*** denotes well-worth reading in full at source (even if excerpted extensively here)
Economic and Market Fare:
There has been a burst of optimism about the state of the world economy since the beginning of the year. At the end of last year, the consensus of many economic forecasts was that the major economies were heading into a slump in 2023. Most of the international agencies were forecasting a slowdown in economic growth at best and at worst a contraction in national outputs of the major economies. I too posted a forecast for 2023 as “the impending slump”. But now the mood has changed. ....
Bank of Canada Governor Tiff Macklem, speaking for the first time since the report on January's job blowout came out last week, said on Thursday that the economy remains overheated and continued to leave the door open to higher interest rates. ....
Is inflation "running hot" because the January stats on the CPI and PPI were stronger than expected? No. Ups and downs in the monthly data are to be expected, so this is not necessarily something to worry about, especially since the macro picture hasn't changed for the worse at all.
Keep focused on the all-important monetary and macro variables: M2 and interest rates. The M2 measure of money supply is declining, and higher interest rates are increasing the demand for money; this is a one-two punch (an increased demand for a smaller supply of money) which is rapidly snuffing out inflation. Higher rates are having a big impact on the housing market, and the bond market continues to price in low inflation and a positive economic outlook. The dollar remains strong, gold is weaker on the margin, and commodity prices are soft. The result of all of this is that inflation pressures are declining on the margin. ....
............. Chart #9 compares the year over year growth rate of M2 (blue line) with the year over year growth in the consumer price index (red line), the latter being shifted one year to the left in order to show that it takes a year or so for changes in M2 to show up in changes in inflation. The decline in M2 this past year strongly suggests that CPI inflation will continue to fall over the course of this year. Steve Hanke and John Greenwood recently wrote about this in the WSJ, and they echo many of the things I have been saying in this blog. We have been on the same M2 page for a long time. (But I'm not quite as concerned about recession as they are.) ........
Global liquidity conditions remain the tightest they have been for several decades, continuing to pose a formidable headwind for risk assets.
Liquidity is probably the most important short- and medium-term driver of risk assets. The fundamental value of an asset becomes moot as in extremis, with no liquidity, there can be no transactions. This means catching turns in liquidity is of paramount importance.
After falling for over a year, a turn higher in liquidity may already have arrived according to some - but I’ll show why it is too early to sound the all clear.
First we have to be clear what we mean by liquidity. It can be measured in many ways, but from a trading and investment standpoint all that should matter are those indicators that can give us a lead on asset prices.
NYFed: Quarterly Report on Household Debt and Credit. pdf
“real GDP growth comes to a halt in 2023 in response to the sharp rise in interest rates during 2022.”
Horizon Kinetics: 4th Quarter Commentary.
Prefatory Remarks
There is more clarity gained from thinking about investing than talking about investments, and in discussing context before talking corporate earnings. Part of today’s economic context is that investors now face questions they haven’t had to consider for 40 years, such as how to protect purchasing power in a chronic inflationary environment. Part of the investment context is the dawning realization that the indexation and asset allocation models that came to dominate the past 20 years can no longer be relied upon as having predictive value.
One reason those models are now in disarray is because they depended on a presumption that the prior 20 or 40 years of daily price data represented normality, whereas it actually described an anomalous period that won’t be reproduced ‘in the next cycle.’ .......
.......... The magnitude of today’s debt levels must greatly reduce the central bank monetary policy options. This is the central difference between the prior inflationary period and the current one. If the inflation cannot be controlled by interest rate increases, perhaps it cannot be controlled.
- One policy solution is to control inflation via money supply, meaning actually reducing the money supply. The last time that was tried was during the Great Depression. It did not work out as well as the theoreticians might have hoped. That idea has since become anathema to the point of taboo.
- The usual choice in such circumstances is to do the opposite of the Great Depression approach, namely to tolerate or even encourage inflation, using time as tool. Over time monetary inflation diminishes the relative value of the debt liabilities (more dollar bills in the economy per unit of bonds). That is the mechanism at the government’s disposal. The central bank might already be trapped into a long-term strategy of inflationary money printing.
.......
.................... While the market is defiant that the Federal Reserve will engineer a “soft landing,” The Federal Reserve has never entered into a rate hiking campaign with a ”positive outcome.” Instead, every previous adventure to control economic outcomes by the Federal Reserve has resulted in a recession, bear market, or some “event” that required a reversal of monetary policy. Or, rather, a “hard landing.”
Given the steepness of the current campaign, it is unlikely that the economy will remain unscathed as savings rates drop markedly. More importantly, the rate increase directly impacts households dependent on credit card debt to make ends meet.
While investors may not think a hard landing is coming, the risk to consumption due to indebtedness and surging rates suggest differently. .......
Bubble Fare:
Coppola: Proof of reserves is proof of nothing
Proof of reserves is all the rage on crypto platforms. The idea is that if the platform can prove to its customers' satisfaction that their deposits are fully matched by equivalent assets on the platform, their deposits are safe. And if the mechanism they use to prove this uses crypto technology, that's even better. Crypto tech solutions have surely got to be much more reliable than traditional financial accounts and audits - after all, FTX passed a U.S. GAAP audit.
No, they aren't. Proof of reserves as done by exchanges like Binance does not prove that customer deposits are safe. It is smoke and mirrors to fool prospective punters into relinquishing their money, just like claims that exchanges and platforms are "audited" or have "insurance". There are no audits in the crypto world, there is no insurance, and as I shall explain, proof of reserves proves absolutely nothing. ....
Quotes of the Week:
BAML: We continue to like down in credit high yield floaters in sectors such as leveraged loans, which yield 9%, paired with high quality long duration bonds such as 30y UST, which yield 3.8%…: yield declines in long duration treasuries (or investment grade corporates or municipal bonds) should at least partially offset spread widening. Among quality bonds, 30y UST would be expected to deliver the highest total returns in the more adverse economic scenarios … The 20% allocation to 30y UST has been seen to reduce drawdowns in the context of loan weakness in late 2018 and early 2020. We view any near-term backup in interest rates as a good opportunity to add high quality duration exposure.
Kayfabe: Along with ECRI’s framework, the other three pillars of Kayfabe Capital are now screaming extreme cycle-timeframe caution. I am being explicit in ringing the alarm bells, after a year+ of laying out potential risks and pathways to this point.
Snider: Tester/Bullard talking about 50 bps. Economically illiterate, they're just making it up as they go, so until crashing deflation shows up in convincing fashion policymakers will keep plugging more rate hikes for fear it mysteriously reignites if only just to spite them.
Snider2: What does the Fed really need to see from the CPI/PPI, let alone the actual economy. Prices have clearly slowed even when factoring Jan’s bounce. Do they need to outright crash before the FOMC is satisfied? Yes, because the FOMC doesn't know where inflation comes from.
...Lots of comparisons to 1994 immaculate landing… spot the difference… (senior loan officer net tightening vs recession) https://t.co/xqm0Udj0cu pic.twitter.com/dWzQnJlJxY
— Michael Green (@profplum99) February 18, 2023
Clearly, these surveyed CEOs have no idea how strong and resilient the economy is, causing inflation to be sticky, which the Fed must bring to heal. pic.twitter.com/HFNXTvfzmI
— Randy Woodward (@TheBondFreak) February 16, 2023
Podcast of the Week:
if you prefer, transcript available here
(not just) for the ESG crowd:
The logic of privatization in climate finance
In the eyes of the IMF, a G20 panel, and, lately, the US Treasury Secretary, the time has come for multilateral development banks to adapt their development mandates to the logic of derisking. This tactic—lauded as a solution for “mobilizing” the trillions necessary to achieve the green transition—demands that public entities shift private investors’ risks onto their own balance sheets, incentivizing investment to meet the world’s infrastructure needs.
Although development banks have floated serious plans to reorient themselves toward catalyzing private investment since the “billions to trillions” hype in 2016, such efforts never took off. The World Bank’s recently leaked “Evolution Roadmap” is its latest attempt to kickstart derisking at a global scale.
But the roadmap’s emphasis on mobilizing private finance through derisking obscures one proposal that on the surface appears to run the other direction. Securitization allows public entities and development banks to offload their assets to the private sector, thereby transferring risk away from themselves and freeing up their balance sheets for more immediate lending. To be sure, securitization still fits snugly within economist Daniela Gabor’s Wall Street Consensus, in which governments meet development goals by turning public services into investment opportunities for private finance. But while derisking calls for the public sector to shoulder additional risks, securitization calls for shrugging them off.
How would securitizing the World Bank’s portfolio work, and how does this tactic relate to the larger derisking turn in development finance? Is securitization a preferred alternative to derisking, or does it align with its broader logic? .......
Barclays on Wednesday said it would no longer provide financing to oil sands companies or oil sands projects and tightened conditions for thermal coal lending in an updated policy, which fell short of announcing overall pledges or targets in funding oil and gas. .......
With great fanfare, the world agreed at the #COP26 climate change summit in 2021 to "phase-out [...] inefficient fossil fuel subsidies"
— Javier Blas (@JavierBlas) February 16, 2023
A year later, spending in fossil fuel consumption subsidies climbed to a record high of more than $1 trillion, according to new @IEA estimates pic.twitter.com/IEJVPhOYU8
Other Fare:
Canadian universities are reporting a rise in academic misconduct cases in recent years, a trend that was exacerbated by the pandemic
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