Thursday, April 23, 2015

Have you noticed oil prices? They're up!

This morning while doing my usual, review of the markets, and really some of the numbers are strange.  First off, yield over the past 24 hours they've been going up -- 6 bps.  Now, 6/100 of a percentage point doesn't sound like much, but its a lot.  The problem is that no one knows why the sell-off is occurring.

The markets are quiet, (a little down, but nothing really serious), and yet oil prices are going up real fast (again, sure the Saudi's are bombing Yemen again, but really that's northing new.

Things are strange, I mentioned two weeks ago that the market was expensive -- its just off its 2007 high (when looking at e/p10y) so its considered "toppy" but its been there for a while.  My guess is that the rats are getting nervous,  Facebook had a crappy performance based on fundamental problems in the sector -- there's just so much space for revenue growth, and overall cost of buying new customers has risen.  Numbers out of China are disappointing (the PMI is off -- back into contraction), and this despite the Chinese government's aggressive easing (in particular reserves)  and overall comments from the likes of Caterpillar are very negative for China.

The US shale oil & gas sector (financed largely with junk bond) is getting increasing pressure, and more serious China's seems to have backed off its "implicit guarantee" of state owned firm's debt obligations.

As the saying goes: "Its never just one thing".  Oil prices are going up because people realize that the storage issue is not nearly as serious as everyone implied.  In fact. there is still lots of storage capacity available in the US, and there's still lots of quiet VLCC available as standby storage.  So what happened people started being more sanguine about future oil demand, and their ability to hold on to oil for a period of months/years -- after all, interest costs are low, vessel hiring costs are low... So what you do (among other things -- you sell very liquid low yielding assets, and you buy higher yielding ons -- that are less liquid).

I'm not saying that everyone is doing this, but the oil market is just a barometer, and the treasury market is another barometer -- at one point the yield gets too low, and asset re-allocation takes place. Again, there's no certainty, it could also just be another "Algo going crazy", its happened before.

Finally, the impact on Canada is massive (oil prices), the CAD which was down as far as 0.782 to the USD is now back to .822 - a 5% rise in the currency.  That's after 18 months of "collapse".

Monday, April 20, 2015

Greece: Is the End Game near? (Updated)

According to some sources capital controls are now in place -- not really, or at least not yet. Rumours are that local governments have been instructed to "swept" all cash deposits to the central bank. So far this news has only appeared on a few "crazier" websites (Zerohedge) but in reality this is not what it appears to be.

In fact, local government have been told that all free cash has to be forwarded to the central bank so that the most urgent payments are made first, while the others languish.  There's simple not enough money for all the bills so Greece will pay the most important first (mortgage & insurance), and see later about the others.  This of course, with the advent of credit default swaps, could get ugly real fast, because lots of agreements have cross trigger clauses that active when "a default" occurs.  What used to be simple now can become complicated real fast...

Yesterday, Greece's minister of finance pointed out the obvious -- the risk of contagion!  There is no doubt that Europe's leaders are fully aware [God I hope they are] of the risks they face (hence they may quick Greece out before Greece quits!).  The fundamental problem is there are no recent example of countries being kicked out of monetary unions (Singapore is a known example, but that was in 65).  Think Lehman Brothers, considered a second rate IB player -- with a relatively small footprint, well the impact of that default far exceeded even the worse estimates, because risks are correlated and the world is linked; any many many financial institutions are short of capital, so Greece leaving the Euro can have all kinds of consequences, it is nearly impossible to predict the outcome of such a massive change.

So today April 20th all the players are in their respective corners -- The Greeks are saying they have a budget surplus (sure if you exclude lots of stuff), but are running out of cash (see above), Europe wants more cuts to social programs, privatisation and other removal of the state from the operation of the economy.

Somehow this cannot end well.  There are talks of snap elections, there are talks of default, there are talks of the end of the world.  One thing for sure the economic end game is getting much closer.

Note:  It was pointed out to me that Greece's recent "rapprochement" with Russia could cause all sort of actions.  First, we saw the White House make its first comment about the Greek crisis!  That a new player in an old geopolitical struggle.  One item that will create problems soon is the renewal of the European sanctions against Russia -- they are coming to a vote very soon, and their renewal could be "black-balled" by Greece.   That would not please Berlin or Washington.  Its possible that the Americans will force the Europeans to start having a serious conversation.  Then again this morning the ECB tightened the screw again with requirements for additional reserves if they are to lend liquidity to the Greek central bank... Time will tell.

Finally, although I predict that exit of Greece from Europe I believe that this would be a terrible outcome for the country.  However, the "European Plan" for Greece implies decades of hardship.

Tuesday, April 14, 2015

Strong US dollar -- will it continue? (Update)

The dollar has been on a tear of late, the Yen the Euro and closer to home the CAD have all seen their value fall against the US dollar.  The impact has been to make America less competitive -- in those segments where things are not priced in dollars, and make many raw material rather expensive.  Can it continue?

GS and DB take similar views; the strength of the USD is here to stay -- the number being discussed are the Euro trading around 0.80 to the USD -- down from a peak of nearly 1.47 five years ago.  The Yen that flirted around 120 to the US dollar (although its come back a bit).

So, the charts above show the USD against the Yen, CAD, Euro and Sterling, and the direction are identical (don't be fooled by the reporting convention -- in all cases the USD is getting stronger). What is driving the USD?  Well for start, the American economy remains the only "game in town", of the entire G8 gang its the only that that is seeing strong economic growth -- 2014 saw a 2.4% GDP growth for the country, yes despite what the GOP is saying Obama has not killed the economy -- looking beyond partisan statements its clear that while the rest of the the OECD economies are having a hard time, America continues to do "well".  

Moreover, those selling goods in USD have seen a massive increase in their operating margins (that's why several European companies are doing well, despite weak economies -- growing operating margins are good for their bottom lines).  It also means that one reason Europe has not benefited from cheaper fuel prices is that in Euros, the price of fuel has not dropped so dramatically... a 50% drop in USD is really only a 20% drop in Euros!

So where do we go from here?  One thing is sure is that the US will eventually tire of having such a strong currency, American exporters have seen a dramatic squeeze on their margins.  Even China (who seems to have its own set of problems) is seeing a weaker currency.

So is the weakness of the Euro, Yen, CAD is caused by something outside these economies? Removing Canada for a second (as a Petro currency it has different challenges), if you look at the fundamentals of Japan, China and Europe there are no single reason for a generalised currency weakness against the USD, Yes Japan is in trouble, so is China, but lets be clear here -- China is going from double digit growth to single digit growth -- not really the end of the world.

No, I think that we are seeing something else here, and I would venture that its the ACA ("ObamaCare") that is the reason.  It is easy to forget that healthcare in America is a very important part of the GDP -- and aside from BMW and Audi to doctors and hospital administrators it adds little to economic well being (pun intended).  People don't buy healthcare because they want it, they buy it because they need it!  ObamaCare has changed the game for a large percentage of the population.  It has transferred wealth from hospital to primary care providers, from emergency rooms to doctor's office.  The overall impact of this cannot be underestimated.  In Q4/2013 (if memory is correct) US GDP shrank by nearly 2%, because of a reduction in healthcare costs!

Imagine that you are unwell, go to your new GP and within 20 minutes you leave with a prescription for high blood pressure, the cost to the economy is minimal -- $100 dollars for the doc and maybe $200 of prescription per annum.  Compare that to a heart attack and 10 days stay in hospital and maybe several months of recovery.  This is the impact of the ACA -- attacking health care problems when the solutions are still low costs.

The ACA has providing confidence to people to get on with their lives without thinking about their healthcare coverage (that's massive confidence boost).  Moreover,  the shift provides long lasting benefits, this shift in economic priorities will have a long term impact on the economy, reducing healthcare as a percentage of GDP from 17% to maybe 12%, that's an absolute change to the cost equation.

Despite the GOP's rhetoric, the truth, and that was also what happened in Massachusetts is that universal healthcare creates a massive boost to the economy -- as it reduces costs and "economic friction".  The strength of the US economy will be exponential for several years because the saving accumulate over a number of years.  So while I always thing that GS "talks its book" the reality is that the American story is still the most compelling -- with real economic savings, making the US economy more competitive -- the impact is a strengthening currency -- since global economy seeks equilibrium.  The Euro at 0.80 is still very much a possibility, I suspect that Europe is about the get very much cheaper for the average American.

Now watch history do the exact opposite!

UPDATE:  OK it was pointed out to me that the reason for the increase in the USD has nothing to do with competitive advantage of having a cheaper healthcare system (apparently the numbers don't all go in the "right" direction), rather its the end of QE (Quantitative Easing) that is the reason.  Ok maybe, but looking back over the past 4 years (yep 48 months) the end of QE has been announced repeatedly, with little outcome.... It was also pointed out to me that the European game (the reason hot money is flowing to the US) is a bi-polar:  at one extremity you've got Greece and at the other end you have Germany, the first's borrowing costs are now rising very very fast, the other just borrowed 5 year money at zero interest rate for five years, but the bond was issued at 102, giving a running yield of -0.25% -0.40% per annum -- effectively negative yield.  If that's not enough Portugal (not exactly out of the woods) just borrowed 5 year money at less than 0.5%.  Investors are fleeing Europe because either you have to pay to play (Germany) or the yield is not commensurate with the risk you are taking (Portugal) or its a basket case and you are playing the odds that the ECB/IMF will back down (Greece).

So the other conclusion is that although the US system is broken too, its less broken the Europe (or Japan) and therefore that's where the money is going.  That too makes sense -- it could also be a number of different and self reinforcing "forces" [sorry not very elegant].

Wednesday, April 8, 2015

US Police Kill More Civilians In March Than UK Police Killed In 100 Years... I thought there was lots of police killing recently

actually the real news is that in March 2015, American cops killed twice as many people as the UK did in the past 100 years... and China with a population of nearly 1.2 billion killed only 14... What is wrong with cops in America, what's with the assault weapons?

Over the past few weeks I thought there was a media blitz blaming  cops as a new "war in America", turns out its not that, its really that American  cops are killing the citizenry in greater number than virtually anyone else.

what a strange country

Tuesday, April 7, 2015

The end of the word is nigh! Not really but it makes a fun title...

Although corporate world is not doing so great with numerous earnings recasting... the world's stock market continue to operate near "all times high".  The question is why?  My guess is liquidity; there's a perception that markets will correct but that "They" (the investors) will be able to get out before the solids hit the fan.

I really have no opinion on the market, but there remains a global weakness (ok China's PMI was just above 50 a few days ago -- which means expansion), but still it remains that Europe is a trouble, Japan just had its 5th or 6th failed bond auction (BoJ monetised the debt instead -- printing more Yen), and America's 4th quarter of 2014 and the first of 2015 are looking weak.

Oil prices that should be a massive stimulus for the global economy -- down from $105 to $51 should have acted as a massive stimulus engine, in fact it did help the US a bit, but the rest of the world saw virtually nothing in terms of GDP growth stimulation -- it may have delayed a recession in Europe, but no one knows the full impact.

So what about this end of the world thing?  The market is not cheap by any measure, using the p/e or p/e10 or other measures it shows that the market is in the expensive range of things (some would say that the market is near its 95 percentile range (the high point in 2007 after the market crashed!), so when you hear that Mohamen El-Erian and Julian Robertson (not exactly lightweight guys) are both saying we are near a massive correction is on the cards, its time to pay attention.  These guys did a very good an compelling study of the p/e numbers.  I really have nothing to add here!

In reality what is important for investors is less where the market is going, but the probability of the market going up or down.  For institutional investors the problem is different, they have no choice than to be in the market -- they can increase the cash portion to reduce the impact of a massive correction -- providing ammunitions for when the market bottoms, but they cannot be "out of the market", so they change the weighting towards non-cyclicals (if such things exist), it would seem to be a good idea to get out of the auto sector (its been on fire recently) consumer discretionary too, since income continue to lag economic growth.

Anyway, the end of the world is not around the corner, but after an 8 year growth its time for the markets to correct.

P.S.  State of my Bet:  Well I am looking increasingly "right" in my analysis -- I mentioned many weeks ago that if the Greek Prime Minister didn't get the attention/solution he wanted from Europe he would call new election to get a "get out of jail mandate" -- a mandate to exit the Euro.  There are now rumours of such call to elections