Via Stephen Stanley at Amherst Pierpont Securities:
The Conference Board measure of consumer confidence continued the trend of surging household attitudes since the election. The overall index jumped by more than 4 points on top of an upwardly-revised 8½-point rise in November. The 113.7 reading was the highest since 2001 (even more impressive than the December University of Michigan figure, which was at its highest since 2004). The breakdown in December is very interesting. Assessments of the present situation deteriorated, giving back most of the surge seen in November. However, expectations jumped by over 10 points this month (on top of an 8-point gain in November), reaching a 13-year high. Moreover, the individual expectations components all matched or set new cycle highs, with the employment component at its best since 2002, the business conditions gauge tied for its best since 2004, and the income figure matching its highest since 2006. Moreover, another expectations question that does not feed into the composite measure, stock prices, matched its most positive reading since 2004.
In short, the election of Donald Trump has raised household expectations for the economy to a very high level. It remains to be seen whether Trump can deliver, but the ground would certainly appear to be ripe for a pickup in consumer spending based on these confidence data.
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IG CREDIT: Spreads Remain at the Tightest Levels of 2016
2016-12-27 10:51:25.235 GMT
By Robert Elson
(Bloomberg) — Secondary IG trading ended with a Trace
count of $2.2b Friday vs $8.6b Thursday, $12.6b the previous
Friday. Trading volume less than on 98% of trading days since
Dec. 2005
* 10-DMA $13.2b; 19-Friday moving avg $11.4b
* 144a trading added $229m of IG volume Friday vs $820m
Thursday, $1.5b last Friday
* Trace most active issues:
* The top-2 names were March, April 2017 maturities from
CNOOC and LLY
* HSBC 4.25% 2024 was 3rd; client and affiliate trades
took 88% of volume with client buying selling 2.8x
buying
* DB 4.25% 2021 was the most active 144a issue with client and
affiliate trades taking 100% of volume
* Bloomberg Barclays US IG Corporate Bond Index OAS unchanged
at +123, the new tight for the year and the lowest level
since Feb. 2015
* 2016 wide/tight: 215 (a new wide since Jan. 2012)/123
* 2015 wide/tight: 171/122
* 2014 wide/tight: 137/97
* All time wide/tight back to 1989: 555 (Dec. 2008)/54
(March 1997)
* BofAML US Corporate IG Index unchanged at +129, the new
tight for the year and tightest level since Nov. 2014
* Standard & Poor’s Global Fixed Income Research IG Index
unchanged at +167, the tightest spread YTD
* Current markets vs early Wednesday levels:
* 2Y 1.206%
* 10Y 2.554%
* DOW futures -9
* Oil $53.25
* ¥en 117.32
* No IG issuance Friday
* December totals $45.225b; YTD $1.6T, outpacing 2015 by 7%
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US dollar is little changed from the end of last week
Equity markets are narrowly mixed
Bond markets are mostly softer, though German bunds seem to be attracting some safe haven flows
Most of the major currencies are little changed against the US dollar from the end of last week. Although the local markets are closed today the Australian and New Zealand dollars are up about 0.2% from before the weekend. Sterling is trading with a downside bias after falling every session last week. The euro and yen are practically unchanged. Among emerging market, the South African rand and Russian ruble are faring best (~0.3%-0.4%). Equity markets are narrow mixed, but of note, bargain-hunting finally emerged to allow the Indonesian equities to post their first advance since December 9 (the longest losing streak since 2005. While most markets are quiet, we note that gold is up 0.8%, which, if sustained, would be the largest advance in a month.
As skeleton teams return to the trading desks in New York, the US dollar is largely where they left it at the end last week. Japanese markets were open yesterday, while UK, Australia, New Zealand, Hong Kong and Canadian markets are still closed today.
While the dollar is little changed, bond markets are mostly softer, though Germany appears to be experiencing mild, safe haven flows. Asian equities were mixed, while European equities are firmer. The MSCI Asia Pacific Index eked out a minor gain (less than 0.1%), but sufficient to snap a five-session pullback. Although the dollar is trying to end a four-session drop against the yen, the Topix extended its correction for a fourth session (and five of the past six). In contrast, the Nikkei edged higher (less than 0.1%) and broke ended its three-day decline.
Japan reported November inflation and employment figures. The key takeaway is that although the labor market remains tight, inflation remains elusive. The jobless rate ticked up to the still-enviable 3.1%. The job-to-applicant ratio stands a 1.41. However, the key measure of inflation, CPI minus fresh food, remained at minus 0.4%, which is what it has averaged this year. Excluding both food and energy, Japan’s CPI stood at 0.1% in November down from 0.2% in October. The Tokyo data, which is reported with less of a lag, gives no reason to be optimistic. The December headline CPI fell to zero from 0.5%, and the core rate, which excludes fresh food, fell to minus 0.6% from minus 0.4%.
Moreover, the full employment is not only failing to boost prices, but it is not boosting consumption. Overall household spending slumped to minus 1.5% in November from minus 0.4% in October. The Bloomberg median had expected a rise to 0.1%. Japan also reported weak housing starts and construction orders. Forecasts for Q4 GDP will likely be revised lower. Japan will report industrial output and retail sales tomorrow.
There are three developments to note from Europe. First, at the very end of last week, Fitch downgraded Belgium from AA to AA-. It cited the high debt-to-GDP ratio for an AA rating and noted that fiscal consolidation has been weak. There does not appear to be much of a market reaction. The 10-year yield is up half a basis point, in line with the change in French yields today.
Second, Italy is finding that supporting Monte Paschi may be more expensive than it may have anticipated. The ECB has argued that due to the deterioration in liquidity, the troubled bank needs 8.8 bln euros rather than five bln. Also, the Bundesbank has expressed concerned that the new EU rules are not being respected. Italy’s bank stock index is off 0.6%, or about what it had gained before the holiday weekend. Italian two and 10-year yields are half a basis point higher.
Third, after a short disagreement over what Greece could do given that its revenues surpassed targets and expenditures were below targets. The Greek government insisted on an extra pension payment to civil servants and a VAT break for a few islands overwhelmed by refugees. It appears that an agreement was reached. Greece’s 10-year bond yield is off nearly 12 bp.
The US reports house prices, the Conference Board’s measure of consumer confidence, and the Richmond Fed’s manufacturing index. None are typically market-moving.
Trump’s Financial Deregulation Might Be Bad News for Banks After All
Some influential people in the president-elect’s sphere say big lenders should maintain higher capital in return for scaling back some regulations
By
Adam Creighton and
Ryan Tracy
WASHINGTON—Bank stocks have surged since the election on hopes that President-elect Donald Trump will roll back financial rules. But deregulation, for the biggest institutions at least, might come with a catch: tougher limits on borrowing.
Some influential voices in Mr. Trump’s world insist banks should, as a quid pro quo for rolling back some regulations, maintain higher capital—shareholders’ funds that act as a cushion against losses but can also curb profits.
“Between Trump’s populist victory and the calls for greater capital by…Republicans, it is far from given that the largest Wall Street banks would benefit from their reform efforts,” said Mark Calabria, a former adviser to Senate Banking Committee Chairman Richard Shelby (R. Ala.), and now a fellow at the free-market Cato Institute.
Mr. Trump’s picks of two former Goldman Sachs Group Inc. executives to run his economic team—Gary Cohn, to head the National Economic Council, and Steven Mnuchin, for Treasury secretary—might give Wall Street a powerful voice at the policy table. But at least two candidates for the job of Federal Reserve vice chairman in charge of bank oversight, arguably the single most powerful bank regulatory position in the world, are supporters of tougher capital rules. So is House Financial Services Committee Chairman Jeb Hensarling (R., Texas), who will next year be at the center of reshaping the 2010 Dodd-Frank financial-overhaul law.
Everyone agrees big banks borrowed excessively before the 2008 bailouts, and they should have been required to maintain more capital. Critics have said the new capital mandates have been set too high, constraining lending and economic activity. Many Democrats and conservatives disagree.
Current rules require banks to meet several different capital requirements. One is a “leverage ratio,” which measures equity as a proportion of total assets. It’s designed to reduce the chances a bank will fail by acting as a constraint against borrowing, or leverage. After the crisis, U.S. regulators required that big banks maintain a leverage ratio of at least 5%.
Some conservatives would go further. Thomas Hoenig, vice chairman of the Federal Deposit Insurance Corp. and a contender for the Fed job, favors a 10% leverage ratio.
Another candidate for the Fed job is John Allison , the former BB&T Corp. chief executive and ex-president of Cato, who recently met with Mr. Trump. In July, he told the House Financial Services Committee that Citigroup Inc.’s leverage ratio should be raised to 10%, a sizable increase given it was 7.4% at the time. In his 2012 book on the financial crisis, Mr. Allison called Goldman the ultimate “crony capitalist” and advocated for a minimum 20% equity ratio in lieu of regulation.
Spokesmen for Citigroup and Goldman declined to comment
Mr. Hensarling has proposed giving banks relief from certain regulations if they meet a 10% leverage ratio. Steve Bannon, an ex-Goldman banker now serving as Mr. Trump’s chief strategist, once compared precrisis banking to hedge funds. “Traditionally the best banks are leveraged 8 to 1,” he said in a 2014 speech.
The conservative focus on the leverage ratio is a pushback against postcrisis policies, which set capital requirements according to complex formulas for “risk weights.” That essentially gives bureaucrats a lead role in calibrating the weights for different assets based on their perceived level of riskiness, which in turn has a big impact on the allocation of credit. This system, based on a global regulation accord run by the Switzerland-based Basel Committee on Banking Supervision, contrasts with the simpler leverage ratio, which treats every asset the same
“There’s a Republican idea that if you think you’re going to fine-tune and get it right, you’re insane,” Mr. Calabria said, pointing to rules that had in effect classified U.S. subprime mortgages and Greek government debt as risk-fee.
Both Obama-appointed regulators and big banks disagree. They favor a belt-and-suspenders approach, with weighting as the primary way of reducing risk and the leverage ratio as a backstop. They say the leverage ratio alone is an overly crude tool for sophisticated 21st-century finance.
Greg Baer, president of the Clearing House Association, a trade group of large banks, has said the leverage ratio is “akin to setting the same speed limit for every road in the world.”
A higher leverage ratio could be costly for banks. For the top five Wall Street firms, the extra equity required to meet a 10% leverage ratio would reduce their average return on capital from 12% to roughly 7% by 2018, according to Steven Chubak, a bank analyst at Nomura Holdings Inc.
Barclays PLC analyst Jason Goldberg estimates J.P. Morgan Chase & Co. alone would need an extra $107 billion of equity, which would represent more than a 40% increase from its current level.
Alternatively, the banks could boost their leverage ratios by shrinking their balance sheets.
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MILAN—Banca Monte dei Paschi di Siena SpA has a far bigger hole in its balance sheet than previously calculated, according to the European Central Bank, significantly raising the amount the Italian government has to deploy to rescue the troubled lender.
The ECB told Monte dei Paschi that its capital shortfall is €8.8 billion ($9.19 billion), above the €5 billion expected when the government organized a rescue last week of Italy’s No. 3 lender.
In a statement Monday evening, Monte dei Paschi said the ECB warned of a “rapid deterioration” over the past month of the bank’s liquidity position. Monte dei Paschi has seen large outflows of deposits as it struggled in recent months to raise capital to meet an end-of-year deadline set by the ECB to shore up its balance sheet.
The need to raise €5 billion emerged from last summer’s European stress-tests, which found that the bank’s capital position would be severely compromised in case of an economic downturn. The ECB ordered Monte dei Paschi to raise that amount as part of a broader operation aimed at unloading nearly €30 billion in bad loans.
Last week, the government approved the creation of a new €20 billion fund to help support Italy’s struggling banks, particularly Monte dei Paschi.
The new fund was expected to cover about €3 billion of the money Monte dei Paschi needed, following €2 billion in losses on the face value of some junior bonds held by institutional investors. The junior bonds would take a haircut in line with new European Union rules covering bank rescues which require that investors incur at least some losses.
Early Tuesday, Italian regulator Consob ordered Monte dei Paschi’s shares to be suspended until further notice in light of the news of the greater shortfall. The shares were also suspended on Friday after news of the planned government bailout.
According to a person familiar with the situation, the larger shortfall stems from a change in the ECB’s calculation of the bank’s financial needs in light of the government’s intervention.
In its statement Monday evening, the bank emphasized that it remains solvent. However, it also said that the ECB has notified the Italian government that its liquidity position has seen a “rapid deterioration” between Nov. 30 and Dec. 21. The bank’s one-month liquidity had fallen from €12.1 billion, or 7.6% of its total activities, to €7.7 billion, or 4.78% of its total activities.
Monte dei Paschi’s greater capital shortfall means the new government fund will have less firepower to help a clutch of other Italian banks which are struggling with large bad loans, meager profitability and thin capital cushions.
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China Industrial Profits Increase as Production, Prices Recover
Bloomberg News
Industrial profits rose 14.5% last month to 774.6 billion yuan
Rise comes amid rebound in factory inflation, coal price gains
Profits at industrial firms in China accelerated last month as prices of products such as coal and metal continued to advance.
Industrial profits rose 14.5 percent in November from a year earlier to 774.6 billion yuan ($111 billion), the National Bureau of Statistics said Tuesday. That compared with the 9.8 percent increase in October. Earnings in the first 11 months climbed 9.4 percent to 6.03 trillion yuan.
The stronger profits came as factory inflation rebounded 3.3 percent in November, the fastest in five years, on surging coal and metal prices. That will help the manufacturers to pay off debt and to invest more, while delaying efforts to reduce excess capacity.
“The lower real interest rate and strong industrial profits growth are providing strong incentives to borrow,” Song Yu, the Beijing-based chief China economist at Beijing Gao Hua Securities Co., the mainland joint-venture partner of Goldman Sachs Group Inc., wrote in a recent note.
— With assistance by Xiaoqing Pi
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A strengthening dollar is re-emerging as a threat to U.S. manufacturers, endangering the profits of some companies and complicating President-elect Donald Trump’s drive to boost factory employment.
While good for U.S. consumers and companies that purchase components abroad, the dollar’s continuing rise promises to hit U.S. manufacturers reliant on sales in overseas markets, where their products have become more expensive.
Many have started to dial back revenue forecasts and look for ways to cut costs. 3M Co. and United Technologies Corp. have signaled a strong dollar could make it harder to boost sales in 2017.
Some dealers of Harley-Davidson Inc. motorcycles and Caterpillar Inc.’s bulldozers and excavators are bracing for the companies’ Japanese rivals to capitalize on the yen’s weakness against the dollar to undercut them on price. Caterpillar has said the yen’s weakness made competition more difficult. Harley declined to comment.
Boeing didn’t specifically mention currency fluctuations. But the strengthening dollar has helped rival Airbus Group SE, which for years wrestled with an appreciating euro. Boeing declined to comment. An Airbus spokesman said the tailwind the company gets from the dollar is muted because 40% of its plane parts are sourced from the U.S.
The dollar has been relatively weak against most of the world’s major currencies over the past decade. This helped U.S. exports rebound swiftly following the 2007-09 recession.
By the end of 2010, exports had reached record levels and continued to grow further, hitting $598 billion per quarter in 2014. Employment in manufacturing began to recover, and optimism grew that the U.S. could be entering a manufacturing renaissance.
Earlier this month, the U.S. Federal Reserve raised rates, and hinted at more tightening next year, further boosting the dollar. The WSJ Dollar Index, which measures the U.S. currency against 16 others, hit a 14-year-high last week.
Bond yields have been rising amid expectations of more growth and inflation during Mr. Trump’s administration, but the dollar rally could wind up undermining the president-elect’s own agenda by making exports more expensive and imports cheaper.
Trump transition team officials didn’t respond to a request for comment.
In interviews, several business leaders said Mr. Trump’s pledges to promote business would more than ease the sting of a stronger dollar, especially if there are lower taxes and lighter regulatory burdens. Currency trends could also reverse.
“There’s bigger fish to fry,” said Mike Haberman, president of Ohio-based construction-equipment maker Gradall Industries Inc., which exports about 20% of its products. “I’m not panicked about the dollar.”
The dollar’s rise isn’t all bad for U.S. manufacturers. Some companies stand to spend less on foreign-made components for their products. And an increase in domestic sales could offset a decline in exports.
But it also could limit manufacturers’ abilities to create more domestic jobs.
China’s yuan has fallen to its lowest level against the dollar in eight years, a move that could entice manufacturers to keep their factories there rather than following in the steps of companies that have brought some operations back to the U.S.
Mexico’s peso is down 13% against the dollar since the election, making it more tempting to move factories south of the border despite Mr. Trump’s vows to punish U.S. firms that shift jobs abroad.
“The strong dollar is not helping us bring back more manufacturing jobs,” said Panos Kouvelis, a professor of operations and manufacturing management at Washington University in St. Louis.
Emerson Electric Co. last week said the stronger currency worsened the extent of its orders’ decline from September through November by 2 percentage points. Overall, they fell by 7%.
Many manufacturers have begun to reduce their workforces; employment in manufacturing fell by 51,000 from January 2015 through November 2016, according to Labor Department data.
Kaman Corp., a Bloomfield, Conn.-based maker of airplane parts, has seen its European rivals’ prices drop as the euro declined against the dollar. To compete, Kaman has invested in facilities in Germany, and acquired a company with operations in the Czech Republic.
Ben Herzon, senior economist at Macroeconomic Advisers—an independent economic forecasting firm—conducted a simulation for The Wall Street Journal to illustrate how a further 10% increase in the strength of the dollar would ripple through the U.S. economy.
Over the next three years, companies would gradually adjust—among other things, by boosting their capacity at foreign plants while reducing at home, changing their supply chain, or increasing the use of automation.
In a scenario in which the dollar doesn’t strengthen further, inflation-adjusted gross domestic product would cumulatively rise by 6.3% over the next three years. In the scenario where the dollar strengthens by a further 10%, that GDP growth would be 1.8 percentage points lower—or 4.5%—according to Macroeconomic Advisers’ simulation.
The pain of a strong dollar would be especially concentrated in U.S. factories. Manufacturing production would be 3.6 percentage points lower under a strong dollar, inflation-adjusted imports would be 3.6 percentage points higher, and real exports from the U.S. to the rest of the world would be 6.2 percentage points lower.
Initially, the drop would provide some benefit to consumers who see lower prices for imported goods.
“It’s good for consumers, as long as they’re still working,” said Mr. Herzon. “The lower prices and boost to real wealth serves as a partial offset.” But as time goes on, this benefit will also be offset by the job loss in the manufacturing sector, he said.
This is an interesting note via my friend and former colleague Steve Liddy which reports on the musings of a Wells Fargo analyst on year end flows.
Pensions May See ‘Significant’ Quarter-End Rebalancing: Wells 15:23
U.S. defined-benefit pension funds may need to add about $20b in bonds versus around $32b outflows from domestic equities, Wells Fargo strategist Boris Rjavinski says in note published Thursday.
• Diminished liquidity, thin year-end markets may amplify effects of large pension flows
• $20b of bond buying may materialize via Treasury futures contracts
• Pensions may need to pare U.S. large-cap holdings by $21b, small-cap holdings by $11b
• Rebalancing “quite sizable” in historical context
• Wells Fargo model projected about $6b in rebalancing flows going into end-April and roughly $18b-$20b at end-2Q
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Calpers To Cut Equity Investments Over Next 2 Years
By Johanna Bennett
As public pension plans struggle to meet investment goals, California’s biggest public employee pension system says its plans to cut global equity exposure by five percentage points over the next two years.
Reuters reports that the California Public Employees’ Retirement System, known as CALPERS, announced plans to restructure its $300 billion portfolio to reduce its exposure to global equity and private equity and to invest more in real assets, inflation and liquidity asset classes.
As Reuters reports:
CalPERS Chief Investment Officer Ted Eliopoulos said the board considered the recent volatility of the market, along with the fund’s 68 percent funding status and negative cash flow, when it made the decision. The changes will take place over the next two years.
The global equity asset class will see the largest change of a 5 percentage point reduction from 51 percent to 46 percent of the overall portfolio. Private equity will be reduced from 10 percent to 8 percent in order to reduce some of the risks in the fund, said Eliopoulos.
Real assets, such as real estate and infrastructure, will be increased by 1 percentage point from 12 percent to 13 percent of the overall portfolio. The inflation and liquidity assets classes will increase by 3 percentage points from 6 percent to 9 percent and 1 percent to 4 percent, respectively.
…Much of the discussion over why the board had decided to change its investment priorities occurred during a closed meeting earlier this year. Board Member J.J. Jelincic requested minutes from that meeting be released to the public.
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Yuan Bears Strike as Capital Outflows Override PBOC’s Support
Bloomberg News
The currency is set for its biggest annual plunge since 1994
Forwards and options show traders see more losses ahead
China’s renewed efforts to curb declines in its currency are doing little to dissuade yuan bears.
Traders have turned increasingly negative amid tighter liquidity, sending bets for further losses soaring. The gap between forward contracts wagering on the offshore yuan a year from now versus its current level is heading for a record monthly jump, just as the extra cost for options to sell the currency against the dollar hit a six-month high relative to prices for contracts to buy.
The currency is facing a triple whammy of accelerating capital outflows, faster U.S. interest-rate increases and concerns over domestic financial markets as liquidity tightens. Strategists say its weakening, set to be the biggest this year in more than two decades, may accelerate as the government restores the annual quota for citizens to convert yuan holdings into foreign exchange. President-elect Donald Trump has also threatened to slap 45 percent tariffs on China’s imports to the U.S.
“Bears are adding positions because expectations for the yuan to depreciate are getting stronger and stronger,” said Larry Hu, head of China economics at Macquarie Securities Ltd. in Hong Kong. “The pressures will likely continue and could get even worse, considering capital outflows and concerns on the reset of individuals’ conversion quota.”
The jump in the offshore yuan’s 12-month forward points propelled it to its highest level since January, when the People’s Bank of China sent global markets into a tailspin by issuing a string of weaker fixings.
Risk reversals show bearish bets on the currency are heading for another increase in December, as the yuan weakens for a third month.
Options prices imply a 56 percent chance that the currency will be weaker than 7 per dollar by the end of the first quarter, more than triple the odds seen two months ago.
Forecasters expect the yuan to fall to 7.1 per dollar by December 2017.ewsletter.
“It could be due to speculative flows or hedging, which China no doubt is worried about,” said Roy Teo, senior currency strategist at ABN Amro Bank NV in Singapore. The firm was the second-most accurate yuan forecaster tracked by Bloomberg in the third quarter. “The trillion-dollar question is: Can Trump exceed market expectations and really trigger a U.S.-China trade war? We doubt so. Perhaps we will see some profit taking in dollar-yuan forward points and risk reversal in 2017.”
— With assistance by Tian Chen
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