Danielle’s weekly market update

Danielle was a guest today on Talk Digital Network with Jim Goddard, talking about recent developments in the world economy and markets. You can listen to an audio clip of the segment here.

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Mean reversion continues for emerging markets

From ominous bubble valuations of 2007, emerging market stocks and economies plunged along with other developed markets in the 2008 downturn, once again revealing ‘decoupling’ proponents as dangerous salespeople. On epic stimulus injections from central banks and governments in 2009, emerging markets recovered somewhat with global manufacturing into 2010 and have largely fallen or flat lined since. With the end of the Fed’s QE program yesterday, a continued exodus of “hot money” flows (ie., money that was there for a trade or speculation rather than long term investment) out of emerging markets and currencies is likely.

Enormous multinational financial conglomerates had already made global markets highly integrated before the 2008 crisis, coordinated central bank policies and theories since then, have only made correlations higher. Here is a direct video link.

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Emerging markets and commodities in a post-QE world

The US dollar Index continues its ascent this morning as ‘Q’Ever’ draws to a close and global liquidity flows back to the greenback and US Treasuries and out of commodities, emerging markets and other currencies…

Over the past six years, quantitative easing has led to liquidity flowing from developed to developing countries. Now the US Fed has wound down QE, what are the prospects for emerging markets? Here is a direct video link.

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US has highest adult poverty rate of any OECD country

Good discussion on factors undermining US stability and strength…

University of Southern California Professor of Law Ed Kleinbard and Bloomberg View Editor Paula Dwyer discuss inequality and poverty in the U.S.  Here is a direct video link.

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Canada in world’s top 3 most unaffordable housing markets

With a national average home price of 416K (compared the US average of 250K), 5.3X the average household income of $78K, Canada has the distinction of being one of the top 3 least affordable realty markets in the world today.  And worse than the US was at the peak of its bubble in 2006, before US prices plunged an average of 35% and more than 50% in some of the ‘hottest’ areas like Phoenix and Vegas.
world's most unaffordable housingSee this link for slideshow of Top 10 most unaffordable housing markets in the world.

In simple terms the Canadian housing bubble is understandable. A major commodities producer, we were riding high on global sales and thought we were invincible until the commodities boom collapsed in 2008. Since then Canadian governments, banks and households continued on the “spend/lend it and growth will come” theory. Now Canada has the highest debt levels in decades as global demand has continued to weaken.

With oil now trading below the prices assumed in most optimistic budgets, the nation comes into what is likely a prolonged demand decline, sorely unprepared. Old lessons will be learned the hard way once more.

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New American dream: rented housing and public transit

One of the most useful strategies for rebuilding financial strength and savings in households is the choice to avoid or pay down debt while renting and taking public transit. Turn key rentals and a bus pass are increasingly being chosen over a mortgage, property upkeep and a car loan/lease. Perhaps forced by necessity, but this is a rational, secular shift in both younger and older under-saved people who are facing the realities of income stagnation and over-priced housing costs.

A behavioral change to more frugal habits and less spending is part of the critical rebuilding of household wealth which is so needed for future stability. It also means less demand and sales today. Now that ‘financial engineering’ gimmicks have run their reckless course, it is time for self-discipline, and fiscal restraint to come back into vogue. What is good for people and families will be bad for financial firms and companies banking on levered sales. But then they had their glory days getting the world into the present mess. Payback time is long overdue.

U.S. home ownership is at its lowest level since the start of 1995. Here is a direct video link.

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Chanos on China’s unfolding credit crunch

Jim Chanos, of Kynikos Associates, discusses evidence of ‘Ponzi’ finance now coming apart in China as well as unwinding effects in the commodities sector. Here is a direct video link.

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Debt weighs on China too

Doubts over China’s unexpectedly strong trade figures are mounting after Hong Kong reported its imports from the mainland. The numbers are far less than what China announced a few weeks back. Here is a direct video link.

The Chinese growth ‘miracle’ has come back down to earth weighed by the debt left from ‘stimulus’ efforts. See: The journey from luxury to thrift will test Beijing’s metal

“Total debts owed by the government, companies and households have ballooned to 240 per cent of gross domestic product, virtually double the level at the time of the global financial crisis…This year China is set to pay an interest bill of about $1.7tn, an amount not far short of India’s entire GDP last year ($1.87tn) but larger than the economies of South Korea, Mexico and Indonesia…

One answer to the question of why Beijing has fallen so rapidly into hock is that it had little choice but to do so; the liabilities represent the costs incurred from responding to the global crisis. The collapse of US demand in 2008 hammered China’s export sector, throwing roughly 30m people out of work in a matter of months and obliging Beijing to launch a stimulus programme that drew impetus from the ambitions of local governments to demonstrate their manifest destiny.”

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The truth about the ongoing financial crisis

Excellent article today from All The President’s Bankers’, author, Nomi Prins:

“The recent spike in global political-financial volatility that was temporarily soothed by ECB covered bond buying reveals another crack in the six-year-old throw-money-at-the-banks strategies of politicians and central bankers. The premise of using banks as credit portals to transport public funds from the government to citizens is as inefficient as it is not happening. The power elite may exude belabored moans about slow growth and rising inequality in speeches and press releases, but they continue to find ways to provide liquidity, sustenance and comfort to financial institutions, not to populations.

The very fact – that without excessive artificial stimulation or the promise of it – more hell breaks loose – is one that government heads neither admit, nor appear to discuss. But the truth is that the global financial system has already failed. Big banks have been propped up, and their capital bases rejuvenated, by various means of external intervention, not their own business models.”

For important historical perspective on similar mistakes that led to past financial panics as well as the steps that finally rebooted the system in the 1930′s, read the entire article: see: Why the financial and political system failed, and why stability matters:

“After the Crash of 1929, markets rallied, and then lost 90% of their value. Liquidity froze. Credit for the masses was as unavailable, as was real money. The combined will of President FDR and the key bankers of the day worked to bolster people’s confidence in the system that had crushed them – by reforming it, by making the biggest banks smaller, by separating bet-taking arms from those in which people could store, and borrow money from, safely. Political and financial leaderships collaboratively ushered in the reform measures of the Glass-Steagall Act. As I note in my most recent book, All the Presidents’ Bankers, this Act was not merely a piece of legislation passed in spirited bi-partisan fashion, but it was also a means to stabilize a system for participants at the top, middle and bottom of it. Stability itself was the political and financial goal.”

At little domestic footnote to all of this, as Canadians have foolishly rung up their household debt to financially suicidal levels the past 6 years since the 2008 recession, in the past year, four of the big 6 bank CEO’s–RBC, TD, BNS and CIBC– have opted to get while the going’s good and cash out to retirement in their 50′s.

The little people listening to the same banks for their investment advice of course…all told to hold and ‘stay the course’.

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The Known Universe

Lest we forget our place in the universe. A little perspective to start the day. Here is a direct video link.

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Oil services sector beckons the TSX broad market

With the US oil services sector index (OSX) already in a bear market, down 24% since June so far, and falling, thoughtful minds might wonder what if anything this sector’s performance might portend for the broader stock market.  While the S&P 500 is about 10% weighted in energy, the Canadian TSX 60 Index is more than twice that at 23% in energy. This overweight helps explain why the TSX Index has historically been closely correlated with price moves in the oil service sector. The chart below shows price movements for both since 2004.

Oil services vs TSX since 2004

In a closer view below, we note the now ominous gap that has developed since June between the diving OSX and the still modest 7% decline for the Canadian broad market. A re-coupling to historical correlations, would see the TSX composite decline at least a further 17% from current levels, to around 12,000, or the level it first reached a decade ago. And that’s if it gets off luckier than previous secular bear declines which typically have registered -50%. Buy and hope?
Oil services vs TSX 2014

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Thinking about the sugar drug this Halloween week

Last Week Tonight’s Jon Oliver looks at sugar. Here is a direct video link.

The aspect I have always found most disturbing is the potentially lasting harm we are inflicting on the health of our youth. I actually see it as a widespread form of child neglect and abuse today. We don’t allow companies to market drugs and alcohol to kids. Child protection laws are expected to intervene if adults are found giving drugs, alcohol and cigarettes to children. And yet we condone and inflict similar damage every day through diet choices and giving free rein to the big food industry . Their profits are quite literally coming at the long-term expense of all of us. See: Drinking a ‘medium’ soda every day can age you as much as smoking does:

“Just as soda companies plunk down millions of dollars to defeat local soda-tax ballot measures, researchers have found a link between regular soda consumption and premature aging.

Published in the peer-reviewed Journal of Public Health, a study of 5,300 adults compared the cells of people who drink soda every day to those of their non-soda-drinking counterparts. In the soda group, the ends of the chromosomes—known as telomeres—were shorter, a sign of their cells’ diminished ability to regenerate. Our telomeres naturally shorten as we age, but scientists have discovered that a few behaviors—including smoking—can shorten them prematurely.

And here’s the really interesting part: People who drank a 20-ounce soda every day experienced an additional 4.6 years of telomere aging—the same amount observed in smokers. “The extremely high dose of sugar that we can put into our body within seconds by drinking sugared beverages is uniquely toxic to metabolism,” lead author Elissa Epel, a professor of psychiatry at University of California-San Francisco, told Time.”

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Oil breaks below $80

Oil (WTI) has broken below $80 this morning on the back of surging global production, weakening demand and the strengthening US dollar. Canada’s Federal budget forecasts are based on oil north of $95 a barrel…at current levels and lower, deficits will mount in Canada and other energy exporters.

“Goldman Sachs has slashed its 2015 oil price forecasts, making it the most bearish among major financial institutions, following a near 25 percent fall in crude prices over the past five months.

The U.S. investment bank said rising output will outstrip demand—with its forecast weighing further on benchmark Brent crude prices—as forecasters generally pare back estimates for oil due to global growth, a strengthening dollar and ample supplies.

Goldman analysts said in a report released late on Sunday that it expects U.S. benchmark West Texas Intermediate crude to fall to $75 a barrel and Brent to $85 a barrel in the first quarter of 2015, both down $15 a barrel from its previous forecast.” See: Goldman slashes 2015 oil price forecast

Here is a direct video link.

Secular support for oil lies in the $40 a barrel range as shown in my partner Cory’s chart below. Of course no politicians or mainstream economists have even considered what such a decline would mean for global cash flows and budgets.

Each $10 drop in oil prices transfers approximately .5% of global GDP from energy exporters to energy importers. An upside is that energy importers tend to be less wealthy countries and so more dollars in importing nations tends to have a greater multiplier effect in terms of consumer spending. On the other hand, where those consumers are heavily indebted (like today in most countries) the energy savings are more likely to go to debt repayment than increased consumption. This will be good for longer term household balance sheet repair which is desperately needed, but detracts from global growth in the near and medium term.

WTIC Oct 14 2014

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Wealth gap flashing recession warning

The present spike of wealth (asset values) above income coincides with similar tops in 1929, 2000 and 2007. Here is a direct video link.

This chart from the Inequality for all, documentary, also shows peaks in the top 1% of the population’s income since 1920. We can see that while the financial/leverage bubbles of 1928, 2000 and 2007 inflated incomes for the 1% holding financial assets (because total income includes stock options, capital gains and dividends) historically the effect has always been fleeting, dramatically mean reverting once asset values collapse once more. The declines also then crush government tax revenues that during the bubbles become concentrated on capital gains and inflated property values rather than employment and business income. This causes sudden and dramatic deficits for municipal to Federal budgets in the process.


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The financial engineering market

Worthwhile article by Jared Dillian, courtesy of Mauldin Economics today:

“Ten years ago, during the housing boom, the consumer was the most leveraged entity, taking out negative amortization mortgages, cashing out home equity, things like that. The consumer got a margin call, which was ugly—you know the story—and has spent the last six years deleveraging.

While the consumer was taking down leverage, the US government was adding leverage, taking the deficit to over 10% of GDP at one point. But even the government is deleveraging (for the moment), and now it is America’s corporations that have been adding leverage, at a furious pace. We’ve had trillions of dollars in corporate bond issuance in the last few years.

So when corporations sell bonds, what do they typically use the proceeds for?

In theory, the proper use for debt is to finance capital expenditures. Growth. But in this last cycle, that’s not what the money has been used for. It’s primarily been used for stock buybacks and dividends…

So what can we learn about financial engineering? It works, up to a point. In the short term, you can conceal from investors the fact that your business model is broken and you don’t have a plan. You can conceal it for a number of years, in fact. That is the thing about finance: you can suspend the laws of economics in the short term. But not forever. It will always come back to haunt you.”

Read the whole article: The Financial Engineering Market, for more insight on how IBM and other S&P companies have recklessly borrowed trillions to buyback shares and pay dividends, degrading their balance sheets for a temporary pump of stock values to unsustainable levels.

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