since 2011. While Mr. Kocherlakota was worried the Fed would raise rates too soon, the leaders of the Dallas and Philadelphia Fed banks had very different worries. Dallas’ Richard Fisher said he believed rate rises will likely be needed sooner than many of his colleagues expect. Philadelphia’s Charles Plosser said he is uncomfortable with a policy outlook that still appears to imply short-term term rates will be held at very low levels for a predetermined amount of time.

Mr. Kocherlakota, who had already dissented two other times this year, had very different concerns. He continued to wonder why the Fed would consider raising rates when price pressures, currently at a 1.4% annual rise, remain short of the Fed’s official 2% inflation target.

He noted in his brief statement that inflation under the Fed’s target has persisted for 30 months, and that Fed forecasts expect price rises to fall short of a 2% gain for several more years. Expectations of future inflation, which had been stable, have begun to soften, based on market indicators.

The Fed’s “failure to respond to weak inflation runs the risk of creating a harmful downward slide in inflation and longer-term inflation expectations of the kind that we have seen in Japan and Europe,” Mr. Kocherlakota said. “I see this risk to the credibility of the inflation target as unacceptable, given how hard it would be for the Federal Open Market Committee to respond successfully if this eventuality did indeed materialize.”

As he has for some time, Mr. Kocherlakota said he would like the Fed to commit to keeping short-term rates at near zero levels as long as the one to two year outlook for inflation stayed below 2%. He also wanted the Fed to signal it would be ready if needed to employ more stimulus, including renewed long-term bond purchases, to push inflation back up.

Mr. Kocherlakota’s dissenting vote this week is the last of his Fed career. He announced last week he would leave the Minneapolis Fed at the start of 2016.

Corporate Bond Spreads

December 19th, 2014 9:08 am

Long dated financials opening mixed and IG just a tad wider.

12/18 CLOSE    12/19 OPEN      CHANGE

C  24      129/126        130/127          +1
WFC 24      106/103        105/102          -1
BAC 24      129/126        129/126          -0-
JPM 24      116/113        116/113          -0-
GE  24        87/84          87/84            -0-
GS  24      134/131        135/132          +1
MS  24      133/130        134/131          +1
IG23          65/65½      65¼/65¾        +¼

RV Trade

December 19th, 2014 9:01 am

The spread between Bunds and US in the 10 year sector is at its widest levels since 1999,according to a Bloomberg article. The spread rests at about 160 basis points.

I also watch Spain/US and when I marked that spread it was at its widest level since I began following it as it sits at about 50 basis points. That is Spain is 50 through US.

Via Bloomberg:

Widest Spread Since 1999 Shows Reading on Fed: Chart of the Day

With leaders of the Federal Reserve and the European Central Bank facing splits in their respective policy committees, the yield difference between U.S. and German bonds shows investors have been quicker to make up their minds.

The CHART OF THE DAY shows the spread between their 10-year bonds expanded today to the widest since 1999. It grew most recently after Fed Chair Janet Yellen suggested a “patient” approach to interest rates may translate into an increase by mid-2015 — a more hawkish scenario than some Fed officials endorse. In Europe, investors are pricing in the ECB buying sovereign bonds, a quantitative easing measure that Bundesbank President Jens Weidmann said this week wasn’t needed.

“The market seemed to be fixated with Yellen’s point about not moving in the next couple of meetings, implying they could move in April,” said Richard McGuire, head of European rates strategy at Rabobank International in London. “That helped to push the U.S.-Europe spread wider. Our view is that the U.S. cannot decouple itself from a slowdown that is global.”

Investors pushed the German 10-year yield, the European benchmark, down to a record low on Dec. 17, in a faster decline this year than seen in the corresponding U.S. rate. The American 10-year yield was at 1.61 percentage points more than the German at 12:40 p.m. London time, set for a 15-year high, compared with a spread at the start of this year at 1.1 percentage points.

Yellen said this week that there are a “range of views” on the Federal Open Market Committee about the timing of rate increases, as policy makers replaced a calendar-based phrase with language that gives them more flexibility to respond to economic data. In Europe, Mario Draghi is set to battle German-led concerns over the legality and even the need of government bond purchases. Draghi, the ECB president, has said that officials “don’t need to have unanimity” to act.

Steeper Curve

December 19th, 2014 8:30 am

Prior to the FOMC statement the 5s 30s curve rested at 115.7. In overseas trading on Wednesday evening I marked it as narrow as 111. That spread is now 118 basis points. Dealers report robust sales of the bond sector yesterday and then again in this most recent evening session. Real money has also sold the 10 year sector particularly the off the run series.

Big Jump in Dealer Holdings of Corporate Bonds

December 19th, 2014 7:05 am

Via Bloomberg:

IG CREDIT: Record Jump in Long Dealer Positions Off Record Low
2014-12-19 11:45:00.3 GMT

By Robert Elson
(Bloomberg) — Dealer positions in corporate bonds rose $9b
to $35.1b as of Dec 10. $45.9b, seen March 5, was the high for
the series Fed began April 2013; $23b low was in Aug 2013.
* Investment grade positions:
* Short issues rose $434m to $4.6b; $4.7b, seen Nov 19,
was the high for 2014 and for the series that began in
April 2013; $1.2b low Aug 2013
* Positions longer than 13 months jumped $8.7b to $12b vs
$3.3b the previous week, a new low for the series;
$16.3b, the high, was seen Mar 12, 2014
* Positions longer than 13 months jumped $8.7b to $12b vs
$3.3b the previous week, a new low for the series;
$16.3b, the high, was seen Mar 12, 2014</li></ul>
* Commercial paper positions at $12.1b, up $438m; $19.9b, the
high, seen Mar 5, 2014 and $7.2b, the low, seen Jan 1, 2014
* High yield positions fell $522m to $6.4b; $1.1b, a new
series low was seen Oct 22, 2014; high of $8.4b was seen
June 2013
* Total dealer positions in all Treasuries rose $14.1b to
$51.8b; in a look-back to Jan 2007 the high was $146b in Oct
2013, -$194b was seen July 2007

Secondary market Corporate Bond trading Yesterday

December 19th, 2014 6:57 am

Via Bloomberg:

IG CREDIT: Spreads Move Further From 2014 Wides; HY Leads
2014-12-19 11:02:40.179 GMT

By Robert Elson
(Bloomberg) — The final Trace count for secondary trading
was $15.4b vs $15.7b Wednesday and $15.3b the previous Thursday.
10-DMA at $14.7 vs $14.9b, as $17.8b falls from the count; 10-
DMA of only Thursday sessions $16.3b.
* 144a trading added $2.3b of IG volume
* TOTAL 3.75% 2024 was the day’s most active issue with client
flows sharing volume with trades between dealers near 50/50
* MS 4.35% 2026 was next; client selling 2.3x buying, together
taking 99% of volume
* MS 3.70% 2024 was 3rd; client flows took 43% of volume
* MDT issues took 4 of the top-5 most active spots in 144a
trading; MDT 2045 was 1st with client flows accounting for
87% of volume
* BofAML IG Master Index at +147 vs +150 +151, the new wide
for 2014 was seen Tuesday; +106, the low for 2014 and the
tightest spread since July 2007 was seen June 24
* Standard & Poor’s Global Fixed Income Research IG Index at
+175 vs +176; +177, the new wide for 2014 was seen Tuesday;
+140, a 2014 low and new post-crisis low was seen July 30
* S&P HY index at +597 vs +626; Tuesday saw a new wide for
2014 at +644
* S&P spread history in a 10-year lookback
* BofAML HY Index at +515 vs +548; +571, a new wide for 2014
and the widest spread since Nov 2012 was seen Tuesday
* Markit CDX.IG.22 5Y Index at 65.1 vs 69.7 vs 76.1, a new
wide for 2014; 55 was seen July 3, the low for 2014 and the
lowest level since Oct 2007
* No IG issuance Thursday save a $500m 144a re-opening of
NEDWBK 0.50% 3/4/2016
* Month’s IG issuance $60.5b; YTD $1.395t
* M&A-related deals for 2015 in pipeline; PHILIP, INDON may
issue in January
* Serial January issuers:
* GE Capital may open 2015 issuance
* JPM a likely January issuer, based on historical record
* BAC historically issues in January
* GS often issues in January, has large maturities in 2015
* ABIBB, BRK have history of January issuance
* ABIBB, BRK have history of January issuance</li></ul>


December 19th, 2014 6:49 am

Via Marc Chandler at Brown Brothers Harriman:

Dollar Firm As Correction Ends

- For many investors, today marks the end of the year, but it is ending on a favorable note
- Too many people were doing all kinds of mental and verbal gymnastics to account for what was a technical move
- Today’s dollar gains against the yen come as BOJ Governor Kuroda seemed to express concern about the pace of the recent moves
- China revised up the size of its economy at the end of last year; the PBOC has taken steps to ease the liquidity squeeze in the interbank market
- Canada reports CPI and retail sales today
- Brazil reports November current account and FDI data
- Colombia central bank meets and is expected to keep rates steady at 4.5%
- Polish central banker Chojna-Duch noted that a weaker zloty is “beneficial” for the economy

Price action:  The dollar is mostly firmer against the majors.  The antipodeans are the exception, basically flat against the greenback.  The euro is back near the cycle low of $1.2250 from December 8, while cable is trading just below $1.5650.  The yen is the worst performer today, with dollar/yen trading back near 119.50.  EM currencies are mostly weaker, though the ruble is bucking the trend and trading up 3% against the dollar.  PLN, HUF, and ZAR are the biggest underperformers today.  MSCI Asia Pacific was up nearly 2%, driven by a 2.4% gain in the Nikkei.  MSCI EM is higher for a third straight day, up 0.7%.  Euro Stoxx 600 is up 0.1% near midday, while S&P futures are pointing to a higher open. Oil prices are up about 1% on the day.

  • For many investors, today marks the end of the year, but it is ending on a favorable note. The combination of the FOMC meeting and the SNB adoption of negative interest rates underscored the dollar and equity bullish divergence theme.
  • It struck us that too many people were doing all kinds of mental and verbal gymnastics to account for what was a technical move.  The correction, which came after a strong six-week trend move, lasted a week (December 9-16).  The S&P 500 and the Dow Jones Stoxx 600 have both recouped around 70% of that downdraft.
  • The euro peaked near $1.2570 on December 16 and has not been able to resurface above $1.2300 for nearly 24 hours.  The SNB’s move, effective the same day the ECB’s meeting on January 22, is no coincidence.  Just as the market is feeling more confident in a rate hike by the Fed near mid-2015, it is feeling more confident of a broader asset plan from the ECB.  The euro is holding a little above the low set on December 8 just below $1.2250.  In the thinning holiday markets, moves may be exaggerated, but now it seems asymmetrically so to the downside.
  • The dollar peaked against the yen on December 8 near JPY121.85.  The violent correction ended in front of JPY115.50, a key technical retracement level of the dollar’s advance from both October 15 and October 31.  The JPY119.50 high the dollar has recorded today corresponds to a 61.8% retracement of the dollar’s decline over the past week.  A move above there would suggest a return to the highs and beyond.  
  • Ironically, today’s dollar gains against the yen come as BOJ Governor Kuroda seemed to express concern about the pace of the recent moves.  It was practically a forgone conclusion that the BOJ would not alter policy or break new ground at its last meeting of the year.  The Nikkei gapped higher yesterday and today.  It closed on its highs and appears poised to test the high from December 8 a little above 18000.  
  • Sterling is uninspired.  It is caught between the strength of the dollar and the weakness of the euro (and Swiss franc).  Since mid-November sterling has been confined to a $1.56-1.58 trading range.  There have been a handful of violations of this two-cent range, but it has largely held.   Against the euro, sterling has been in a wider range.  Since September it has been peaking in the GBP0.8000-50 area and bottoming in the GBP0.7800 area.  The divergence between the UK and euro area will become more pronounced.  However, political uncertainty, especially with the Scottish Nationals indicating they are willing to cut a deal with Labour, may detract from sterling’s advantage.  Meanwhile, the FTSE has recouped 61.8% of its week-long decline.  
  • Incorporating the latest census data to measuring economic activity, China revised up the size of its economy at the end of last year.  The 3.4% increase is CNY58.8 trillion.  This is about $300 bln.  To put that into perspective, consider it roughly the size of the Singapore’s GDP.  This is the first step of the process.  The next step is to adopt the international standards regarding methodology, which China has signaled it will do early next year.  This will likely boost estimates of the size of China’s economy another 3-5%.  One consequence of such revisions is that it makes comparisons to GDP, such as debt/GDP or current account surplus/GDP, marginally smaller.  We suspect there is little policy implications in the changed optics.  
  • On the other hand, the PBOC has taken steps to ease the liquidity squeeze in the interbank market.  It has injected an unspecified amount of liquidity through the Pledged Supplementary Lending facility and it has fully rolled over the MLF funds (CNY 500 bln in 3-month loans) that were maturing.  The flurry of year-end IPOs in China has begun, and between yesterday and December 25, there are an estimated dozen IPOs that are tying up over CNY3 trillion (~$480 bln).  Getting past the IPOs, with no repos expiring next week, many expect the liquidity squeeze to ease.  The 7-day repo rate, which is a useful metric of interbank liquidity, soared 154 bp today (up 213 bp on the week) to almost 6.0%.  The PBOC prefers to keep it below 4%.  
  • The Shanghai Composite rose 1.7%, led by telecoms and utilities.  This is a new four-year high.  Since the PBOC surprised investors by cutting the benchmark rate on November 21, the Shanghai Composite has rallied almost 25%.    Its correction lasted two days (December 8-9) and has been covering since.  
  • Canada reports CPI and retail sales today.  The consensus expects a 0.2% decline in headline inflation and a 0.1% rise in the core rate.  The central bank expects price pressures to ease.  The surprise may be in retail sales.  The headline is expected to be 0.3% lower after a 0.8% rise in October.  There is scope for an upside surprise.  Excluding autos, retail sales are expected to rise slightly after a flat reading previously.    
  • The divergence theme weighs on the Canadian dollar, which continues to be treated like as petrol currency.  The US dollar has found good support this week near CAD1.1560.   The commodity intensive Toronto Stock Composite has rallying strongly in recent day, but has generally under-performed.  The highs for the year were recorded in early September,  
  • Brazil reports November current account and FDI data.  The former is seen at -$8.5 bln and the latter at $4.6 bln.  If consensus is correct, 12-month total FDI will only cover about 70% of the 12-month current account gap, the lowest since September 2010.  This trend is likely to continue, making Brazil more reliant on hot money.  The current account should continue to worsen as exports plunge on lower commodity prices.  Lower prices also suggest FDI inflows into resource extraction industries may slow.  The fundamental backdrop for Brazil remains horrible.  Mid-December IPCA inflation came in higher than expected at 6.46% y/y, creeping back towards the 6.5% target ceiling.  For USD/BRL, support seen near 2.65 and then 2.60, resistance seen near 2.70 and 2.75.  
  • Colombia central bank meets and is expected to keep rates steady at 4.5%.  We think there will be a bias to ease in 2015, but it will be difficult to execute if the peso continues to weaken.  The central bank may comment on the exchange rate.  Officials are finally expressing concern about the weak peso, and for now, this has helped end its constant underperformance in EM.   For USD/COP, support seen near 2300 and then 2200, resistance seen near 2400 and then 2500.
  • Polish central banker Chojna-Duch noted that a weaker zloty is “beneficial” for the economy.  Chojna-Duch noted that exports were having some “problems” and added that currency weakness may be seen by some as a substitute for rate cuts.  These are rare and noteworthy comments on the zloty from the central bank.  We note that the zloty was also hurt by the vote count for the November 5th meeting out on Thursday.  Only one voted for a 100 bp cut (clearly an outlier) but then both a 25 bp and 50 bp cut were rejected by a very close 6-4 vote.  Governor Belka voted for both the 25 bp and 50 bp cuts, so we think it would only take another month or two of weak data for him to convince 2 of the 6 no votes to switch to a yes vote for further easing.  Chojna-Duch voted against all three rate cut proposals in November.  EUR/PLN broke above the January 2014 high near 4.2620, trading briefly above 4.28 today.  Next up is the September 2013 high near 4.31, but break of the 4.2620 level sets up a test of the June 2013 high near 4.37.  Support seen near 4.26 and then 4.24.

Regarding QE in Europe

December 19th, 2014 6:07 am

Reuters is carrying an interesting story on a plan which would require less credit worthy sovereigns to set up a reserve to protect against losses on any of its bonds purchased in a new QE program which would entail outright buying of sovereign bonds. The purpose of the plan is to assuage fears in Germany that it would be left holding the bag if one of the weaker countries (PIGS) went belly up subsequent to initiation of QE. That would make the QE program less toxic and politically palatable in Germany.

Via Reuters:

Exclusive: ECB considers making weaker euro zone states bear more quantitative easing risk – sources

FRANKFURT Fri Dec 19, 2014 5:19am EST

(Reuters) – European Central Bank officials are considering ways to ensure weak countries that stand to gain most from a fresh round of money printing bear more of the risk and cost.

Officials, who spoke on condition of anonymity, have told Reuters that the ECB could require central banks in countries such as Greece or Portugal to set aside extra money or provisions to cover potential losses from any bond-buying, reflecting the riskiness of their bonds.

Such a move could help persuade a reluctant Germany to back plans to buy state bonds.

There is currently a stand off between the ECB and Germany’s Bundesbank over ECB preparations to buy sovereign bonds, so-called quantitative easing (QE), to shore up the flagging euro zone economy.

But while the idea may help overcome opposition in Germany, which is worried that fresh money printing could encourage reckless spending and leave it to pick up the tab, critics will argue that any such conditions curtail its scope and impact.

Although a release of new money to buy state bonds appears all but certain, how it will happen remains fluid. The ECB’s Governing Council holds its next monetary policy meeting on Jan. 22., with market expectations high for fresh stimulus.

Requiring weaker countries to set aside extra provisions would signal that more of the risk of potential losses would rest with national central banks, rather than the ECB in Frankfurt.

“Losses are taken … by the nation states,” said one official.

The ECB declined to comment.

The national central banks would most likely be the ones tasked with buying their country’s bonds, as part of a wider ECB program.

While easing the burden on countries like Germany whose bonds are highly rated, the ECB could place a heavier burden on more risky countries such as Greece, requiring them to set aside more money in order for the ECB to buy their debt.

It now costs roughly 1.1 million euros ($1.35 million) to insure 10 million euros of Greek bonds against default, for example, making it roughly half as risky as war-torn Ukraine.

If Greece’s central bank also had to set aside more to cover the risks of its bonds, that could curb the dividend it pays the Athens government or possibly even require an injection of capital.


Lobbying by the small group of countries opposed to fresh money printing is now gradually shifting towards changing the shape of quantitative easing rather than try to block it altogether.

The Bundesbank is demanding that any new round of bond buying be subject to strict limitations.

Its president, Jens Weidmann, this week outlined two such possibilities – restricting ECB buys to bonds of countries with a top-notch credit rating or allowing each central bank to buy their country’s bonds at their own risk.

“Even if you say it’s not too early for QE, there is still something to be said about how you set it up,” said one euro zone central bank official.

“If the central bank would only buy bonds from its own country, then the chances and risks would go to that central bank. What happens if there is a loss? It would be good if the central banks have made adequate provisions.”

Similar provisions, where the risk of some loans taken as security for credit rests with a national central bank, already exist, officials said.

The suggestion of such pre-conditions underlines the deep divisions over fresh money printing in Europe.

But while setting such a precondition for any resulting losses would help win over Germany, it threatens to further undermine the notion that all 18 countries of the euro bloc are on an equal footing.





Overnight Data

December 18th, 2014 8:43 pm

Via Robert Sinche at Amherst Pierpont Securities:

JAPAN: BOJ Policy Board Meeting, with no change expected to the ¥80trn target rise for the monetary base in 2015. Also will get the October reading on the All Industry Activity Index, which the BBerg consensus expects to be unchanged compared to the 1.0% rebound in September.

EURO ZONE: The EZ Current Account balance for September rose to a record €30.0bn. While the surplus could improve in Nov/Dec on lower energy import costs, the October data to be released tomorrow could narrow as seasonal imports rise before the holiday selling season.

GERMANY: The GfK Consumer Confidence index peaked for the cycle in July/August at 8.9 and has vacillated slightly lower since then. The BBerg consensus expects the January reading to creep back up to 8.8 from 8.7 in December.

FRANCE: The December Business and Manufacturing Confidence readings should give guidance on whether lower energy prices are helping the French production sector. The important Own-Company Production Outlook index jumped to +8 in October & November, with the high for 2014 at 11 in April.

ITALY: October data on Industrial Orders and Shipments unlikely to show benefits of lower energy prices and Nov Hourly Wages data are likely to show continued restraint on wages, improving competitiveness.

UK: CBI data on Reported sales (YOY comparison) should provide guidance on whether retail sales maintained the strong YOY gains reported for November into December.

Treasury market thoughts

December 18th, 2014 1:44 pm

The Treasury market has continued the spiral lower in price (and if the inverse relationship between price and yield remains intact,higher in yield) which began during the Yellen press conference yesterday.

I think there are several reasons for the sell off today. Some of this is an unwind of the last two weeks of trading which produced a much flatter Treasury yield curve and lower stocks and a weaker dollar. Those trades are now being unwound and I think the owners of those trades will be hunkered down in the deep weeds until the calendar page reads 2015. Against that background the Long Bond is now trading at levels last observed one week ago. In addition one salesman told me that some asset managers are engaged in asset allocation for year end purposes and they have been selling fixed income to buy equities.

I think the foreign fixed income markets have contributed to the declines here,too. The 10 year Gilt is off significantly today on robust retail sales in the UK.  The German Bund is back above 60 basis points,too.