STCMA 8th December 2019

It has been two weeks since I blogged here. I have not lived off suitcases before but that has happened since late October or at least since mid-November. While I have been reading reasonably widely, I have not been able to translate them into posts. I did finish reading ‘The road less travelled’ by Scott M. Peck. A very good book. A good recommendation by my friend Balaji Ethirajan, Head of Human Resources at TVS Supply Chain Solutions. I have been wanting to post some key extracts from the book. But, have not found sit-down time to do so.

Anyway, here goes some key readings:

This long story in Nikkei Asia Review about Softbank’s investments in India and their mixed performance is a good reminder of how chasing growth at all costs always comes a cropper and yet investors keep repeating the same mistakes.

Raghuram Rajan’s long article in ‘India Today’ on the prescriptions for the Indian economy is about as objective and as balanced as he could be, considering his recent presentations and op.-eds., on this matter.

The story about how the keyword, ‘Mike’ in Bloomberg Terminals took terminal users to the campaign page of Michael Bloomberg is delightful.

A tongue-in-cheek story about riots boosting GDP in France is short and useful too because the riots caused France to increase public spending and the country’s Purchasing Managers’ index is doing better than that of the rest of the Eurozone.

On November 22, China’s National Bureau of Statistics quietly revised the GDP for 2018 upward by 2.1%. That it makes it easier for the country to achieve its goal of doubling GDP in a decade from 2010 to 2010 is incidental, I suppose.

Blackstone’s Private Wealth Management Division calls negative yields on sovereign debt the mother of all bubbles. Quite.

Amundi Asset Management’s Survey of pension managers on the impact of QE on their pension assets is featured in FT here. For those who want the full story, it is available in Amundi website. A few keystrokes would help you find it.

On California Forest Fires and risks of flooding in the US, check this link. The article also says that the Netherlands has addressed flooding risks well. The FT story on Sydney bushfires is worth a read. Delhi feels like a anti-haze haven! Actually, when I landed in Delhi on 3rd December evening, I was very pleasantly surprised to see how clear Delhi was from the sky. I had not experienced such a sight in several years.

If you want to see photos of the damage wrought by Australian bushfires, click this link. Apparently, Australia is experiencing one of its worst droughts in decades.

The White House has opposed a USD1 bn bank loan to China. Should not be surprised.

Martin Sandbu’s long read on how the Euro is taking on the US dollar is more a story of hope than promise or substantive reality. American Treasury officials would not spend sleepless night after reading this story.

I must learn this practice of how not to have to read books in full.

‘The Gold Standard Site’ on Gold

The following is the comment I had made on John Authers’ column that included a comment on the recent decline in the price of gold.

This is not investment advice. Period.

I read your comments on Gold with a great deal of interest. As an investment advisor, I have been recommending Gold but as an insurance. How much of insurance to hold will depend on one’s risk aversion. But, the question is what does it insure?  It turns out that it is not insuring against the risk of global systemic instability or inflation, unless these risks are also reflected in U.S. dollar weakness. In other words, gold in the end responds negatively to dollar and everything else becomes secondary.

In the Eighties, when dollar soared, gold crashed. Then, gold recovered briefly from USD300 to USD500 as the US dollar crashed. Then, from late Eighties to mid-Nineties, both of them were range-bound. From the mid-Nineties, the dollar strengthened.  From 2002 onwards, until about September 2011, gold rallied, except for the second half of 2008, when the two ‘assets’ that performed well was US dollar and U.S. Treasuries. After that, the US dollar stopped falling.  Almost until end-2015 or early 2016. Then, as the dollar declined again for two years, gold attempted a recovery. Now, since February or March of this year, the US dollar has arrested its two-year decline and in recent weeks, its strength has gathered momentum. Hence, the decline in gold too has accelerated and it broke below USD1300 per ounce.

Of course, we should note here that it is only in the new millennium that the world had glimpsed unconvetional monetary policies. The Federal Reserve sent the Federal Funds rate to 1.0% and the Bank of Japan attempted QE for the first time.

Until the current monetary regime – exemplified by the near-polar status of the US dollar – proves itself unable to cope with the frailties it has thrown up – gold will underperform. Naturally, such a break is so cataclysmic that sovereign governments will be determined to prevent it. Further, America will not be keen to lose the US dollar’s pre-eminence status.

Those who believe that the world is sufficiently and durably repaired will probably see no insurance value in gold. Those who believe that the policy experiments since 2008 have not even remotely addressed the underlying issues, that the world, if anything, has become more fragile since then and that a final donouement still awaits, should hang on to their gold. It is quite likely that such a denouement will also result in or be used as an opportunity to end the hegemony of the US dollar in global trade, capital markets and much else.

This could be very big and important

The Commerce Minister of India said that the government is actually not setting great store by a weak currency for driving exports. Wow! That is a big policy shift and a mindset shift.

I welcome it, in principle and cautiously.

I hope the move is borne out of conscious confidence and not complacent confidence.

Conscious confidence would address the underlying economic fundamentals that would justify, support and vindicate a strong currency.

Further, global capital flows tend to punish overvalued currencies too much. That is why Dani Rodrik advocates mildly undervalued currencies. Of course, it is not costless. Accumulating foreign exchange reserves is not costless. But, he reckons that it is less costly than being subject to the vicissitudes of global capital flows.

If one had stopped looking up to the exchange rate to bail exports out of inefficiency, then all the more reason to keep inflation under check and that means supply-side reforms and productivity improvement.

Fragmented production – in farms and factories – militate against efficient production. If anything, India’s land is getting more fragmented. That is what a report by the Ministry of Agriculture said. See this:

1.33 Increasing fragmentation of land holdings is a continuing cause for concern. Around 85 percent of the operational holdings in the country are small and marginal, i.e., that is holdings of less than 2 hectares each. Between 2000-01 and 2010-11, the number of marginal holdings increased from 75.41 million to 92.83 million, a rise of 23 per cent and number of small holdings increased from 22.70 million to 24.78 million (9 per cent rise).

By contrast, the medium holdings dropped by 3 per cent and large holdings by almost 11 per cent.

Semi-medium holdings increased by 0.7 per cent, while the number of medium holdings dropped by 3 per cent and the number of large holdings declined by almost 11 per cent.

In terms of the proportion of area under different sized holdings, small and marginal holdings in 2010-11 accounted for 44.6 per cent of the area, while semi-medium and medium holdings accounted for 44.8 per cent of the area and the remaining 10.6 per cent by the large holdings. This is indicative of the significant fragmentation of operational holdings in India.

Medium holdings are getting converted frequently into small and marginal holdings, and no signs of reversal can be seen in the foreseeable future.

It is estimated that the average size of land holding, which at present is 1.15 hectare, is likely to reduce further by 2020-21. [Link – pages 14-15]

The same is true of industries. In general, unregistered micro enterprises dominate the overall factory landscape. Registered enterprises are very small. Of that, medium to large enterprises are a tiny fraction.

Further, the government’s policy priorities in recent months is about distribution than about growing the pie.

Rupee strength induced by an ultra-careful central bank that is perhaps out to prove a point on its independence (in other words, keeping real rate high) and foreign hot money inflows should not be confused with fundamental strength of the economy.

So, I am not sure if the symphony on the strong currency is in sync. really.

Therefore, an in-principle and a cautious welcome.

Rebalancing the colour of the sky – China links

The 16 percent decline in hot-rolled coil prices over the past month, compared with a 7 percent decline in rebar, suggests that a reversal of that value proposition is underway. Instead of a robust private sector outspending the state, it looks like government cash is protecting the steel industry from a brutal slowdown in demand.

The stimulus from Beijing, however, is evidence that the country’s almost-forgotten ambition to rebalance away from investment and toward consumption is still a pipe dream. [Link]

Caixin notes that there were fewer days of blue skies in Beijing in the first quarter. that fits in with the story above and the story below. That means that smokestacks China is doing well and that rebalancing away from rebalancing.

FT reports:

Water-guzzling coal-conversion projects are springing to life in arid western China, setting the stage for the large-scale deployment of what was previously a niche industry. A three-year downturn in coal prices has revived projects that convert coal to motor fuel, petrochemical feedstock or gas, after many were shelved in 2008 because of concerns about water supply and pollution.

Projects that work in China’s state-dominated economy may not be practical elsewhere. Coal conversion has become profitable in China because of an unusual combination of low coal prices relative to state-set gas or petrol prices. Coal-to-liquids projects normally make economic sense only when oil prices are high or supply is limited. The technology was first developed in Nazi Germany, and commercialised in apartheid-era South Africa. [Link]

Natixis report on China’s first quarter trade data and GDP growth forecast for the first quarter also confirms that ‘old industries’ did well in the first quarter. No wonder, Beijing had few ‘blue sky’ days. That is a good barometer of China rebalancing or its absence.

I may have blogged on this earlier. But, it is worth repeating. The article ‘Alienation 101’ is about the life of Chinese students in the University of Iowa. American Universities, in search of incomes, had aggressively wooed overseas students, particularly Chinese. It has not gone down well. Indeed, try searching with the key words, ‘Iowa, China Students’ and you get some very interesting stories. This long article in the 1843 magazine of The Economist has a fascinating and yet chilling account of how China controls its students coming to study in the Universities in America and how it prepares to be the extended propaganda arms of the Communist Party and the Chinese government:

The Chinese students aren’t really disengaged, however. They are just immersed in a world that is largely invisible to the rest of the university. At its centre is the Chinese Students and Scholars Association (CSSA), funded and monitored by the consulate in Chicago. Its structure even mimics the Communist hierarchy, with a “propaganda department” and a tight circle of leaders tacitly approved by the consulate. It puts on four big events each year aimed almost exclusively at Chinese students, including a Lunar New Year gala marking the biggest holiday in China. Last November, Mingjian attended a CSSA “speed dating” show in which male students in tuxes declared their love for female students in flouncy dresses, with nearly 300 students egging them on. It was conducted entirely in Mandarin.

One of CSSA’s main purposes is to make students aware that Beijing is watching over them. A Communist Party directive last year exhorted members to “assemble the broad numbers of students abroad as a positive patriotic energy”. At Iowa, the effort starts even before the students leave China: at the university’s pre-orientation session in Shanghai last summer, student-information packets included a dvd produced by the Chinese consulate in Chicago called “Rules for Studying Abroad”. And in January, the CSSA posted on social media a Lunar New Year’s greeting from the Chinese students’ official minder, Chicago consul-general Hong Lei. “He is the idol of students in the United States!” the message went. “He is the pride of the Chinese people!”

The CSSA also stands ready to protest against any campus speaker deemed harmful to China’s interests. In February, the CSSA at the University of California, San Diego, blasted the university’s choice of commencement speaker, the Dalai Lama, whom Beijing considers a traitorous monk, saying in a letter that it was “awaiting the advice of the Consulate General.” Over the past few years, the Chinese government’s direct involvement in CSSAs has prompted two other universities, Columbia and Cambridge, to ban them temporarily.

While helping newcomers in from the airport, CSSA representatives welcome them with advice about settling in – and a reminder that their behaviour reflects on the entire Chinese nation. The students do not really need reminding, for their education at home has inculcated in them the virtues of, and importance of loyalty to, the Communist Party. Their own encounters with American students – whose views on China can be condescending, even hostile – tend to intensify their reflexive patriotism, even if, like Sophie, they choose to keep their opinions to themselves.

Outspoken patriotic fury tends to be reserved for fellow Chinese. Last October, after Professor Tang gave a talk about Beijing’s sensitivity to public opinion, he received an angry email from a Chinese student: “I’m so ashamed of you. You just bought into American propaganda against China. Where is your moral limit as a Chinese citizen?” Tang, who is now an American citizen, shakes his head. “This generation has been indoctrinated since day one.” [Link]

While I was searching for the above article, I ran into a five-part Reuters story on the tactics and methods that foreign students, particularly Chinese, employ to gain admission into American Universities. I just saw and read the third part. Links to other parts are available in the article. The ‘competition’ that hard working and sincere students are up against is frightening. The obsession to succeed at all costs and against all norms is not normal. It is a pathological obsession – a mental condition.

Benn Steil has some good charts on the Renminbi strength or the lack thereof. He says that RMB internationalisation has stopped. He is right. Chris Balding thinks that the analysis is flawed. I am not sure. Renminbi has stopped internationalising because the Chinese government is simultaneously exerting controls on exchange rate outflows and has also placed restrictions on foreigners’ repatriation! Benn Steil acknowledges that.

Brad Setser’s ‘Follow the Money’ blog is worth following. He is tracking China macro data and external data with clinical efficiency as he used to do before. He is a great resource. He has shown why it might be difficult to label China a currency manipulator now. He shows the periods in which it would have been appropriate to do so. That was mostly between 2005 and 2012. Both Bush and Obama were asleep at the wheel, then.

This sarcasm of his in the end, is well deserved (by China). Well, they had earned it!:

I also have great confidence in the ability of China’s authorities to engineer official outflows that would substitute (he means, ‘compensate’) for reserve growth should China start buying foreign exchange in the market. I consequently doubt that China will ever trigger the 2% of GDP in reserve growth threshold. But that is a topic for another time.

In another post, he has expressed scepticism on China’s current account balance having come down drastically in the last one year. Interestingly, current account balance is one of the parameters tracked under the IMF Exchange Rate surveillance and US Treasury’s Enhanced Enforcement Monitoring.

Lingling Wei’s long-form article in the Wall Street Journal is an important read. It shows the impossible set of foreign exchange goals that China is pursuing. Some predict – as I think – that China would let go off exchange rate stability in return for financial stability. We do not know when the tipping point arrives. China has been skilfully plugging the leaks in the dyke with band-aids, for several years now. It will be silly to venture and put a timeline on it.

China is tightening interest rates because the Federal Reserve is doing it. But, President Trump may have just gotten them out of jail on that one. See my MINT column on Tuesday (18.4) on that one.

Barrick Gold, the world’s largest producer of the precious metal, has agreed to sell a 50 per cent stake in one of its biggest mines to a state-backed Chinese company. [Link].

China tightens grip on football in Italy. A Chinese consortium has bought Berlusconi controlled football club AC Milan. Chris Balding calls it the purchase of a ‘money losing asset’ and that China is taking its economic model global!

Finally, two Martin Wolf pieces on China. One is about the impossibility of China escaping the debt trap and the second is about Chinese financial system storing up trouble for the rest of the world. Both are not new and nothing much that is not known has been said in these articles. China is ‘too big to fail’ in the eyes of the United States. North Korea is a physical security threat and China is a economic security threat.

The U.S. has no clear way – not that many have better answers – of handling both. It is buying time and appeasing and threatening alternately. The United States too has lost its ability to take them on and face the consequences. Its economy too is too weak and indebted. I guess this implosion or combined mutual assured destruction of China and American economies will happen when we least expect it to.

Market Commentary – Nov. 2016

What began as a nerve-wracking month for stock market bulls ended up as one for the bears. The U.S. election went against consensus expectation. Mr. Trump became President-elect. Again, contrary to expectations, stocks began to rally, anticipating corporate tax cuts, repatriation of corporate cash from overseas, stock buybacks, boost to Earnings Per Share (EPS), higher interest rates and a stronger dollar.  Gold was the biggest loser in the bargain. It gave up nearly 9% in the month. An agreement among OPEC countries to cut crude oil production boosted crude oil price. WTI crude was up 6% in the month. Therefore, commodities in general gained 2.8%.

Total returns from S&P 500 for the month was 4.4%. Emerging markets paid a price for the return of optimism about the United States. MSCI-EM dropped 4.3%. Among emerging markets, India fared the worst as, on the same day of U.S. elections, India decided to withdraw high denomination notes from circulation with immediate effect. MSCI India lost 7.8%. Political uncertainty returned to Brazil and it dropped nearly 7%. China lost 1.8% and Russia stood out with a gain of little under 4%.

Like EM stocks, EM bonds ended up on the losing side. JP Morgan Emerging Market Bond index lost nearly 4%. Developed country bonds were also big losers. US Treasuries (above 1 year remaining maturity) were down 3.5% and Eurozone government bonds were down 5.2%. All figures are on total return basis and in US dollars.

It will be tough to sustain the global and U.S. reflation trade too long into the New Year, if interest rates climb steadily.

[Please note that this is not an investment newsletter or advice of any sort. Usual caveats apply]

Worrisome developments

These are written more from the perspective of a financial market observer/participant.

I think that the world is becoming infinitely more complex and challenging to deal with. Almost a month after the Trump election victory, the other side has not reconciled. Recount has commenced in Michigan. Three more States could also head for recount. We do not know what is in store. This story has some update on the recount.

In the meantime, the U.S. House of Representatives has passed two resolutions: One is to control the so-called fake news outlets including Zerohedge and Naked Capitalism. The second resolution is on sanctions in Syria. The resolution on Syria seeks to impose a non-fly zone! It can lead to grave consequences, even if unintended. A lameduck House has passed these two resolutions.

‘Washington Post ‘ has pitchforked itself into the campaign to ban the so-called ‘fake news’ sites. It is both a commercial move and a move to stifle alternate voices. It is unbelievable that it is happening in America, when all the mainstream media channels lined up on one side in the Presidential elections. Yves Smith of ‘Naked Capitalism’ had sent a legal notice to ‘Washington Post’. See here, here and here.

A Republican elector had written an op.-ed. in NYT as to why he won’t be voting for Trump. Jan. 20th is  long way off. It appears that a lot can happen there. The United States is not headed in the right direction.

In Europe, we had a very bizarre reaction to the resounding defeat of the referendum in Italy: Euro and European stocks rallied. The only rational explanation I can think of for this is that policymakers have acted to prevent the market from reacting normally to the news. It is not possible that the referendum was actually bullish for Euro assets and Eurozone stocks.

Gold sold off in the weeks after Trump election because the U.S. dollar rallied. Now, gold has been sold because the U.S. dollar is weakening! What is happening is mind-blowing and deeply worrisome.

This post at ‘Zerohedge’ with numerous charts captures the bizarre market reaction very well.

This reaction is a classic:

…[Apparently] the pattern of fading a potential crisis and then scrambling to cover and get long when everyone takes a breath and realizes that this time is not the apocalypse either still holds more than ever. I can’t justify any of this. The lesson investors and traders are getting is that everything is a buying opportunity and you need to not miss the boat. Brexit? Bullish. Trump winning the election? Bullish. Italy saying no to the referendum and the Prime Minister handing in his resignation? Bullish. Heck, all we need is a coup d’etat in India and the entire Belgian banking system to go kablooey and the S&P 500 will be at 3,000 by Christmas Eve. [Link]

The only possible explanation for the utterly bizarre reaction is massive manipulation. But, the question is what to do about it.

It is all coming unhinged. The apparent signs of extreme madness – manifesting in many areas – are precursors to the deluge that inevitably and invariably follows.

Somethings do not add up

Doug Noland writes in his weekly credit bubble bulletin as follows:

Let’s return to election late-night. I doubt traders and the more sophisticated market operators will easily forget what almost transpired. It’s worth noting that while S&P500 futures and the Mexican peso were collapsing, the Japanese yen was in melt-up. In just over two hours, the dollar/yen moved from 105.47 to 101.22 – an almost 4% move. Meanwhile, EM and higher-yielding currencies were under intense selling pressure – the Brazilian real, South African rand, Turkish lira, Colombian peso, Australian dollar and New Zealand dollar (to name a few). At the same time, gold surged from $1,270 to $1,338. Crude sank 4%. Global markets were on the brink of a serious speculative de-leveraging episode. [Link]

Gold has sunk to USD1229 in the spot market by close of Friday. Japanese yen is back at 106.685. Stocks made new highs and held on to them on Friday. But, at the same time, EM stocks, currencies and bonds are hurting. Risk aversion is partial. U.S. stocks and dollar are exempt. So, there is a portfolio reallocation from EM assets, US bonds and gold to US stocks. I am not convinced it makes sense.