GLOBAL ECONOMICS AND POLITICS
Leo Haviland provides clients with original, provocative, cutting-edge fundamental supply/demand and technical research on major financial marketplaces and trends. He also offers independent consulting and risk management advice.
Haviland’s expertise is macro. He focuses on the intertwining of equity, debt, currency, and commodity arenas, including the political players, regulatory approaches, social factors, and rhetoric that affect them. In a changing and dynamic global economy, Haviland’s mission remains constant – to give timely, value-added marketplace insights and foresights.
Leo Haviland has three decades of experience in the Wall Street trading environment. He has worked for Goldman Sachs, Sempra Energy Trading, and other institutions. In his research and sales career in stock, interest rate, foreign exchange, and commodity battlefields, he has dealt with numerous and diverse financial institutions and individuals. Haviland is a graduate of the University of Chicago (Phi Beta Kappa) and the Cornell Law School.
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In “Alice’s Adventures in Wonderland”, Lewis Carroll declares: “For, you see, so many out-of-the-way things had happened lately, that Alice had begun to think that very few things indeed were really impossible.” (Chapter I, “Down the Rabbit-Hole”)
OVERVIEW AND CONCLUSIONS
History reveals that sustained rises in United State government interest rates generally (eventually) are bearish for the US stock marketplace. The United States Treasury 10 year note yield made a major bottom on 7/6/16 at 1.32 percent, an important interim low on 9/8/17 at 2.01pc, and a critical high in early October 2018 at 3.26pc. Japan’s 10 year government note yield peaked around then, on 10/4/18 at .17 percent. Germany’s 10 year government note rate established an interim high at .58pc on 10/10/18 (having built an earlier top at .81pc on 2/8/18). China’s 10 year central government note’s yield high occurred earlier (4.04pc on 11/22/17), but its lower yield high at 3.71pc on 9/21/18 connected with those in America, Japan, and Germany.
The S+P 500 attained its summit around the same time as the yield highs in the UST 10 year note, constructing a double top on 9/21/18 at 2941 and 10/3/08 at 2940.
Subsequent yield declines in the UST 10 year note and the 10 year government debt of other key global realms such as Germany, Japan, and China accompanied a slump in the S+P 500 and many other benchmark stock indices. The Federal Reserve, European Central Bank, and other central bank engineers initially were fairly complacent. However, around mid-December 2018, the rate for the UST 10 year decisively retreated beneath about 2.80 percent. Also around then, the S+P 500, after tumbling from 2800’s temporary high (12/3/18), cratered beneath 2650 (a ten percent fall from the autumn 2018 high). Note the subsequent change in direction for Fed policy orations and actions.
These fearful events (and other variables) portended weaker real GDP growth (and maybe even a recession) in America and other advanced nations, and an undesirable slowdown in China and other key emerging marketplaces. Stock owners (especially investors) and their investment banking and media allies in the United States and elsewhere screamed, troubled by the prospect of a twenty percent or more decline (satisfying a classic definition of a bear trend) in the S+P 500. Many politicians around the globe screeched, expressing concerns about economic dangers (more quietly, some worried about potential for increased populist pressures).
This unsettling scenario sparked the trusty Federal Reserve to halt its Federal Funds rate-raising policy (part of its normalization scheme), to underline that it would maintain a hefty balance sheet laden with debt securities, and to preach a much-welcomed sermon that for the near term it will be “patient”. The European Central Bank and other devoted central banking comrades promised continued easy money programs.
Some might wonder if the Fed and its friends in central banking (and in some political corridors) nowadays are aiming to produce an updated version of the joyous days (“irrational exuberance”, perhaps) of 2006-07 during the Goldilocks Era.
In any case, the central bank easing rhetoric and policy shift helped to rally equities and boosted confidence in growth prospects. The S+P 500 hit a floor on 12/26/18 at 2347 (20 percent fall from the autumn high equals 2353) and thereafter rose sharply. Many other global stock marketplaces established troughs around then, rallying dramatically in first quarter 2019. The UST 10 year yield touched 2.54 percent on 1/4/19. It thereafter climbed to 2.80pc on 1/18/19 (2.77pc high 3/14/19).
Given the reappearance of lower UST rates and the sunny prospect of continued benevolent Federal Reserve policy, arguably some of the feverish rally in the S+P 500 and other international stocks since around end December 2018/early January 2019 has reflected not only hopes of further (adequate) economic expansion, but also a frantic hunt for suitable returns (“yield”) outside of the interest rate securities field. The time of the broad S&P Goldman Sachs Commodity Index (“GSCI”)’s bottom neighbored that in the S+P 500, 12/26/18 at 366. Note also the price rally in US dollar-denominated emerging marketplace sovereign debt securities.
The broad real trade-weighted US dollar’s rally from its January 2018 bottom at 94.6 (Federal Reserve, H.10; goods only; monthly average, March 1973=100) established a high in December 2018 at 103.2 (recall the major top of 103.4 (December 2016)/103.2 (January 2017). The dollar’s stop in its bull charge and its slight decline thereafter (about 1.4 percent) probably has helped to inspire the stock marketplace rally and related quests for returns in other landscapes. The combination of the drop in US government yields and the cessation of the US dollar’s upward march probably (especially) encouraged the recent price climbs in the stocks and government notes of many emerging marketplaces.
For the S+P 500, the lower tax rates legislated via America’s end-2017 corporate tax “reform” spiked US corporate earnings and encouraged massive share buybacks. Although the tax reform will continue to support earnings to some extent, substantial year-on-year growth for (at least most of) 2019 earnings currently looks unlikely. Suppose marketplace enthusiasm generates a forceful challenge to the S+P 500’s autumn 2018 high occurs. The September/October 2018 elevation probably will not be broken by much, if at all. A one percent breach of 2941 gives 2970, a five percent advance over it equals 3088.
If further notable share buybacks and determined digging around for yields (“good returns”) are playing critical roles in the recent S+P 500 (and other stock) rallies, perhaps the S+P 500’s recent strength does not reflect the darkening vista for the American economy. US and other stock marketplace climbs from current levels do not preclude increasing economic feebleness in America and elsewhere.
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Economic Growth Fears- Stock and Interest Rate Adventures (4-2-19) (1)
“Danger always strikes when everything seems fine.” From the movie “Seven Samurai” (Akira Kurosawa, director)
OVERVIEW AND CONCLUSION
American stock indices inspire an assortment of competing stories regarding them, including reasons for their past, present, and future levels and trends. Narratives and explanations regarding a broad “national” stock marketplace indicator such as the S+P 500 often involve those of equity weathervanes elsewhere. Discussions of interest rates, currencies, commodities, and other financial indicators may interrelate with stock marketplace analysis. These tales frequently indicate the extent to which given marketplace domains converge and diverge (lead or lag) with each other.
Many descriptions and analyses regarding broad benchmarks such as the S+P 500 and Dow Jones Industrial Average appear relatively unique to the United States. However, economic regions and marketplaces around the world increasingly have intertwined during the course of globalization in recent decades.
Therefore the directional travels (bull and bear adventures) of America’s “overall” stock marketplace increasingly have tended to parallel (converge with) stocks of other significant advanced countries and regions. In the increasingly intertwined global economy, trends of emerging marketplace stocks “in general” have interrelated with and often (but not always) resembled those of leading advanced nations.
Various advanced nation and emerging marketplace stock indices achieved very important highs “together” early in first quarter 2018. However, in recent months, probably beginning around the end of first quarter 2018, the generally bullish trend of the S+P 500 and other noteworthy US equity marketplace benchmarks have diverged substantially from the bearish trend of emerging marketplace stocks. Climbing US interest rates and a renewed rally in the broad real trade-weighted dollar, plus increasing trade war rhetoric, encouraged the relative and overall feebleness in emerging marketplace stocks.
In addition, the S+P 500 and other US stock indices have diverged somewhat from those of other key advanced nations, though less substantially than relative to emerging stock marketplace realms. Nevertheless, important European and Japanese stock arenas currently remain under their January 2018 highs (and mid-May 2018 ones). The failure of these overseas stock battlegrounds to achieve new highs alongside American ones, when interpreted alongside the decline in emerging marketplace stocks (and in relation to other economic variables), further hints that American stock benchmarks probably are establishing an important price peak around current levels.
In this context, bearish indicators for American equities include the longer run trend of rising US interest rates (note the yield lows of July 2016 and September 2017), mammoth global debt totals, expanding American federal government budget deficits (aided by tax “reform”), and the rally in the broad real trade-weighted US dollar above a critical height. The Federal Reserve and other key central banks are not displaying signs of further easing; instead, the bias is toward tightening (even if only at a rather glacial pace). Also, United States stock marketplace valuations arguably are high by historical standards. A global trade war (tariff fights), or at least noteworthy skirmishes, is underway.
Populist pressures have not disappeared in America or elsewhere. Economic, political, and other cultural divisions in America are significant. What if the US mid-term elections this autumn return the Democrats to power in the House of Representatives (and perhaps the Senate as well)? Concerns about the quality of US Presidential leadership remain widespread.
The US tax “reform” legislation enacted in December 2017 has been a critical factor in creating the price divergence since around late first quarter 2018 between American stock price benchmarks and those elsewhere. The US corporate tax cut translated into higher reported earnings for American companies and thereby helped to rally American stocks. Other leading countries around the globe did not enact a similar generous gift for their corporations. Moreover, America’s tax reform likely further encouraged share buybacks by US corporations.
The second quarter 2018 blended earnings growth rate for the S+P 500 was 25.0 percent year-on-year (FactSet, “Earnings Insight”; 8/31/18). Thomson Reuters estimates S+P 500 2Q18 earnings soared 24.8pc (“S&P 500 Earnings Scorecard”; 8/28/18). Thomson Reuters data notes that 1Q18’s earnings likewise skyrocketed, up 26.6pc year-on-year (compare 4Q17’s boost of 14.8pc and 3Q17’s 8.5pc rise).
Both FactSet and Thomson Reuters forecast significant year-on-year earnings increases for the S+P 500 over the next two quarters of 2018. FactSet says analysts are projecting earnings will climb 20.0 percent in 3Q18 and 17.4pc in 4Q18. Thomson Reuters puts year-on-year earnings growth at roughly similar levels, with 3Q18 ballooning 22.3pc and 4Q18 up 20.3pc.
However, the rate of earnings increases slows in 2019. FactSet states earnings growth in 1Q19 will be 7.2pc year-on-year, with 2Q19 stretching up 7.5pc versus 2Q18. Thomson Reuters places 1Q19 growth at 8.2pc year-on-year, with that for 2Q19 up 9.3pc.
Perhaps the wonderful US corporate earnings of first half 2018 will be followed by the impressive earnings forecast for the balance of 2018. However, if notable shortfalls in actual earnings relative to such lofty current profit expectations occur, that probably will worry many stock bulls. Going forward, if forecasts for first half 2019 earnings for the S+P 500 are cut relative to current expectations, will that make S+P 500 bulls (“investors” and others) fearful. After all, the currently anticipated (conjectural) calendar 2019 earnings growth already dips significantly from those of calendar 2018’s quarters.
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Stock Marketplace Maneuvers- Convergence and Divergence (9-4-18)
“Our million hearts beat as one,
Brave the enemy’s fire, March on!” “March of the Volunteers”, China’s national anthem
OVERVIEW AND CONCLUSION
Although China’s era of miraculous economic growth has marched into history, the nation nevertheless achieved enviable real GDP increases in recent years. Benchmark predictions by numerous economic wizards regarding China’s economy remain rather sunny, especially in comparison with those for most other countries. In fact, most observers are fairly complacent about China’s current situation and future prospects. Faith in adequate global growth intertwines with belief that China’s expansion will continue to be substantial.
As the world has become more globalized and intertwined, China’s substantial economic expansion not only has boosted China’s international economic (financial, commercial, business) and political presence and power. It also has helped to ensure domestic political stability and protected the central role and authority of the Communist Party. The country’s leadership and other elites obviously desire and battle to protect such impressive accomplishments.
However, China has a significant debt problem, and one that probably will worsen. Most China watchers nevertheless ignore or downplay this, with analysis and concerns banished to obscure articles, back pages, and fine print. China’s strong economy in the past five years probably derived substantially from a substantial expansion of its overall national debt. Will China’s government (and other areas of the economy) need to borrow more and more and go greater in debt in order to sustain “appropriate” GDP growth? Probably.
Yet the Chinese debt explosion, with totals at or moving toward high levels relative to GDP (particularly in the government and corporate sectors), endangers prospects for continued robust Chinese economic growth. Creditor (lending) confidence probably is not unlimited, especially in regard to segments of China’s corporate, banking, and local government arenas.
Moreover, very elevated debt is not just a Chinese phenomenon, but a worldwide one. The International Monetary Fund’s “Fiscal Monitor” (April 2018; Chapter 1) stated: “Global debt [public and nonfinancial private debt] is at historic highs, reaching the record peak of US$164trillion in 2016, equivalent to 225 percent of global GDP [current levels probably are higher]. The world is now 12 percent of GDP deeper in debt than the previous peak in 2009, with China as a driving force.” See also the Institute of International Finance’s perspective on the expanding global debt as a percentage of world GDP trend (July 2018). Public debt has played an important part in the leap in global indebtedness. China obviously is not an island isolated from other nations. So if international economic conditions weaken, perhaps partly encouraged by prior or prospective interest rate increases, it probably will become somewhat harder for many entities, both public and private, to raise cash.
China’s glorious economic growth, and the related boom in its exports, has interconnected with increasing openness in international trade. Enthusiastic challenges to the free trade (globalization; multilateral) order and ideology, especially by the current American leadership (President Trump; “Make America Great Again!”), has raised concerns about trade wars and currency conflicts. The American Administration’s noisy criticism of China’s allegedly colossal (and supposedly unfair) trade surplus (at least in relation to the United States) and its willingness to impose tariffs on Chinese products has encouraged a rapid noteworthy depreciation in the Chinese renminbi relative to the US dollar in recent months.
Currency depreciation, not merely the running of large government deficits or tolerating (encouraging) jumps in corporate and household borrowing (and spending), is another strategy aimed at creating or sustaining adequate economic growth. Perhaps China’s currency depreciation relative to the US is to some extent a competitive plan designed to maintain its economic growth rate by ensuring continued substantial entry of its exports into the American marketplace. And the dollar/renminbi cross rate fascinates most marketplace observers in an environment excited by trade and currency war talk.
America of course is an important commercial counterparty for China. But it does not come close to capturing a majority of China’s overseas economic transactions. A review of China’s currency patterns and levels from a broad real effective exchange rate (“EER”) vantage point therefore offers superior enlightenment regarding the overall Chinese currency situation, and thereby its overall economic one.
The high level in China’s EER likely has tended to reduce exports and thus GDP growth to some extent from what they (all else equal) otherwise would have been. This consequently has tended to encourage China’s debt expansion as a means of achieving “sufficient” (official targets for) economic growth. Even allowing for the recent renminbi depreciation versus the US dollar, China’s EER remains rather lofty from the historical perspective. From China’s policy standpoint, its EER probably should depreciate even more than it has since its 2015 pinnacles in order to achieve desired economic growth and to handle its growing debt troubles.
Not only do China’s debt predicament and the renminbi’s feebleness relative to the US dollar (and the need for the renminbi to slump further on an EER basis) warn of underlying weakness in and the probability of slower growth than generally forecast for the Chinese economy. The sharp fall in calendar 2018 in the Shanghai Composite Index (and other emerging stock marketplaces) and declines in key commodity benchmarks also signal subsiding (slowing) Chinese GDP growth. The gradual rise in US interest rates (ongoing Federal Reserve tightening; underline climbs in the Federal Funds rate and the 10 year US Treasury note), given the links across global marketplaces, also probably is starting to curtail economic growth around the globe. In any case, given China’s major role in the international economy, a slowdown in its output relative to levels anticipated (hoped for) by economic pundits and financial pilgrims likely will injure expansion elsewhere.
China’s leadership probably is more fearful of inadequate economic growth than it publicly confesses. Why else has the country in the past few years further centralized political leadership and emphasized Communist Party control, embarked in well-publicized anti-corruption drives, and engaged in assorted territorial squabbles with its Asian neighbors? Such political programs suggest that real economic growth not only has slowed down (and perhaps to lower levels than official statistics indicate), but also probably eventually will ebb further than many high priests predict. A sharp deterioration in China’s GDP levels and prospects probably entails heightened internal political risks.
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China at a Crossroads- Economic and Political Danger Signs (8-5-18)
“I’m goin’ down the road feelin’ bad
I don’t want to be treated this-a-way.” Bill Monroe, the Grateful Dead, and other musicians have performed versions of the traditional song, “Goin’ Down the Road Feelin’ Bad”
OVERVIEW AND CONCLUSION
American stock indices “in general” inspire an assortment of stories regarding them, including reasons for their past, present, and future levels and trends. Many of these descriptions and analyses regarding broad benchmarks such as the S+P 500 and Dow Jones Industrial Average appear relatively unique to the United States. However, economic regions and financial marketplaces around the world have increasingly intertwined during the course of globalization in recent decades, and especially during the past several years.
Therefore the directional travels (bull and bear adventures) of America’s stock marketplace increasingly have tended to parallel those of other significant advanced countries and regions. In recent years, the trends of emerging marketplace stocks “in general” increasingly have interconnected with those of leading advanced nations. Consequently, narratives and explanations regarding a broad “national” stock marketplace indicator such as the S+P 500 often involve those of equity barometers elsewhere (as well as interest rate, currency, and commodity movements).
History underscores that across the fields of these various stock marketplace signposts, the timing of key price turns and the duration and extent (percentage distance travelled) of very important trend moves are not always exactly the same or extremely close. But they often are.
After establishing important bottoms together in first quarter 2016 (and during the preceding price decline), the key American stock indices and those of other important advanced nations and the “overall” emerging stock marketplace have traded closely together from the directional and marketplace timing perspective. Though the bull moves since first quarter 2016 in these assorted domains did not all cover the same distance, all were very substantial. Their rallies since around the time of the November 2016 United States Presidential election were impressive. Investors and other stock owners, Wall Street, and the financial media cheered the majestic ascent. Heated advice to “buy the dip” became widespread as the S+P 500 climbed and as price declines tended to become less substantial in percentage terms.
However, the glorious bull move in American and other related stock marketplace halted in first quarter 2018. A mournful “correction”, a decline of roughly ten percent, ensued. The disturbing decline in the S+P 500 and other significant global stock marketplace indices probably will continue. However, if the S+P 500 and other equity benchmarks manage to surpass their January 2018 highs, they probably will not do so by much.
For further economic and political analysis, see “There Will Be Blood: Financial Battlefields” (2/9/18), “Busload of Faith: Financial Marketplaces” (1/15/18), “Marketplace Vehicles: Going Mobile” (12/13/17), “History on Stage: Marketplace Scenes” (8/9/17), and other essays.
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Global Stock Marketplaces- Winter of Discontent (3-5-18)