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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“I know what gold does to men’s souls,” says a grizzled prospector in the movie, “The Treasure of the Sierra Madre” (John Huston, director)
OVERVIEW AND CONCLUSION
Foreigners hold a massive quantity and substantial share of United States Treasury securities. Such foreign ownership of and trading activity in UST therefore is an important variable for US government interest rate levels and trends, which in turn intertwine with yield elevations and movements in other American debt playgrounds. And of course to some extent, and in various (and sometimes changing) fashions and degrees, given the importance of America within the global economy, UST yields interrelate with and influence yields overseas, as well as assorted currency, stock, and commodity marketplace levels and trends.
Federal Reserve Board (and other key central bank) policy, inflation trends (in America and other major nations), equity adventures (for the S+P 500 and other important advanced nation and emerging marketplace benchmarks), and the strength of the US dollar will influence decisions by current and potential overseas owners of UST. So will numerous other economic as well as political factors such as the America’s November 8, 2016 election and its aftermath.
Many marketplace visionaries focus primarily on the grand total of foreign holdings of United States Treasury securities, ascents and descents in that sum, and that amount’s relative share of US debt outstanding. This indeed can provide observers with helpful information.
Yet in regard to UST ownership by overseas entities, the foreign official and private sectors do not necessarily behave the same way. Sometimes this distinction appears significant enough over time to monitor closely.
Thus concentrating on the grand total of foreign holdings and shifts in that statistic risk overlooking an important pattern which appeared in recent months within those holdings. What is that pattern? The net foreign official holdings have fallen not only as a percentage of overall foreign holdings, but also in absolute levels. This substantial official exodus is important.
Suppose not only that such noteworthy net UST liquidation by the foreign official sector persists, but also that the overseas private sector decides to reduce its net buying significantly, or to become a net seller. All else equal, that will help to push UST yields higher.
Selecting variables regarding as well as presenting explanations (“causes”) for marketplace and other cultural phenomena reflect the subjective viewpoint and rhetoric of the given storyteller. And marketplace history does not necessarily entirely or even partly repeat itself. Net foreign official selling (or net buying) of US Treasury securities of course is not always or the only factor relevant to American stock marketplace trends. Marketplace participants nevertheless should note that sometimes over roughly the past two decades (since 1997), substantial net foreign official selling of UST can be associated with a decline in the S+P 500.
US federal budget deficits indeed have plummeted from their pinnacles reached due to the global economic disaster. But they have not disappeared. And they probably will increase in subsequent years. So looking forward (and all else equal), if substantial net foreign selling of UST by both the foreign official and private groups exists, that will make it increasingly difficult for the American government to finance looming budget deficits. Will this eventually encourage UST yield rises? Perhaps the US public will help to fill the deficit financing gap, but it may take higher rates (better real returns) than currently exist to inspire them.
A DELUGE OF DEBT
“‘A Ti-tan iv Fi-nance,’ said Mr. Dooley, ‘is a man that’s got more money thin he can carry without bein’ disordherly. They’se no intoxicant in th’ wurruld, Hinnissy, like money.’” (Finley Peter Dunne’s “Mr. Dooley” commenting “On Wall Street”; spelling as in the original)
There are various measures of US federal (national) indebtedness. Also, reports regarding breakdowns in debt ownership at times vary in their presentation. But regardless of the analytical perspective embraced, foreign ownership of UST is substantial in absolute and percentage of debt terms.
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Running for Cover- Foreign Official Holdings of US Treasury Securities (10-13-16)
In recent weeks, much marketplace and media attention has underlined growing United States household net worth as well as decreasing household indebtedness as a percentage of GDP. Pundits proclaim that federal budget deficits have substantially declined from the towering heights of only a couple of years ago. Hasn’t the American and worldwide economy generally improved since the dreadful times of late 2008/early 2009? Americans point to the stratospheric rise of the S+P 500 since its March 2009 major low around 667. And look at those great US corporate earnings of the past couple of years! All such talk surely encourages optimism regarding the American financial situation, as has the related sustained highly accommodative monetary policy rhetoric and action of the Federal Reserve Board and its central banking comrades around the globe. Yet although Fed policies such as gargantuan money printing, severe interest rate repression, and fancy wordplay regarding forward guidance have boosted morale and purchased time for action on America’s major debt problem, they have not bought a solution to that issue.
To better perceive and assess America’s debt challenge, sentinels should adopt a wider perspective, focusing on the overall United States debt situation over a long historical period. For over five decades, from the early 1950s up through the glorious Goldilocks Era that ended in 2007, and for a couple of years thereafter, total US indebtedness as a percentage of nominal GDP climbed steadily and substantially.
Remarkably little progress has been made in the comprehensive (all-inclusive) US debt situation since 2009’s very lofty percentage. Increasing federal indebtedness has substantially though not entirely outweighed improvements in the consumer and state and local government sectors. Since the national government is a representative (democratic; “We, the People”) one, the general US debt situation has not mended significantly. In addition, although the federal budget deficits will remain relatively small (at least compared to the mammoth gaps of a few years ago), they gradually expand after the next few years. The ongoing substantial US debt mountain consequently remains a long run burden on, and probably also a near term problem for, US and international economic growth.
This review of total American credit marketplace debt portrays the development of a national culture of debt. The long run trend probably indicates a growing bias toward consumption and spending rather than saving. The increasing borrowing and massive debt accumulation arguably in part also probably reflect an increasingly widespread sense of entitlement to American Dream goals of the “good life” and a “better life”.
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America the Debtor (3-17-14)
Given the proximity of the Federal Funds rate to the short end of the government yield curve, the Fed generally has more ability to manipulate (strongly influence) yields for Treasury Bills and short term notes than instruments such as the UST 10 year note and 30 year bond. The two year UST note generally receives much less media attention than longer duration government debt. Even most interest rate insiders these days concentrate much more on the long end of the curve than on the two year. However, financial heralds also should focus on short term American interest rate yield levels and trends, because in the current marketplace landscape, signs of bottoming and rising rates in this important segment of the UST yield curve confirm the higher yield trend in the 10 year UST and other long-dated securities.
After the UST two year reached a major low near the ground at .14pc on 9/20/11, it reaffirmed this depth with subsequent lows at .19pc on 7/23/12 and 5/3/13. The UST two year note thereby established a major bottom alongside that in the 10 year note. Admittedly the two year yield has not spiraled upward as dramatically as the 10 year’s, for the Fed conductor has not relaxed its tight grip on the Fed Funds rate baton. This relative quiet in and the low absolute level in the two year tend to create faith in and complacency regarding the Fed’s powers and the effectiveness of its methods. Very low short term government rates and promises to continue them arguably encouraged some complacency, not merely happy enthusiasm, in equity halls such as the S+P 500 as well. The S+P 500 was all jazzed up through much of calendar 2013, attaining its recent high around 1710 on 8/2/13. Yet this intertwined yield low and rising rate pattern at both ends of the government yield curve warns of weakness in the Fed’s near term ability or willingness (or both) to keep repressing short term yields to very low levels.
The bear move of higher US interest rates probably will continue, even if that venture is jagged and perhaps occasionally interrupted by forceful Fed action (or wordplay) or flight to quality fears. Marketplace history is not marketplace destiny. But in the current context, historical review suggests that a sustained substantial climb in US government interest rates such as the one currently underway probably will encourage a decline in the S+P 500. After all, sustained yield declines in US government rates helped to rally American stocks, so might sustained yield rallies help to reverse some of that equity bull charge?
Increasing government interest rates do not always indicate economic strength or point to (confirm) rallies in stock marketplaces. Recall the rather recent big-time crisis on the so-called “European periphery” that captured the limelight, as well as the experiences of many emerging marketplaces.
Anyway, increasing United States government interest rates are not always (necessarily) a sign of American economic recovery and strength, or of a bull move in stock benchmarks such as the S+P 500. The extent to and reasons why which UST rate levels and trends coincide (converge) with or lead (lag) those of those in the S+P 500 are matters of opinion. In any event, review the following table, which covers the past 25 years or so. Putting several substantial moves in the UST two year note in a spotlight alongside those in the S+P 500 indicate that sustained significant ascents in UST rates often eventually link to notable peaks in the US stock marketplace. The tops in yields are “roughly around the same time” as bull highs in US equities. UST 10 year moves are consistent with this perspective as well.
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Statistics from the Treasury Department on foreign buying and selling of US securities presently extend only through May 2013. Yet reduced net foreign acquisition (official and private sources combined) of UST notes and bonds confirms the trend of higher UST rates over the past year (use the 10 year note as a benchmark). Moreover, as overseas UST holders actually have been net UST sellers on average over the first five months of calendar 2013, this warns of higher UST yields on the horizon. Although UST yield trends depend on numerous factors, including federal fiscal trends, the Federal Reserve hints that it will reduce its gigantic UST buying (money printing) in the relatively near future. And doesn’t the Fed’s two percent long term inflation target and its higher Federal Funds rate forecast for the long run portend higher rates?
The United States has enjoyed a fairly robust economic recovery since around the time of the major low in the S+P 500 around 667 on 3/6/09. Yet despite this, foreign direct investment in America not only has not matched the highs of 2000 and 2008, it shows signs of ebbing, particularly in first quarter 2013 (the most recent data point).
This recent dive in net foreign direct investment is roughly consistent with the slide in net foreign buying of UST notes and bonds and American corporate debt. Looking forward, this combination suggests that higher US interest rates and a weaker US dollar are on the horizon. Does net foreign direct investment data offer warning flags for equity voyages? Recall that highs and subsequent declines in foreign direct investment roughly paralleled pinnacles and falls in the US stock marketplace in first quarter 2000 and October 2007/May 2008. Suppose American interest rates keep climbing, or that the US dollar drops significantly (or both) and that US corporate earnings do not grow much if at all.
Anyway, a survey of net foreign buying that includes not only long term debt but also stocks shows a significant slide over the first five months of calendar 2013 relative to the past several years. Five months obviously is a fairly brief period. Yet this slowing net acquisition, when interpreted alongside the decline in foreign net direct investment, hints that America “in general” is becoming relatively less desirable to foreigners from the economic standpoint than it used to be. Admittedly this conclusion is contrary to much rhetoric flowing through marketplaces and media.
These rather recent US securities and direct investment patterns, because they float alongside the long run bear trend (relatively weak) for the broad real trade-weighted dollar as well as the continued probability of US current account deficits, signal that the trade-weighted dollar generally will remain feeble and probably will decline.
So in the current and future marketplace context, arguably the significant FDI slump since calendar 2011 (assuming no big jump in FDI from the calendar 2012/1Q13 levels) may be a leading indicator of a decline in the S+P 500. In any case, the slowdown in FDI since 2011- and particularly 1Q13’s depressed amount (assuming such a mediocre quantity persists)- hints that in a rising US interest rate environment that it will become increasingly difficult for US stocks to make new highs unless further big (net) new waves of US cash venture into those equities.
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