Friday, July 24, 2015

Today's Links

1---The greatest sustained EM reserve slump in 20 years, FT

Bigger than Greece, bigger than China (or at least one of the most significant parts of the China story) is the massive shift occurring in global currency reserves. Long story short: they’re being depleted, rapidly. Especially the reserves of emerging market sovereigns.

On Thursday we suggested the evolving dynamic could be linked to a contraction of petrodollar/sweatdollars in the global monetary system, thanks to growing US energy independence and US labour/tech-based re-shoring.
We failed to mention, however, how the situation is exacerbated by China’s growing inability to throw renminbi at its export competitiveness problem due to not insubstantial dollar leverage exposure on the country’s books. Which is to say: China can only help its exporters — and by extension other emerging markets — by shedding a whole bunch of dollar reserves at the same time.
(Remember China’s rapacious appetite for resources to this day has to be funded by matching dollar receivables, as commodity markets don’t tend to settle in RMB — not yet anyway).
To wit, see the following from BNP Paribas’ EM analysts on Friday.
As they note (our emphasis):
In a highly unusual development, emerging-market FX reserves have been falling steadily since the middle of last year. The IMF’s COFER figures, the gold standard for FX reserve data, show that emerging-market reserves have dropped for three successive quarters, from a peak of USD 8.06trn at end Q2 2014 to USD 7.5trn by end Q1 2015. COFER data are not yet available for Q2, but we have been able to build an estimate from already released second-quarter national data. Our bottom-up estimate of around USD 6.9trn at the end of Q1 captures 92% of the IMF’s emerging-market aggregate. By our estimates, emerging-market reserves continued to fall in Q2, albeit marginally, by USD 21bn or so.
Q2’s modest fall brings the drop-off in emerging-market reserves to USD 575bn since the middle of last year. Looking at a longer run of COFER data from 1995 shows how unusual recent developments are. Even in the jaws of the global financial crisis, emerging-market reserves only dropped for two quarters before snapping back vigorously. Emerging-market reserves have not fallen on such a sustained basis in at least 20 years

Here’s BNP Paribas in any case on the connection between the strong dollar and the reserve depletion situation (our emphasis):
The strong US dollar, which really began to appreciate in earnest last July, is inevitably the key driver, working simultaneously to depress commodity prices and reduce inflows, so eating away at the emerging-market complex’s balance-of-payments position.
USD appreciation is, in effect, a double whammy for many emerging markets, sapping income growth and reducing inflows. Slower or falling FX reserves also crimp base-money growth and, other things being equal, tighten financial conditions. USD strength, therefore, produces a global monetary tightening. ...

So what about the China effect?
Well, this is where it gets really interesting. According to BNP Paribas, China accounts for almost 50 per cent of emerging-market reserves, meaning its influence is critical. Yet, as per the overall EM picture, the gross change in China’s FX reserves shows four successive quarterly declines since 2014, with a cumulative drop of just under $300bn vs a total emerging-market fall of $575bn. In other words, a huge amount of the decline is China’s alone.
But, if you adjust the valuation using the IMF COFER weights, China’s FX reserve slide accelerates even more

Q2’s record fall in (adjusted) FX reserves suggests that capital flight from China – which was already running at a record USD 800bn annualised in Q1, according to the country’s official balance-of-payments data – may have gathered further pace in Q2, even before the A-share equity market’s recent rout ....., capital flight from China probably picked up again in Q2, potentially to a USD 1trn annualised rate. Record capital flight and its corollary, falling FX reserves, sap base monetary growth and, in turn, nominal GDP growth...keeping pressure on the People’s Bank of China to deliver further cuts to the reserve-requirement ratio and to accelerate its domestic asset purchases and loans to help reflate the economy and maintain top-line growth rates.

Which brings us back to the point we originally made in 2012: if the RMB was allowed to float freely it would at this stage fall in value versus the dollar, not rise — and the only thing that could stop/slow that fall, and consequently protect the purchasing power of Chinese billionaires on the international stage, would be the deployment of China’s own USD reserves. How prepared China would be to do that was always the question.

2---Hoisington Review and Outlook – Second Quarter 2015

3---the US destabilization of Iraq is part and parcel of the fight against China.

 Just to clarify that last point, the article repeated it: “Chang….noted that the United States would actually be in a stronger economic position with Iraqi oil off the market.” ....This is the context in which the rise of ISIS has to be read. A stable Iraq, able to develop its oil infrastructure in peace, has turned out to be not only unnecessary to the US project of global domination, but actually antithetical to it. The Pivot to Asia, then – that is, the attempt to block and stifle China’s rise - is not separate from US policy towards Iraq: a destabilized, dysfunctional Iraq is an integral part of it.

Two years ago, the US ‘think tank’ Jamestown Foundation published a fascinating analysis of China’s oil policy in Iraq. This report described, in detail, how China had become the main winner of oil contracts under the new Iraqi government, and had helped restore the battered industry back to impressive production levels. “China was able to secure the first major oil accord between the Iraqi government and a foreign entity since 2003,” the report notes, when “in 2008, China’s state-owned China National Petroleum Corporation (CNPC) concluded a $3.5 billion deal with Iraq’s North Oil Company (NOC) to develop the al-Ahdab oil field—a relatively small oil field by Iraqi standards—in the province of al-Wasit.”

While unlikely to prove a particularly lucrative investment in itself, its significance was as “an early foothold in the Iraqi oil sector that would lay the groundwork for future dealings on larger and more lucrative projects.” Indeed, this turned out to be the case, with a deal signed the following year giving a joint venture between BP and CNPC access to Iraq’s biggest oil field Rumalia. Further deals followed, including a 20-year agreement over the Missan oilfield in 2010, with the result that “at least one third of all future production of Iraqi oil will be derived from oil fields owned outright or co-owned by Chinese concerns.”

The gradual re-emergence of a functioning Iraqi economy, then, was benefiting not the US, but rather the US’s number one strategic rival, China. Iraq’s peaceful development, in this context, was proving to be a direct threat to continued US domination.

Nor was this growing Iraqi-China co-operation solely economic. Jamestown’s report concluded that “the convergence of mutual interests between China and Iraq over the buying and selling of oil will serve to underpin a long-term strategic partnership.” A long-term strategic partnership between Iraq and China? Is this what the US spent $3 trillion to bring about?....

4---Russia’s rating agency to start by year end – Central Bank

The BRICS countries are also discussing setting up a rating agency. Russia and China planned to launch a new Universal Credit Rating Group (UCRG) in 2015, but market participants said talks have stumbled due to political reasons.

5---Nuclear Buildup in EU: Who Benefits From Aggravating US-Russian Tensions

It should be noted that Pifer is not the only US expert who is beating the war drums about Russia's phantom menace. The Pentagon report entitled 2015 National Military Strategy obviously targets Russia and China, experts say.
Meanwhile the US Joint Chief of Staff nominee General Joseph Dunford has put it clear: "If you want to talk about a nation that could pose an existential threat to the United States, I'd have to point to Russia...

According to Heritage Foundation estimates, the US should increase its number of deployed TNWs [tactical nuclear weapons] in Europe from a few hundred today to a minimum of 800 weapons so that it is able to meet requirements of the protect and defend nuclear targeting strategy with respect to the Russian TNWs. These weapons should be modernized for rapid delivery. Heritage's approach also recognizes that the US targeting list will continually evolve in accordance with the threat to US interests and allies," the report stated.
The article shows that the US "party of war" had considered Russia a potential rival long before the Ukrainian crisis spiraled out of control.
Some experts suggest that the US "needs" some sort of an "external threat" to maintain its political, economic and military leadership.

6--All singing from the same songbook

General Mark A. Milley has become the latest high-ranking US military official to embrace the anti-Russian hysteria, apparently rampant among US hawks.
Milley, expected to become the next chief of staff of the US Army, listed several challenges the US faces, naming Russia the top and biggest existential threat for Washington. He also pointed to Moscow's overwhelming nuclear capabilities.
"As a soldier, as a military officer, I'd have to say it is Russia," the general told the Senate Armed Services Committee. "Russia is the only country on earth that retains a nuclear capability to destroy the United States. It's an existential threat."

As long as we’re talking about a war close to Russia’s borders - conversely defense-minded Russia military is no threat to the US or western Europe

8--US Stops Pretending Missile Shield Was Aimed at Iran
Not that anyone with half a brain cell was buying it - US will press ahead with the missile shield despite Iran deal proving it was always aimed at Russia

9---The pseudo-left covers up for Syriza’s betrayal

Syriza is based on a political model common to countless pseudo-left and petty-bourgeois organizations: the building of a party around a charismatic media personality, inevitably a right-wing scoundrel. “Sexy Alexi” plays within Syriza the role played by Pablo Iglesias in Spain’s Podemos party, Olivier Besancenot of France’s New Anti-capitalist Party, and Beppe Grillo of the Five-Star Movement in Italy. These are organizations whose policies can be manipulated and turned around by finance capital whenever it is required....

The coming to power of Syriza was not a historic victory, but a historic fraud, and SY is simply covering for that fraud. Even as it insists that there should be no criticism of Syriza’s record, it presents Tsipras’s referendum—which he rapidly followed by imposing mass austerity on the Greek people—as yet another victory.
Recovery from the impact of the betrayal in Greece is possible only through a scathing exposure of the class and political role of the pseudo-left as petty-bourgeois, anti-Marxist agencies of finance capital

10--US defense secretary visits Iraq as Pentagon prepares new offensive in Anbar

President Obama vowed in May that Washington would take steps to “get the Sunni tribes more activated.”
During congressional testimony last month, Carter threatened that the US has prepared a strategy to dissolve the unified Iraqi state if Washington deems it necessary, bypassing Baghdad and instead ruling portions of the country on the basis of separate alliances with Sunni and Kurdish elements.

These same “brave” and “capable” partners have been implicated in atrocities against civilians. Photos published by ABC News earlier this year showed the US-trained Special Forces troops posing with corpses and severed heads...

Additional hundreds of Sunni tribal forces mobilized by the US are expected to support the assault. The Sunni forces will be tasked with holding Ramadi and the surrounding territory after ISIS is driven out, US military officials said.
These Sunni tribal elements will participate in the operations as an autonomous force, not subject to the central Iraqi command structure, according to US officials.
“They are essentially operating together, but without a strict and formalized command and control relationship being established,” Warren said.
US imperialism is seeking to promote the Sunni militias as a means of deepening its penetration of Iraqi society and gaining leverage over the Iranian-backed central government. Just as during the 2003-2011 US occupation, American imperialism is striving to maintain its stranglehold over Iraq through the stoking up of sectarian divisions and the mobilization of tribal-based militias.
Despite the humiliating blows the group has delivered to US-trained government forces in Iraq, ISIS continues to serve as a useful cat’s paw for US imperialism’s machinations on both sides of the Iraq-Syria border. It has become the central pretext for a much broader escalation of the US “war on terror” across large areas of Africa and Asia, and within the US itself.

11---US and NATO engage in unprecedented military exercises in Europe

The United States and its European and NATO allies are currently engaged in or preparing to undertake the largest military exercises ever to take place in the host countries involved. These operations include the deployment of American and NATO soldiers and heavy military equipment across the breadth of the European continent, with a focus on Russia’s western border....

In addition to ongoing exercises in Eastern Europe, Trident Juncture 2015, the largest NATO military exercise since 2002, is scheduled to begin in late September and will involve 36,000 troops form more than 30 countries. The exercises will take place in Spain, Italy and Portugal, with all 28 NATO countries plus five allies participating....

The US and its European allies backed the coup as part of its long-term strategy of removing Ukraine from Russia’s historic sphere of economic and military influence, with the ultimate aim of encircling and transforming Russia into a semi-colony....

12--Abenomics needs to be ‘reloaded’, warns IMF

13--Greece: Out of the Mouth of “Foreign Affairs” Comes the Truth
14--It's time I reminded you how expensive stocks are — a 50% plunge would not be a surprise

What my analysis is telling me is:
1) stocks are extremely expensive and will eventually revert toward historical means, probably via a sharp correction of 30% to 50%
2) long-term stock returns from today's level will be about 2% per year — nothing to write home about...
1966-2014Business Insider, St. Louis Fed
Now lets zoom in. In many of these time periods, you'll see that sustained Fed tightening has often been followed by a decline in stock prices. Again, not immediately, and not always, but often. You'll also see that most major declines in stock prices over this period have been preceded by Fed tightening.

15---The problem is liquidity

From the looks of JPMorgan’s share price, one would think the financial world is bathing in a sea of tranquility rather than experiencing crashing commodity prices, tremors in the Eurozone, Canada acknowledging two quarters of contraction, ruptures in China’s stock markets, and energy and mining junk bonds losing 20 to 30 percent in a month....

BlackRock is an extremely dangerous company,’ Mr. Icahn proclaimed at CNBC’s Delivering Alpha conference in New York…Mr. Icahn steered the bulk of the conversation away from activism—the billing of the event—to his growing fears about a bubble in high-yield bonds and what he called dangers of exchange-traded funds [ETFs] run by firms like Mr. Fink’s.

“Mr. Icahn blamed the increasing prices for such relatively risky debt partly on Mr. Fink’s sprawling, $4 trillion asset manager and its exchange-traded funds, which Mr. Icahn said were causing a liquidity problem because they have snapped up so many assets…”
The fear is that there will be no buyers if investors in junk bond ETFs panic and stampede for the exits. Icahn is not the only person worrying about this scenario. In June, Richard Berner, Director of the Office of Financial Research, appeared at the Brookings Institution to discuss recent bouts of bond market illiquidity. Berner quoted SEC Commissioner Michael Piwowar on the issue of ETFs, who has said:

“The growth of bond mutual funds and exchange-traded funds in recent years means that these funds now hold a much higher fraction of the available stock of relatively less liquid assets than they did before the financial crisis…their growth heightens the potential for a forced sale in the underlying markets if some event were to trigger large volumes of redemptions.”
We may be closer to that trigger than many investors realize. Bloomberg Business is reporting this morning that “SandRidge Energy Inc. bonds have lost almost 30 percent since June, while notes of miner Cliffs Natural Resources Inc. are down more than 27 percent.” The article also notes that bonds of distressed debt issuers “are on pace to lose more than 20 percent for the second straight year, the worst performance since 2008.”

16--What could go wrong?

A dark pool (also called an Alternative Trading System or ATS) is a private, unregulated trading venue that functions like a stock exchange by matching buyers with sellers – but it does so in the dark, without showing its bids and offers on stocks to the public. That has the potential for a great deal of price manipulation.
What could possibly go wrong?

We think it might have far more to do with the really bad market structure in the U.S. As we wrote lost year:
“Goldman Sachs, under current market structure, can underwrite stocks and bonds for its customers; trade stocks in its own private stock exchange it runs behind a dark curtain; put out buy and sell recommendations that move stock prices up or down; co-locate its computer servers next to the computers of the regulated stock exchanges in order to get a speed advantage and an early peek at other traders’ orders; and, to round out the picture, it’s allowed to own and operate an FDIC-insured commercial bank where it can dole out lines of credit.”

Yesterday, domestic oil (West Texas Intermediate or WTI) dipped below $50 a barrel during intraday trading, reaching a level not seen since April. Gold closed at the lowest price in five years while sugar traded at a six year low. Wheat has lost almost 9 percent since last week. The Bloomberg Commodities Index traded at a 13-year low yesterday.

The selloff in commodity prices is sending the following market messages: China is highly likely overestimating its economic growth rate of 7 percent that it reported last week; despite six years of central banks’ efforts to rev up economic engines, the money isn’t reaching consumers – it’s still flowing to the one percent.
The chart below showing the relapse in commodity prices and stock prices in 1937, after the Fed thought it had beaten the worst of the Great Depression, should send an important warning message to today’s Fed.
Producer Price Index for All Commodities During Great Depression vs Dow Jones Industrial Average (Chart Courtesy of St. Louis Fed)
Producer Price Index for All Commodities During Great Depression vs Dow Jones Industrial Average (Chart Courtesy of St. Louis Fed

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