BLINKED / CREDIT BUBBLE BULLETIN

Blinked

Doug Nolan

The S&P500 jumped 4.0% this week, boosting the index’s two-week rally to 8.9%. 

The small caps rose 6.0% (two-week gain 9.8%), with the average stock (Value Line Arithmetic) up 5.4% (two-week gain 9.6%). 

Ten-year Treasury yields dropped 20 bps to 4.02%, while benchmark MBS yields sank 27 bps (5.74%). 

High-yield CDS fell 42 bps (two-week decline 95bps) to a six-week low 501 bps. 

Most bank CDS declined about 10 bps. 

If I could only feel as good about the world as others. 

We'll see next week if "risk on" discourages the Fed from wavering.

A confluence of developments helped reverse acute global de-risking/delivering dynamics. 

New in town, it has taken little time for the bond vigilantes to turn cocky. 

They quickly felled a Chancellor, a fiscal plan, and even a Prime Minister. 

They got into the heads of global central bankers.

UK 10-year gilt yields sank 58 bps this week to 3.78%, with yields down 116 bps from October 12th highs. 

After trading up to 4.40%, two-year UK yields were back down to 3.0% this week. 

The British pound rallied 2.8%. 

After trading below 1.07 versus the dollar on September 26th, the pound ended the week at 1.16.

There should be no downplaying the UK dislocation's impact on global markets. 

After rising last Friday to as high as 4.89%, Italian 10-year yields were back below 4.0% in late-Thursday trading. 

A Friday Financial Times headline: "ECB Convinces Markets it is About to Turn More Dovish." 

That didn't take long.

October 28 – Financial Times (Martin Arnold): 

"It has taken what seem like only slight changes in tone from Christine Lagarde, and the governing council she heads, to convince investors that the European Central Bank is on the verge of a dovish pivot. 

Markets on Thursday quickly took the ECB president's acknowledgment in a post-council meeting press conference that the eurozone was likely to be heading for recession — long a foregone conclusion for most economists — to mean that the region's rate-setters would ease the extent of rate rises."

Greek 10-year yields sank 56 bps this week to 4.48%. 

After trading to 5.12% last Friday, Greek yields opened this Friday's session at 4.35%. 

Spanish yields dropped 38 bps this week to 3.15%; Portuguese yields sank 37 bps to 3.08%; and French yields fell 36 bps to 2.61%. 

It's still taking some getting used to - crazy volatility even in the bund market. 

After rising as high as 2.53% last Friday, 10-year German yields traded down to 1.96% in late-Thursday trading (ending the week down 31 bps to 2.10%).

A section from the above FT article was good for a chuckle: "The fierce reaction, however, surprised some of the more hawkish members of the ECB governing council. 

'I don't know what this is based on,' said one. 

'There are still lots of things to worry about inflation. 

If we keep getting high inflation readings, we will need another strong response.'"

At least for now, markets seem convinced that the global central bank community has Blinked – just as they knew they would. 

The Bank of England restarted bond buying before QT even got off the ground. 

Ahead of the FOMC meeting "black out" period, Bullard, Evans, Daly and Kashkari all last week provided inklings of a Fed soon reassessing its hawkish tightening measures. 

And Wednesday's FT headline: "Bank of Canada Nearing End of Monetary Tightening, Says Governor."

October 26 – Financial Times (Jaren Kerr): 

"Canada's central bank is approaching the end of its monetary tightening cycle, its governor said… as policymakers increased the benchmark interest rate by less than economists had expected. 

The Bank of Canada raised its key interest rate 0.50 percentage points to 3.75%... 

Although Canada is one of the smaller G7 economies, it has moved more quickly to raise rates… 

As such, it is seen as something of a forerunner for other central banks that have raised rates aggressively this year and are now discussing when to slow down the pace of increases."

Markets were warmed up and ready to hear niceties from Madam Lagarde. 

And it didn't hurt that Chinese banks were Wednesday aggressively selling dollars to bolster the renminbi. 

Beijing had seen enough, which, at least in the near-term, assuaged another market worry. 

And with markets yearning for that warm, concerted global policy response feeling, surely the Bank of Japan's Haruhiko Kuroda wouldn't, as king of monetary largess, disappoint.

He didn't. 

"We don't plan to raise interest rates or head for an exit (from easy policy) any time soon." 

Not even a currency plumbing 32-year lows would elicit a little policy contemplation. 

Kuroda: 

"Based on macro-economic models, if the yen's decline is steady it would have a positive impact on the economy." 

Or that the effectiveness of extraordinary currency intervention measures (estimates as high as $70bn for three rounds of yen support) is in doubt. 

And how can credibility not be at stake when a central bank ratchets up debt monetization to hold a 25 bps bond yield ceiling? 

Kuroda: 

"I don't think yield curve control is behind the yen's drop… 

YCC is one way of pursuing monetary easing. 

It's not as if YCC has a different impact on currency moves than quantitative easing."

October 24 – Bloomberg (Toru Fujioka and Saburo Funabiki): 

"Japan likely conducted its biggest ever currency intervention to prop up the yen late Friday, based on Bank of Japan balance of payment figures and an estimate of flows by money broker Central Tanshi Co. 

The size of the suspected market action is estimated to be as much as 5.5 trillion yen ($36.8bn)…"

There's some crazy poo going down in Japanese policy circles. 

Clearly, they skipped reading the memo out of London - dictated by the "Vigilantes".

October 27 – Bloomberg (Yoshiaki Nohara): 

"Prime Minister Fumio Kishida announced a 71.6 trillion yen ($490bn) economic stimulus package to ease the impact of rising prices on consumers and companies, and support growth as he seeks to bolster sliding support for his year-old government. 

Fiscal spending will be 39 trillion yen with an extra budget of 29.1 trillion yen to fund the package, Kishida said... 

In addition to tackling inflation amplified by the cratering yen, the package will also offer companies more incentives to boost wages and help set up the economy to take advantage of the currency's weakness by boosting inbound tourism and exports and bringing factories back to Japan."

I feel for the Japanese people. 

I feel terribly for the Ukrainians, along with the Europeans. 

The Russian people don't deserve this.

I feel for the Chinese, and my fellow Americans – although we are so fortunate compared to most of the world. 

I feel for humanity. 

Global policymaking has been such a disaster.

The Xi Jinping party continues to reverberate.

October 25 – Bloomberg (Hal Brands): 

"The results of China's 20th Communist Party Congress are in, and they aren't pretty — for China, the US and the world. 

Xi Jinping secured a historic third term as general secretary of the party while stacking the system with acolytes and dismissing prominent rivals. 

China is continuing its long march toward personalistic autocracy, a system in which Xi ruthlessly rules the party, the imperatives of political control trump those of economic growth, and the police state flourishes from Beijing to Xinjiang. 

Yet the most dangerous ramifications may come in foreign policy. 

Washington and its allies will face a ruler who can go fast and break things — and who may be prone to the catastrophic gambles that isolated strongmen so often make. 

The signs of Xi's dominance were omnipresent at the Party Congress."

October 24 – CNBC (Abigail Ng): 

"Hong Kong stocks and mainland China markets fell sharply Monday while other major Asia-Pacific markets rose. 

Hong Kong's Hang Seng index spiraled down 6.36% to 15,180.69, its lowest levels since April 2009, with the Hang Seng Tech index down more than 9%."

For the week, Hong Kong's Hang Seng index sank 8.3% – pushing y-t-d losses to 36.5%. 

The Shanghai Composite dropped 4%, with the growth-oriented ChiNext down 6.0%. 

The Hang Seng China Financials Index's 6.6% slump pushed 2022 losses to 29%, closing the week at the low since 2009.

Chinese developer stocks were slammed 7%, as the historic bond collapse further accelerated. 

Notably, Vanke CDS surged 230 this week to a record 941 bps. 

Until recently, China's number two developer was viewed as financially rock solid. 

Vanke CDS traded at about 200 bps in April. 

This week, Vanke bond yields surged almost six percentage points to 16.8%, after beginning the year at 3.0%. 

Yet Vanke appears a pristine Credit compared to number one, Country Garden, with yields (3 1/8 of' 25) closing Friday at 100%.

Country Garden bonds this week joined a packed club of bonds trading at less than 10 cents on the dollar. 

It's nothing short of astonishing to watch an industry with Trillions of liabilities collapse right before our eyes. 

Markets have made their judgment: it's going to be a wipeout.

Understandably, China systemic fears are escalating, as reflected in multi-year high CDS prices. 

Bank of China CDS spiked this week to a high of 159 bps, before closing Friday up four to 138 bps. 

Industrial and Commercial Bank CDS Tuesday spiked to 160 bps (ended the week up 8 to 144bps). 

China Construction Bank spiked to 159 bps (up one to 145bps). 

China Development Bank CDS rose to 151 bps (up 3 to 132 bps). 

China sovereign CDS traded up to 138 bps, the high since February 2016, before ending the week down one to 119 bps.

October 24 – Financial Times (Edward White and Mercedes Ruehl): 

"Wealthy Chinese are pulling the trigger on exit plans from their homeland as pessimism builds over the future of the world's second-largest economy under Xi Jinping and the ruling Chinese Communist party… 

Following the quinquennial party congress, the 69-year-old now has an ironclad grip on power and the potential to rule for the rest of his life. 

David Lesperance, a Europe-based lawyer who has worked with wealthy families in Hong Kong and China, says Xi extending his rule beyond two terms is a tipping point for the country's business elite… 

'The family motto has always been: 'Keep a fast junk in the harbour with gold bars and a second set of papers'. 

The modern equivalent would be a private jet, a couple of passports and foreign bank accounts,' Lesperance says. 

'That is the world we are in… it is tough stuff.'"

Between (panicked) wealthy Chinese, (distraught) international investors and (anxious) global speculators, there is clear potential for historic capital flight. 

China's "broad fiscal deficit" was at a record $980 billion through the first nine months of the year. 

System Credit continues to expand at a double-digit pace, as Chinese banks show little inclination to back away from aggressive lending (as directed by Beijing). 

And China's exports appear poised to slow. 

There are key factors pointing to acute currency vulnerability – trade surpluses and $3 TN of international reserves notwithstanding.

October 24 – Financial Times (Gideon Rachman): 

"It is an image that may define a generation. 

The sight of Hu Jintao, the former president of China, being ushered forcibly from the front row of the Communist party congress in Beijing was a piece of political theatre — sending a message of utter ruthlessness and total control by Xi Jinping. 

Xi loyalists now dominate all the top positions in the party. 

Who can doubt that the Chinese leader intends to rule for life and that he will bulldoze whoever stands in his way — whether at home or abroad? 

Such scenes from Beijing will reinforce the idea stated in the Biden administration's new National Security Strategy that: 'The PRC [People's Republic of China] presents America's most consequential geopolitical challenge.' 

At a time when Russia is waging war in Europe, it is striking that the US nonetheless identifies China as the bigger threat."

October 26 – Wall Street Journal (Chun Han Wong and Keith Zhai): 

"Chinese leader Xi Jinping is overhauling his foreign policy team with promotions for some of his most loyal and combative envoys, a move likely to embolden his diplomats' aggressive ethos in confronting the West. 

Qin Gang, Mr. Xi's handpicked envoy to the U.S. since July 2021, is a leading contender to become China's foreign minister in the spring... 

Known for his often brusque rhetoric in asserting Beijing's interests, the 56-year-old was appointed to the Communist Party's Central Committee as one of its 205 full members on Saturday—making him the first incumbent ambassador to be promoted directly to full membership of the elite body since the end of the Mao era."

Xi is filling his foreign policy team with loyalists and hawks. 

And it took a mere couple days to be alarmed by developments. 

The world can assume Xi has a plan for Taiwan, and the execution of that plan has begun.

October 25 – Bloomberg: 

"China said it had taken a historical step toward achieving unification with Taiwan, days after the ruling Communist Party concluded a congress that handed President Xi Jinping another five years in power. 

'We're closer than ever in history -- and we're more confident and capable than ever -- to realizing national rejuvenation,' Taiwan Affairs Office spokesman Ma Xiaoguang told a regular news briefing... 

'Similarly, we're also closer than ever in history -- as well as more confident and capable -- to realizing the complete reunification of the motherland.'"

October 28 – Wall Street Journal (Josh Chin, Ann M. Simmons and Wenxin Fan): 

"China's top diplomat signaled that Chinese leader Xi Jinping, fresh from extending his power for a norm-breaking third term, intends to double-down on his tight relationship with Russia's Vladimir Putin—driving an even deeper wedge between the two authoritarian rulers and the West. 

In a Thursday phone call with Russian counterpart Sergei Lavrov, Chinese Foreign Minister Wang Yi said Beijing wants to deepen its relationship with Moscow 'at all levels,' according to a readout published by China's Ministry of Foreign Affairs... 

China firmly supports the efforts of Mr. Putin 'to unite and lead the Russian people in overcoming difficulties' and 'further establish Russia's status as a major power on the international stage,' Mr. Wang said."

Xi doubling-down on his "no limits" partner Putin – a loathsome pariah for much of the world. 

This is not a partnership forged for world peace. 

Coupled with the above Taiwan comments, it was a week that should have the world fearing conflict.

A lot was disregarded this week, with markets – at least in the West – relieved by on edge central bankers and impending pivots. 

It was reminiscent of previous halcyon "bad news is good news" days. 

And there was bad news aplenty. 

Google's earnings miss and the slowing global ad market. 

Microsoft and weakening cloud growth. 

Texas Instruments and the big semiconductor companies warning of rapidly deteriorating business conditions. 

Intel and big cost cutting. 

Amazon and anemic cloud services and consumer spending.

While equities were being fueled by a decent short squeeze and unwind of hedges, there was important confirmation of the bursting Bubble thesis. 

And let there be no doubt that the cloud, media and ad spending, semiconductors and technology, and online retail were for years at the epicenter of Bubble excess – at the heart of a historic proliferation of uneconomic negative cash-flow enterprises. 

They've started to cut back. 

"Axe to cloud and datacenter spending." 

"Weaker-than-estimated advertising revenue as customers in the insurance, mortgages and cryptocurrencies industries tightened their ad budgets."

Moreover, there was more evidence that many housing markets have hit the wall. 

While I don't expect the economy to immediately fall of a cliff, this week had a "Bubble economy" inflection point element to it. 

Cost cutting.

To be sure, years of free "money" promoted epic resource misallocation and mal-investment. 

Economic adjustment is unavoidable. 

This week offered a pretty good example, to the tune of a $2.7 billion write-off.

October 26 – Bloomberg (Keith Naughton and Monica Raymunt): 

"Argo AI, the autonomous vehicle technology company backed by Ford Motor Co. and Volkswagen AG, is shutting down as the giant automakers shift their strategies for self-driving cars. 

Ford decided it needed to invest in driver-assistance technology that was more achievable in the near term rather than Argo's goal for driving with little human interaction… 

Ford's decision led VW to walk away, too… 

Ford and VW continue to cooperate on electric and commercial vehicles in the US and Europe. 

'Profitable, fully autonomous vehicles at scale are a long way off and we won't necessarily have to create that technology ourselves,' Ford Chief Executive Officer Jim Farley said…"