Weekly Commentary: Just the Facts (back next week)

March 1 – Financial Times (Gavin Jackson and Joseph Cotterill): “Investment banks are struggling to clear a backlog of debt they lent to companies and private equity to fund last year’s mergers and acquisitions boom. Private equity takeovers, which rely on large amounts of debt, have returned to the centre of the turmoil in credit markets, most recently the $6.5bn buyout of Solera, a US computer software company. To fund these deals banks make so-called bridge loans for a short period, which are then replaced by long-term debt such as junk bonds or syndicated leveraged loans. Banks risk being left with losses if these bridge loans are ‘hung’ and they are unable to sell the longer-term debt at a price they promised to the company.”

March 1 – Bloomberg (Cordell Eddings): “Global junk-bond defaults will rise to the highest level in seven years in 2016 as a prolonged downturn in commodity prices continues to wreak havoc on company profits and balance sheets, according to Moody’s… The ratings company forecasts that the speculative-grade default rate will reach 4% this year, up from 3.5% in 2015 and the highest level since 2009. The default rate for all of Moody’s-rated corporate issuers is estimated to rise to 2.1%, also a post-financial crisis high, from 1.7% last year. ‘Persistently low commodity prices, slowing economic expansion and widening high-yield spreads will send default rates higher in 2016,’ Moody’s credit analyst Sharon Ou wrote… Diminished credit quality ‘combined with the sharp increase in defaults and rising investor caution, indicate that the credit cycle is turning.’”

March 4 – Reuters (Jamie McGeever): “Goldman Sachs is cutting between five and 10% of staff in its fixed income and currency trading business, a source familiar with the matter said… Goldman employed 36,800 people at the end of 2015. But its FIC division is likely to feel the squeeze more than most because of the challenges posed by low interest rates and stricter regulations that have curbed profits in areas like fixed income trading… Revenue from FIC trading was $1.12 billion in the fourth quarter of last year, the lowest since the fourth quarter of 2008…”

Global Bubble Watch:

February 27 – Reuters (Gernot Heller and Adam Jourdan): “The world’s top economies declared on Saturday that they need to look beyond ultra-low interest rates and printing money to shake the global economy out of its torpor… A communique from the Group of 20 (G20) finance ministers and central bankers flagged a series of risks to world growth, including volatile capital flows, a sharp fall in commodity prices and the potential ‘shock’ of a British exit from the EU. ‘The global recovery continues, but it remains uneven and falls short of our ambition for strong, sustainable and balanced growth,’ said the communique…”

February 28 – Financial Times (Attracta Mooney and Chris Newlands): “Investors pulled more than $60bn from mutual funds globally in January, marking the worst month of outflows since the height of the financial crisis. The outflows were most acute for European mutual funds, with investors redeeming €42.6bn ($47bn), according to Thompson Reuters Lipper…. January marked the worst start to a year for markets in at least two decades. More than $2.3tn was wiped off global stocks in the first week alone…”

U.S. Bubble Watch:

March 4 – Wall Street Journal (Aaron Back): “It isn’t just energy loans. Problems also are popping up in banks’ consumer-loan books, especially for autos. While still at an early stage and manageable, it is a risk bank investors should keep an eye on given how lending has boomed in this area… In last year’s fourth quarter, total net charge-offs at U.S. banks, the amount of bad loans that they wrote off, rose from a year earlier for the first time in 5½ years… Trouble in the oil patch was a big culprit. It caused charge-offs in banks’ commercial- and industrial-loan books to soar 43% from a year earlier… Even so, auto-loan write-offs have started accelerating. In the fourth quarter, rising 16% from a year earlier… And more trouble looks to be coming around the bend: Auto loans that are 30 to 89 days overdue rose to 1.82% of total auto loans in the fourth quarter, the highest level since 2011… Fitch Ratings warned last week that delinquencies of over 60 days on securities backed by subprime auto loans hit almost 5% in January. That is the highest since September 2009 and close to the record peak hit that same year.”

March 4 – Wall Street Journal (Rolfe Winkler and Scott Austin): “Mutual funds that helped fuel the technology boom are cutting the value of their startup investments at an accelerating pace and are making fewer new investments. These are ominous signs for Silicon Valley, where a flood of money into young companies pushed valuations skyward, and subsidized hiring sprees and advertising binges at scores of companies. The mutual-fund pullback threatens to deepen a wider downturn that has already led to falling valuations, shrinking ambitions and layoffs as the receding tide of capital forces startup companies of all kinds to focus on the bottom line rather than growth at any cost.”

March 4 – Reuters (Lucia Mutikani): “The U.S. trade deficit widened more than expected in January as a strong dollar and weak global demand helped to push exports to a more than five-and-a-half-year low… The… trade gap increased 2.2% to $45.7 billion. December’s trade deficit was revised up to $44.7 billion from the previously reported $43.4 billion. Exports have declined for four straight months.”

March 3 – Bloomberg (Victoria Stilwell): “Growth in U.S. service industries slowed for a fourth straight month in February, prompting the first job cuts in two years. The Institute for Supply Management’s non-manufacturing index eased to 53.4 from 53.5 in January… The group’s employment measure dipped below the expansion threshold for the first time since February 2014.”

March 3 – Reuters (Bernie Woodall): “The average amount of a new-vehicle loan in the United States rose by $1,170 in the fourth quarter from a year earlier to a record high $29,551, and the average monthly payment was nearly $500, Experian Automotive said… Leases accounted for a record high 33.6% of new vehicles sold, said Experian automotive credit director Melinda Zabritski, primarily because monthly payments are lower.”

March 3 – Reuters: “House flipping – buying and reselling a home to make a quick buck – has risen in some hot housing markets, prompting concerns that local housing bubbles could be developing, according to a report… The report by RealtyTrac found that home flipping in 12 active metropolitan areas last year was above a peak set in 2005, just two years before the U.S. mortgage market started to collapse, leading to a banking crisis and the Great Recession. Profits generated by home flipping also hit a 10-year high, with home flippers netting an average $55,000 per sale before renovation and transaction costs.”

China Bubble Watch:

March 1 – Bloomberg: “China’s credit-rating outlook was lowered to negative from stable by Moody’s…, which cited rising government debt, falling currency reserves and uncertainty over the authorities’ ability to carry out reforms. The government’s fiscal strength is weakening and there’s a growing probability that it will need to shoulder some of the liabilities of local governments, policy banks and state-owned enterprises, the ratings company said… Declines in the nation’s foreign-exchange reserves amid capital outflows underscore policy, currency and growth risks, while failure to undertake reforms may undermine the credibility of policy makers, it said. Moody’s joined Standard & Poor’s in warning rising local debt has the potential to add pressure to the country’s rating.”

March 3 – Barron’s (Shuli Ren): “After lowering its credit outlook on the Chinese government yesterday, rating agency Moody’s cut 38 Chinese state-owned enterprises outlook to negative as well. Moody’s wrote: The change in the Chinese sovereign rating outlook to negative indicates that the central government and regional local governments’ (RLGs) capability to support their SOEs on a broad basis could be weaker than we had previously assessed. Moody’s believes that the continuing growth in contingent liabilities — along with stated government objectives to introduce more market discipline — suggests that support from the government and the banking system will increasingly be prioritized, based on the relative importance of each entity for the implementation of strategic national policy goals. Yesterday, Moody’s raised concerns that Chinese government’s debt has risen markedly to 32.5% in 2012 to 40.6% by the end of 2015.”

March 1 – Bloomberg: “After getting burned by the bursting of China’s stock-market bubble, Liu Yihui is seeking salvation from the country’s latest investment mania: big-city properties. The 35-year-old civil engineer dumped his equity holdings after losing 40% last year, using the proceeds to buy a 5 million yuan ($763,464) apartment in Shenzhen. Prices in the southern business hub have surged more than 50% over the past year, the fastest pace since at least 2011. ‘People are a bit crazy in this market, but what can you do?’ said Liu, who took on a mortgage to buy the apartment, an investment property that he’s renting out. ‘Stock returns were terrible, so I made up my mind to put my money in real estate.’”

March 2 – Bloomberg: “China’s monetary policies have encouraged investors to pour money into real estate, inflating prices in cities such as Beijing, Shanghai and Shenzhen and increasing the risk that bubbles could form, central bank policy adviser Bai Chongen said… At the same time, smaller property markets are struggling with excess inventory, making it difficult to craft a unified policy response and requiring careful coordination with fiscal measures, he said…”

March 3 – Financial Times (Don Weinland): “It looks like subprime derivatives on steroids: China hopes to bundle together billions of dollars’ worth of non-performing loans and eventually sell them to global investors. Such a massive securitisation programme would represent the latest tactic in China’s campaign to lift one of the biggest shadows cast over its slowing economy — a debt pile that is as big as 230% of GDP. It would whittle back debts at Chinese banks and move some of the risk outside the domestic financial system. According to official figures, such debts at the banks have reached Rmb1.27tn ($194bn), while analysts estimate the real number is likely to be many times higher… Demand for the scheme, however, is expected to be significantly more modest than supply. ‘How many global investors have been interested in the traditional [bad debt in China]?’ asked one Hong Kong-based investor with experience buying distressed debt in Asia. ‘Not many … is a more complicated version of this going to change that soon? No.’”

March 2 – Reuters (Kevin Yao): “China plans to target broad-based money supply growth of around 13% this year, sources said, a signal that further monetary policy easing is likely during a painful economic restructuring that could see millions of workers losing jobs. Top leaders have already pledged ‘supply-side structural reforms’ to tackle excess factory capacity and ‘zombie firms’, and are also expected to lean more on fiscal stimulus as they seek to avert a hard landing for the world’s second-largest economy. ‘A 13% rise in M2 is sufficient for keeping liquidity flush in the near term, but we may see faster rises later this year as the central bank is likely to loosen policy further,’ said one of the sources.”

February 29 – Bloomberg: “China’s factory gauge extended its stretch of deteriorating conditions to a record seven months while a measure of services fell to the weakest in seven years, underscoring the challenge for policy makers as they seek to cut overcapacity in manufacturing without derailing growth.”

February 29 – Bloomberg (David Tweed and Ditas B Lopez): “Communist Party officials in Beijing have pledged to ‘seriously punish’ a retired property developer who criticized President Xi Jinping’s state media clampdown, urging other party members to learn from his example. Former Huayuan Property Co. Chairman Ren Zhiqiang ‘constantly issued illegal information and wrong opinions on the Internet, which caused a baneful influence and seriously damaged the image of the party,’ the party committee in Beijing’s Xicheng district said… Ren, a friend of party discipline chief Wang Qishan, was known for airing outspoken views to his more than 37 million Weibo followers before Internet regulators ordered his social media accounts closed Sunday. ‘As a Communist Party member, any comment that is not in line with the party’s policy and direction, no matter if published on the Internet or in the media, are not allowed by the party’s regulations,’ said the committee…”

February 28 – Financial Times (Don Weinland): “Beijing has mothballed two pioneering outbound investment schemes, according to people with knowledge of the situation, in its latest bid to stem capital outflows and shore up the renminbi. The halt in the allotment of quotas reflects fears over the massive amount of cash — some economists estimate up to $1tn last year — that has left the country through official and unofficial channels as economic growth slows and the renminbi continues to depreciate. The schemes were part of liberalisation moves designed to facilitate overseas investment in China and allow domestic funds to buy foreign securities.”

Central Bank Watch:

March 4 – Wall Street Journal (Tom Fearless): “The European Central Bank faces a dilemma as it considers boosting its roughly €1.5 trillion ($1.6 trillion) bond-purchase program next week: how to ensure it has enough bonds to buy without sparking legal tussles. The ECB is now buying about €60 billion a month of mainly eurozone government bonds, based on self-imposed rules that limit how much it can acquire from individual governments. But those rules mean the supply—particularly of low-risk German bonds—will be exhausted before the program ends next March, and sooner, if it is expanded next week… ECB President Mario Draghi has pledged to review the size and design of its stimulus at a two-day policy meeting starting Wednesday. Boosting its monthly bond purchases to €80 billion, as some economists expect, would exhaust its pool of eligible German government bonds before the end of the year, according to researchers at Bruegel, a Brussels think tank.”

EM Bubble Watch:

March 1 – Financial Times (Henny Sender): “Highly indebted companies across Asia are closely watching the direction of the US dollar. A case in point is Agile Property Holdings and the property developer must generate cash to repay its HK$3bn debt over 2016 while contending with flat sales and falling prices for the properties it sells in mainland China, where average prices are down 9%. For now, Standard & Poor’s has yet to revise down the developer’s credit rating… Not so fortunate is PT Energi Mega Persada, an Indonesian energy company. S&P downgraded its rating due to the refinancing risk on its sizeable short-term debt and fears that its internal resources will be insufficient to service its debt. These companies are two faces of the nearly $1tn in Asian emerging market corporate debt that is coming due through 2020 — almost half in the next two years alone. As emerging market borrowers try to reduce their debt loads, a disruptive economic cycle is among the principal fears of risk managers who contemplate a world of slow growth, low commodity prices, overcapacity and a lack of pricing power…”

February 29 – Bloomberg (Stefania Bianchi): “Gulf Cooperation Council countries may struggle to refinance $94 billion of debt in the next two years as the region faces slowing growth, rising rates and rating downgrades, according to HSBC… Oil-rich GCC states have to refinance $52 billion of bonds and $42 billion of syndicated loans, mostly in the United Arab Emirates and Qatar… The countries also face a fiscal and current account deficit of $395 billion over the period, it said.”

Brazil Watch:

March 4 – Bloomberg (Anna Edgerton): “As soon as police raided the home of former Brazil President Luiz Inacio Lula da Silva and questioned him early Friday, red-shirted activists of his Workers’ Party took to the streets. Fist fights broke out with police as well as with those applauding the detention — a preview of the unrest that likely awaits Brazil and its embattled president. The second term of President Dilma Rousseff has been overwhelmed by twin crises — an economy crippled by recession and a political establishment under siege by a massive corruption investigation. The probe of Lula, an iconic figure who chose Rousseff as his successor, escalates almost two years of mounting tension.”

February 27 – Reuters (Andy Bruce): “London Mayor Boris Johnson urged British government ministers to join the campaign to leave the European Union in a newspaper interview on Saturday, again defying Prime Minister and fellow Conservative David Cameron. A political showman who is widely thought to be keen to succeed Cameron, Johnson said he wanted to change the minds of the majority of cabinet ministers who favor voting to remain in the EU in a June 23 referendum on the issue.”

March 3 – Reuters (Caroline Copley): “The anti-immigrant Alternative for Germany (AfD) is poised to win almost 20% of the vote in a state election and match the ruling Social Democrats in another this month, highlighting the threat to mainstream parties from the migrant crisis.”

Geopolitical Watch:

March 2 – Reuters (David Tweed): “With a series of edicts, speeches and martial ceremonies, President Xi Jinping has over the past six months unveiled China’s biggest military overhaul since the aftermath of the Korean War. The plan seeks to transform the 2.3-million-member People’s Liberation Army, which features 21st-century hardware but an outdated, Soviet-inspired command structure, into a fighting force capable of winning a modern war. China is shifting from a ‘large country to a large and powerful one,’ Xi explained in November. The restructuring will be a major focus of the country’s new defense budget, which may be announced as soon as Friday as the annual National People’s Congress gets under way in Beijing.”

March 2 – Reuters (Andrea Shalal): “U.S. Defense Secretary Ash Carter… warned China against ‘aggressive’ actions in the South China Sea region, including the placement of surface-to-air missiles on a disputed island. ‘China must not pursue militarization in the South China Sea,’ Carter said in a wide-ranging speech at the Commonwealth Club in San Francisco. ‘Specific actions will have specific consequences.’ …He said China’s behavior had fueled trilateral agreements that would have been ‘unthinkable’ even a few years ago.”

March 1 – Bloomberg (David Tweed and Ditas B Lopez): “China has stationed ships near a submerged reef in the South China Sea, blocking access by Philippine boats to fertile fishing grounds in the area as it steps up efforts to assert claims to more than 80% of one of the world’s busiest waterways. ‘Many’ Chinese coast guard boats and five warships were positioned around Quirino, or Jackson atoll, in the Spratly island chain, preventing Philippine boats from reaching their traditional fishery…”

March 2 – Reuters (Niharika Mandhana): “The U.S., India and Japan will conduct joint naval exercises in the northern waters of the Philippine Sea, an area close to the East and South China Seas where Beijing is locked in an increasingly tense standoff with Washington. The maneuvers are part of an annual event between the U.S. and Indian navies that, since 2014, has expanded to include Japan, signaling closer cooperation between the three countries that share concern about China’s military ambitions.”

March 3 – Bloomberg (Taylan Bilgic and Onur Ant): “Turkish authorities seized control of the media company that owns the country’s best-selling Zaman newspaper, a one-time supporter of President Recep Tayyip Erdogan that became one of his fiercest critics… Zaman is published by followers of U.S.-based cleric Fethullah Gulen, whom Erdogan blamed for instigating a 2013 corruption probe into the Turkish government that he said was an attempt to overthrow him. The paper’s seizure comes amid a broader crackdown on media…”