One Policy to Rule Them All: Why Central Bank Divergence Is So Slow

The focus on the Fed raising rates masks the global easing in monetary policy

By Richard Barley

Left to right: Haruhiko Kuroda, governor of the Bank of Japan, Mario Draghi, president of the European Central Bank and Janet Yellen, U.S. Federal Reserve Chairwoman. Photo: Bloomberg News

Breaking up really is hard to do—if you’re a central banker. Talk of monetary policy divergence has proved to be difficult to turn into reality in a low-growth, low-inflation world.

Sure, the spotlight is on the U.S. Federal Reserve’s efforts to lift interest rates, especially as the policy shindig in Jackson Hole looms. But the bigger global picture is of yet more policy easing in developed economies. The headlines have been taken by high-profile actions this year like the Bank of Japan 8301 -1.81 % ’s introduction of negative rates, the European Central Bank’s bond buying and the Bank of England’s kitchen-sink response to Brexit.

But they are far from alone. In the past 12 months, the central banks of Australia, New Zealand, Norway and Sweden have all eased policy too, in some cases reversing earlier moves to raise rates.

Arguably, even the Fed has come into line with this trend. It entered 2016 brandishing as many as four rate increases; markets think even one increase is far from a sure thing. The change in those expectations alone accounts for a substantial dose of easing, reflected by the drop in long-term U.S. rates. Seen globally, the picture actually looks more like convergence than divergence.

Two big factors help explain this. The first is the contrast between global financial markets and the local policy settings of central banks. Countries with negative policy rates account for nearly 25% of global gross domestic product, Standard & Poor’s notes based on World Bank data. Because nearly any positive rate relative to zero looks high, even small moves to tighten monetary policy start to look like a big deal in financial markets. The prevalence of loose monetary policy is sending cash cascading across borders in search of higher returns—and pushing up currencies for higher-yielding markets.

That is increasingly affecting monetary policy. The Reserve Bank of New Zealand cited this factor directly in its most recent rate cut, even as it raised its growth forecast and worried about rising house prices. The Fed, in discussing longer-term monetary policy in its most recent minutes, noted that monetary transmission in the U.S. occurs through markets that are “quite globally connected.” A stronger dollar would have consequences for the U.S.—and for China and emerging markets, which have both benefited from the Fed’s reticence in raising rates and acted as a brake on its ambitions.

Second, the bond market appears to be content to play along. Deutsche Asset Management recently noted that all its investment ideas are “directly tied” to central bank policies, adding that it assumes that “we will not witness a rate-tightening cycle that deserves the name.” The power of low rates and quantitative easing appears to have stifled any dissent against the policy orthodoxy currently en vogue.

Low inflation globally is also at the heart of this conundrum and it remains a prospective source of disruption. One key reversal: oil markets have bounced sharply, meaning that for the first time in more than two years, the price for Brent crude is higher than a year ago. The global drag on inflation may fade.

But it may take time to shift a market mind-set that has appeared to discount the risk inflation will return. In the meantime, central banks are operating in what looks like a strange kind of global monetary-policy unión.

U.S. Mint Halts Silver Bullion Sales: Here Is The Takeaway For Investors

by: Hebba Investment

- Reports are circulating that the U.S. Mint is halting silver sales to Authorized Participants.

- We think this isn't particularly surprising, since Silver Eagle sales are down 12% YoY and more than 70% in July.

- Investors simply aren't buying Silver Eagles in the same numbers as they had previously, and we think investors should pay close attention.

- Without physical demand, we think we will see further weakness in silver price, as we don't see any other source of demand making up for it.

- We like silver in the long run, but now is not the time to be a new buyer of silver.

There have recently been reports that the U.S. Mint has halted production of the Silver Eagle bullion coin, which is the most popular silver bullion coin in the world. The report states that Authorized Purchasers (the only entities eligible to purchase from the U.S. Mint) had previously purchased large amounts of silver bullion in anticipation of selling it to silver dealers and bullion stores, but with lagging physical silver demand for bullion coins, these Authorized Purchasers have plenty of inventory on hand, and currently are not interested in buying more silver from the U.S. Mint.
We are looking to verify these reports from the U.S. Mint, but taking a look at recent silver demand (or lack thereof), we wouldn't be surprised if these reports are accurate.
As investors can see in the chart above, silver sales in July registered 1.37 million ounces, which was the lowest since December 2013. Also, investors need to note that Decembers tend to be the lowest-selling months, as many buyers hold off purchases in anticipation of the new year's bullion coins - so the fact that we're seeing "December" levels in July is really negative for silver bullion demand. For those interested in the year-over-year numbers, July 2016's sales of 1.37 million ounces are down a stunning 75% from the July 2015 monthly total of 5.5 million ounces!
Adding on to this is the fact that so far, we are three weeks into August, and sales are only registering 580,000 silver ounces sold. If that rate keeps up, we are going to have a tough time reaching the 1 million ounce threshold, which would be the lowest in a decade.
Implications for Silver Investors
Of course, we are just reporting on one government mint here, but since it's the largest seller of silver bullion coins in the world, we think any weakness seen in U.S. Mint silver sales will also be seen in the other mints worldwide. Therefore, we think it's fair to say anybody who is looking at the market in an unbiased fashion will have no choice but to say that sales of silver bullion coins are experiencing severe weakness.
So what does this mean for the silver price? After all, we know that we saw record-breaking numbers in silver bullion sales over the past few years, yet the silver price continued to decline despite these sales numbers.
As investors can see in the table above, silver coin and bar sales for 2015 totaled 292 million ounces, which is the highest total in a decade, as investors continued to snap up silver in large quantities. This increase in investment demand more than made up for the weakness seen in industrial demand (589 million ounces).
If we take the U.S. Mint numbers YTD (down 12%) and apply that to silver coin and bar demand for 2016, we would figure that 2016 demand would drop from 2015's 292 million ounces to around 260 million ounces in 2016, or a loss/market surplus of around 32 million ounces. While some of this certainly could be made up by increased ETF demand for physical silver bars, unlike the gold market, silver ETFs didn't lose a lot of silver over the past few years, and thus, their inventories are not particularly low, as show in the chart below:
  (Source: Sharelynx Gold Charts)
There simply wasn't a huge amount of silver sold by the ETFs, and so we think it is unlikely that they will make up the demand gap that we are seeing based on very weak silver bullion sales.
Thus, we think this a very dangerous time for silver bulls, as the physical investment market is weak, and as we recently have shown, speculative investors have taken ultra-bullish record-setting positions in the metal. Regardless of whether the reports of the U.S. Mint halting silver sales are accurate, weak bullion demand is not a positive sign for the silver market, and we think the clear takeaway here is that investors should be very cautious.
Despite being long-term precious metals bulls (and thus, holding our core position), we are looking to wait for a silver pullback below what we had previously stated. We mentioned that we wanted to see silver pullback to around the $18.50 level before reopening some of our sold silver trading positions.
We wouldn't be surprised to see silver drop below $18 per ounce, especially if paper silver demand starts weakening and that forces ETFs to start selling silver on the open market.
We think investors should hold off on acquiring new physical silver, silver ETF positions (SLV, PSLV, SIVR), or positions in silver miners such as Pan American Silver (NASDAQ:PAAS), Tahoe Resources (NYSE:TAHO), and First Majestic Silver (NYSE:AG) - though we're not suggesting these companies specifically. It is hard to be bullish on silver with these facts sitting in plain view in front of us, and unless we see a major financial calamity, we think there is going to be a better time to buy silver than at current prices.
We are going to close with a quote passed on by fellow Seeking Alpha author Avi Gilburt and attributed to famous trader Jesse Livermore:
"After spending many years in Wall Street and after making and losing millions of dollars I want to tell you this: It was never my thinking that made the big money for me. It was always my sitting. Got that? My sitting tight!"
Despite the unprecedented monetary situation that we find ourselves in, and the attractiveness that precious metals provide as a hedge to this uncertainty, we think the prudent move for PM investors is to sit tight.

More Big Banks Are Using Arbitration to Bar Customer Lawsuits


Big banks are increasingly using the fine print of checking account agreements to restrict their customers’ ability to settle disputes in court, even though most consumers want to keep their legal options open.
Over the last four years, the share of 29 big banks that use so-called mandatory binding arbitration clauses has risen to 72 percent from 59 percent, according to an analysis released Wednesday by the Pew Charitable Trusts.
And of 44 large banks analyzed this year, almost three-fourths used the clauses, Pew found.
Such clauses require customers to settle disagreements through a private arbitration process, rather than in a court. Most of the banks also include language that bars customers from taking part in class-action lawsuits, which allow them to join together in legal action that would be too costly or time-consuming to pursue individually.
“People won’t act on their own if it doesn’t make sense to do so,” said Thaddeus King, an officer with Pew’s consumer banking project, in a call to discuss the findings with reporters.
As a result, consumers don’t have much recourse if their disagreement involves a relatively small amount of money per customer, even if a large number of customers is affected.

     What an Arbitration Clause Looks Like       
American Express is one of a growing number of companies that include arbitration clauses in their consumer contracts. The section on arbitration can be found toward the end of the contract, which contains several thousand words of legal language.

“You or we may elect to resolve any claim by individual arbitration. Claims are decided by a neutral arbitrator.”


An investigative series by The New York Times found that between 2010 and 2014, only 505 consumers went to arbitration over a dispute of $2,500 or less.
Yet customers overwhelmingly say they want to keep the right to sue their bank. In a survey conducted for Pew in November, 95 percent of consumers said they wanted to maintain their right to have disagreements heard in court, and about 90 percent said they wanted the right to join class-action lawsuits against their banks. Support for joining class actions was strong among people of all incomes and political bents.
Despite wanting to maintain legal options, however, fewer than a quarter said they would take legal action against their bank in a dispute over fees. Three-quarters said they would speak to a manager, and just 38 percent said they would close an account in protest.
Mr. King said the findings suggest that people consider it difficult to close an account, and that customers are unsure if they will be treated any differently at another bank.
(The telephone survey conducted Nov. 24-29, which questioned 1,008 people, has a margin of sampling error of plus or minus 4 percentage points.)
The Consumer Financial Protection Bureau last year issued a detailed report on arbitration clauses, and it has proposed a rule covering many financial products and services — including bank accounts — that would bar arbitration requirements that preclude consumers from joining in class-action cases.
The agency is accepting public comments on the proposal until Monday.
More than 2,000 comments have already been submitted online. Many people are opposed, on the grounds that the new rule would mostly benefit class-action lawyers. (“Please stand up for me,” one said, “not the trial lawyers.”) But many others voiced support. “In recent years,” one couple wrote, “large corporations have converted the fine print in consumer contracts into an effective license to steal.”
Another letter, submitted by a group of about 200 law professors, supported the proposed rule as an important consumer safeguard. Binding arbitration, another commenter said, amounts to “bullying” of people who can’t successfully compete on their own with large, financially powerful corporations.
“I’m hopeful the rule will go into effect as written,” said F. Paul Bland Jr., executive director of Public Justice, a public interest law group.
How can I comment on the rule proposed by the Consumer Financial Protection Bureau?
Comments can be made until Monday on the Federal Register website.
What sort of contracts would be covered by the proposed rule?
The rule would cover checking accounts, credit cards and other types of consumer loans that fall under the bureau’s authority. (The use of arbitration clauses in mortgages is already prohibited by the 2010 Dodd-Frank Act.) It wouldn’t affect other types of agreements, like those for cellphone service or nursing home contracts, according to the National Consumer Law Center.
When would the new rule take effect?
After taking the public comments into account, the bureau is expected to issue a final rule, which would take effect seven months later. So any changes probably won’t be official until next spring at the earliest.

A Default Spree Is Coming… And It's Going to Be Ugly

By Michael E. Lewitt, Global Credit Strategist

Junk bonds may be rallying but it has little to do with corporate credit quality, which just keeps deteriorating.

As of the end of August, 113 companies had defaulted on their debt in 2016, already matching the total number of defaults from 2015. The year-to-date default count was also 57% higher than a year earlier.

In case anyone is paying attention (it appears they are not), the last time defaults were this high was in 2009 when 208 companies failed during the financial crisis.

Standard & Poor's is now projecting that the annual default rate will hit 5.6% by June 2017 with 99 junk-rated companies expected to default in the 12 months ending June 2017. That would significantly exceed the 79 U.S. companies that defaulted in the previous 12-month period ending June 2016, which resulted in a 4.3% default rate.

While low oil prices are a major contributor to this ugliness, energy companies only accounted for 57% of the defaults in the 12 month period ending in June 2016.

That means that there is plenty of distress to go around…

The Fed Has Everything to Do With It

Even more disturbing is the fact that defaults are rising rapidly while many leveraged companies continue to enjoy low borrowing costs courtesy of the clueless Federal Reserve.

If interest rates were remotely normalized, the default rate would already be well above 5% and heading to the high single digits. None of this appears to bother investors, who are chasing yield in the rare places they can find it, which is always in all the wrong places.

As a result, the normal spread-widening that occurs when defaults spike is not occurring; which is a very unhealthy phenomenon because it signals high levels of risk-taking and complacency on the part of investors.

The history of the modern junk bond market teaches that most of the returns are earned in compressed periods after the market suffers a sharp sell-off.

The rest of the time, investors are pushing water uphill as they invest in securities that offer poor-to-mediocre risk-adjusted returns until the point when the bottom falls out and they suffer catastrophic losses.

There is good reason why very few credit hedge funds or other large investors made any money in junk since mid-2014, when the market began a sharp sell-off that coincided with the slide in oil prices and the slowdown in China.

This sell-off ended early this year when the market began to rally based on the realization that the Federal Reserve lacks the intellectual capacity to understand the consequences of its own policies or the moral courage to change them.

Why This Yield Chase Is a Bad Idea

And investors are chasing zombies because numerous companies are not generating enough cash flow to reduce their debts or repay them when they mature. Instead they are just living on fumes and waiting for the day of reckoning when their debt matures and they can't pay it back.

More of them will hit the wall when their debt comes due and they can't refinance it at a reasonable interest rate because they are financially weak.

Standard & Poor's is telling us that more of these companies are heading to the bone yard. Investors should be selling rather than buying this risk.

Junk bond market complacency mirrors stock market complacency. The stock market is expensive.

The Shiller Cyclically-Adjusted Price/Earnings Ratio is currently 27x, a level is has only reached before in 1929 and 2000 before crashing to the ground.

For some reason, investors think it is a good idea to chase expensive stocks over a cliff because other asset classes such as bonds offer even worse alternatives. I have news for them – it is not a good idea, it is a terrible idea. Smart investors understand the value of holding cash and avoiding losses and waiting for a better entry point.

Now is the time to be patient and avoid taking unnecessary risks.

The world is a dangerous place. Markets are fragile. Sit tight and wait for opportunities. They will come.

China’s budget deficit

Augmented reality

The fiscal hole is much bigger than meets the eye—but under control 

Keeping the budget on track

IF A country’s fiscal deficit hit 10% of GDP five years running, you might reasonably conclude that its public finances were parlous. So it is understandable that China has bristled at suggestions that it is veering into such territory. Officially, China is a paragon of fiscal rectitude: its annual deficits have averaged just 1.8% in the past half-decade. But the IMF, Goldman Sachs and others have come up with “augmented” estimates of nearer to a tenth of GDP, more than five times the official number.

At face value, these estimates imply that China is suffering from a budget gap—not to mention a credibility gap—of Greek proportions. Are things really that bad? Almost certainly not. The augmented figures form a clearer picture of China’s fiscal health. But they also differ from conventional measures in important ways, and so are potentially misleading.
The IMF devised the alternative concept a few years ago, to track the vast amount of spending that occurs off China’s public balance-sheet. Because the central government places tight limits on local-government debts, provinces and cities have long used arm’s length companies, known as local-government financing vehicles (LGFVs), to borrow from banks and issue bonds. That these are really just stand-ins for public borrowing is an open secret. The augmented deficit is a way of making this explicit. Consider the projections for 2016: the government is on course for an official deficit of roughly 3% of GDP. But adding in LGFV borrowing, the IMF forecasts that it will rise to 8.4%.
The augmented estimates also catch other forms of quasi-fiscal spending. Over the past year the authorities have made liberal use of China Development Bank, a “policy bank” specifically charged with supporting government initiatives. Land sales are also an important source of funding. Totting up all the different items, the IMF says China’s augmented deficit will rise to a jaw-dropping 10.1% of GDP in 2016 (see chart). The government is thus giving the economy a fiscal push more than triple the size of its official target.

Although that stimulus may be welcome now, an obvious question is whether public debt is far greater than advertised. Repeated fiscal blow-outs—declared or not—will eventually appear on the balance-sheet. Sure enough, the Chinese government tacitly confirmed the augmented estimates, at least in part, when it added off-balance-sheet debts to its official tally a couple of years ago. Its debt jumped to 38.5% of GDP in 2014 from 15.9% in 2013.

But the augmented deficit is not as frightening as it looks—and certainly not as worrisome as China’s vast corporate debts. First, it does not represent new hidden debt: it is an attempt to assign responsibility, putting the government on the hook for implicit liabilities. Second, spending funded by land sales does not add to debt. Sales must be handled prudently—once an asset is sold, it’s gone—but they are like a development bonus, topping up the coffers so long as urbanisation continues.

Finally, China’s deficit is different from those of developed economies. Outlays on social programmes, though rising, are still low. Much of the deficit stems instead from investment in roads, railways and so forth. “These are not just general spending,” says Helen Qiao, an economist with Bank of America Merrill Lynch. “They generate assets for the government.” So long as the assets are decent, net debt will remain under control, allowing China slowly to rein in its deficits. Indeed, the IMF expects the augmented deficit to average 9% until 2021.

This, however, raises a different concern: that the deficit should in fact be more like those elsewhere.

At around a tenth of GDP, social spending is half of what it is in rich countries. And with China’s population about to age rapidly, the gaps in pension, welfare and health-care systems will soon get much wider without more public money. A strong state backstop would also give people confidence to spend more, supporting the economy’s rebalancing towards consumption. So while China can afford to tame its deficit gradually, it must be quicker to shift its spending habits. More should go on hospitals and pensions, less on power stations.