Russia Smiles . . . Or Maybe Bares Its Teeth

 Observations on the Capital Markets – Week Ended May 9, 2014

On Thursday, Putin suggested the separatists postpone their vote (a suggestion they appear to have ignored). He also said Russia had pulled troops back from the Ukrainian order (NATO said no such pullback had occurred). Finally, Putin also called for a ceasefire and talks between the new government and separatists on equal terms . . . a move which would effectively confer recognition on the separatists. Markets—notably the Russian stock market—rallied on this hint of peaceful behavior.

Nevertheless, the separatists have said they intend to push forward with a May 11 “independence referendum.” Independent polls suggest that the majority of the local populations do not favor secession but, inasmuch as the separatists are likely to collect ballots only in areas they control, that they are likely to present at the polling booths, and that no impartial authority will be counting the ballots, a small actual turnout, a high reported turnout, and a pro-secession vote are likely outcomes.

On Friday, Russia commemorated Victory (over Hitler) Day . . . it’s a very big holiday in Russia—think July 4. On Friday, Russia apparently also conducted military drills—not on the Ukrainian border, but across Russia—simulating (with ICBMs and strategic bombers) the ramp-up to global nuclear war. Was it routine and pre-planned, as they say, or a threat of escalation? You decide. Continue reading

Weak GDP Growth and Falling Unemployment? Believe Neither Report

First quarter GDP rose 0.1% (annualized), which was well short of market expectations. But don’t get excited – this is a backward looking indicator. Q2 is already 2/3 over and it’s looking a lot stronger than the prior quarter and winter months. Employment in particular looks solid, but a raft of other data points to building strength.

A few points to consider:

  • GDP will be revised twice, and the final number is likely to be significantly different than 0.1%.
  • Trend growth is still improving: trailing 12-month growth is 2.3%, versus 1.3% at the end of Q1 2013.
  • Easter was late. A late Easter pulls activity from 1Q into 2Q.
  • Hours worked fell in Q1 due to bad weather. If hours worked had not fallen, Q1 growth would have been about 2.5%.

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Ukraine Tensions Rise, Russian Markets Fall. Will Investors “Run the stops” on the Yuan?

Observations on the Capital Markets – Week Ended April 25, 2014

Ukraine tensions increased, people died, and Russia is threatening, while the U.S. and EU appear weak/passive. S&P cut Russia’s sovereign debt to BBB- with a negative outlook. Two Russian sovereign bonds auctions failed due to an “absence of bids” according to the Russian Finance Ministry. Russia’s Central Bank increased its key rate another 50 bps to 7.50% (after a 150 basis point hike on March 3) due to “higher inflation risks.” Russian stocks were among the week’s biggest losers.

The Chinese yuan was down almost 3.5% against the dollar year to date. Perhaps more important, it crossed 6.25 per dollar, a level where (some say) lots of highly leveraged derivative products known as “target redemption forwards” could turn sour. In my youth, if lots of investors had stop-losses or similar triggers at some price point, markets would have a propensity to go through that price, triggering the stop-losses, then reversing, imposing losses on the investors who had stop-losses: it was called ”running the stops.” We’ll see. Continue reading

The Fed Keeps a Watchful Eye as U.S. Economy Continues to Improve

The Fed’s “Beige Book” painted a beige—or is it Goldilocks?—picture of the economy, as most districts reported economic activity growing at a modest/moderate pace, employment generally rising, and wage pressures still generally well-contained. Nothing suggested cause for the Fed to change its plans or guidance.

  • Indeed, in her speech last week, Fed Chairwoman Janet Yellen said that she thinks the U.S. is at least 2 years away (maybe more) from reaching full employment and that inflation pressures remain subdued, so tightening policy any time soon would probably be premature.
  • With that said, her speech wasn’t all that dovish. She didn’t make new promises or push the envelope; rather, she reiterated that Fed policy remains data-dependent and the Fed “must always be prepared to respond” to rising inflation.
  • Somewhat worryingly (for those who worry about these things), she stressed the mandate of maximizing employment and acknowledged the responsibility to constrain inflation, but made no mention of preventing asset price bubbles in things like stocks, houses, or things that yield 5%.

Business and Consumer Activity Rebounding
Early in the week, the Empire State (NY Fed) survey disappointed, slipping from 5.6 to 1.3 on weak new orders. Later in the week, the Philadelphia (Mid-Atlantic) Fed index surprised on the upside, rising from 9.0 to 16.6 on strong new orders. The market’s reaction suggests Philadelphia trumps New York.

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‘No Brakes’ on U.S. Growth – But Are Americans on Board?

IMF Bullish on U.S. Economy – Americans Remain Cautious
“There are no brakes on U.S. growth,” said the IMF’s chief economist, “It’s an economy that is fundamentally robust.” The latest International Monetary Fund (IMF) forecast is for 3.6% global GDP in 2014. The U.S. is expected to grow 2.8%, the Eurozone 1.2%, Japan 1.4% and the UK 2.9%.

Indeed, U.S. labor market data signaled ongoing strength, as unemployment claims fell to 300k, the biggest week/week drop in 10 years and the lowest weekly number since May 2007. Seasonal factors (Easter) and normal data volatility may be at work, but it’s still a low number. The February JOLTs report was fine, considering the weather: the number of job openings and hires rose, the number of terminations was flat. The number of job openings is the highest since January 2008.

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Yellen More Dovish? Don’t be Fooled.

Observations on the Capital Markets – Week Ended April 4, 2014

Fed Chair Yellen sounded very dovish in Monday’s speech, emphasizing that markets should expect extraordinary policy accommodation for some time, given the slack in the labor market. She broke with precedent by citing anecdotes (this from a person who has perhaps overused the words “data dependent”). She did not repeat the “six-month” guesstimate of how soon after QE ended Fed funds would start rising, but she didn’t “walk it back” either, or give any guidance suggesting anything more dovish than the Fed statement.

My take: she demonstrated empathy without making any promises or commitments. She’s a very good politician (as well as a very good Fed Governor). Continue reading

Slow Growth for the Economy but Weather Effects Fading

Do you believe Putin’s words or actions? Putin continued to say he wanted a diplomatic solution to Ukraine while continuing to mass troops along the Ukrainian border. Meanwhile the International Monetary Fund (IMF) approved a line of credit of up to $18 billion to Ukraine and the Ukrainian parliament passed a law to implement IMF-demanded austerity measures. The “West” cancelled a G8 meeting scheduled for Sochi, and so the G8 reverts to the G7 with the expulsion of Russia. Continue reading

The Fed Doesn’t Surprise, but the Market Reacts Anyway.

As expected, quantitative easing (QE) was tapered another $10 billion last week and the Fed dropped its earlier guidance that it might start raising the Fed Funds rate when unemployment is 6.5% (confirming that it will wait longer than that, since we’re almost at 6.5%).

The U.S. stock market sold off sharply on this news (even though the outcome was widely expected), then rallied the next day.  Some observers think it was computer algorithms that (seeing unexpected hawkishness) triggered the selling; the dip was a buying opportunity.  The bond market moved to price in a stronger economy and faster pace of Fed Fund rate hikes.

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U.S. Economy Looks OK but War Risks / Chinese Financial Risks Rise

Observations on the Capital Markets – Week Ended March 14, 2014

China’s downbeat economic data raised fears as softness in Chinese economic data (below-consensus growth in industrial production, retail sales, and CPI) fueled concerns over the health of its economy.

The price of copper fell 5% on the week and is down 12% year to date, raising fears that the Chinese financial system is facing cascading margin calls like what happened to U.S. CDO (Collateralized Debt Obligations) prices in 2007-9 (lots of Chinese copper positions appear to be leveraged).

A referendum in Crimea about seceding from the Ukraine to rejoin Russia, only rumored at a week ago, took place Sunday March 16; the Russians report that 93% voted in favor of doing so. Regardless of how the people might have voted under other circumstances, the outcome is almost certain: Russia is effectively conquering/annexing Crimea.

The U.N. will not act. Russia has a veto on the Security Council. On Saturday, it vetoed a draft resolution against the Ukraine referendum (China abstained). Western diplomats continue to cry foul, but it’s hard to make a clear moral case against Crimean self-determination when the Kiev “government” was not elected. Continue reading

Will the World and the Markets (Passively) Accept Russia’s Actions?

Having bloodlessly consolidated his control of Crimea, Russian President Vladimir Putin announced he hoped there would be no shooting (e.g. military response to the invasion). Most markets rallied, regaining the ground they’d lost when the invasion occurred.

There won’t be a NATO military response: pushing the Russians out is effectively impossible in practical terms. (How the Ukrainians themselves will act is uncertain. As one analyst put it, “The only question now is whether the new Ukrainian government will accept the loss of Crimea quietly or try to retaliate against Russian speakers in Ukraine – offering Putin a pretext for invasion, and thereby precipitating an all-out civil war.”)

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