US Monetary Backdrop
Last week we discussed the fact that China's money supply growth has slowed precipitously and also looked briefly at some long term euro area data. As we have mentioned on previous occasions, the annualized growth rate of US money TMS-2 has declined noticeably, but remains brisk in a longer term historical context. Between late 2008 and late 2012, the growth rate briefly dipped below 10% only once, as it was kept high not only via 'QE1' and 'QE2', but also the phenomenon of funds fleeing from euro-dollar markets into depository institutions in the US (in order to ensure financing of the dollar liabilities of European banks, these funds were partly replaced by the now permanent currency swap arrangements between central banks). The situation regarding euro-dollar deposits changed when the sovereign debt crisis abated; moreover, a blanket deposit guarantee for large scale deposits granted by the FDIC in the wake of the 2008 crisis expired, further reducing the advantage of holding such deposits in the US banking system.
Lastly, while 'QE3' has been both open-ended and has involved the largest monthly amounts of debt monetization yet in absolute terms (with the sole exception of the massive alphabet soup programs initially launched in late 2008), there are basis effects to consider: when 'QE2' was launched in November of 2010, the total extant money supply was still a lot lower than it was when 'QE3' began in late 2012. In addition, bank lending growth has steadily declined since early 2012, so there was little impulse from inflationary lending on the part of commercial banks (very recently, growth in bank lending has picked up a bit).
Note that 'Operation Twist' did not directly influence the money supply, as it merely amounted to an altering of the maturity structure of the Fed's securities portfolio.
The most recent data show that the true broad US money supply has by now expanded to almost $10 trillion, with the year-on-year growth rate ticking up again slightly in January, but still remaining below the y/y growth rate recorded a quarter ago and a year ago. In short, the downtrend in the rate of growth in evidence since the end of 'QE2' has not really been interrupted. That may change if commercial banks increase their lending at a faster pace than the Fed reduces its securities purchases. While bank lending growth has indeed picked up since the 'taper' announcement, it is too early to come to conclusions about it, as it is a fairly recent phenomenon that may yet be reversed.
Money Supply and Lending Growth Decline Sharply
Both the growth rate of China's narrow M1 money supply and the broader M2 measure have recently declined to levels not seen in many years. Here is a recent chart showing both:
Annualized growth in China's narrow money measure M1 (currency and sight deposits) has collapsed to just 1.5%, a level not seen in at least the past 15 years (and probably a good while longer). M2, which includes savings deposits, corporate time deposits, deposits in trusts and a few other smaller items grew at 13.2% year-on-year, but even that is one of the lowest growth rates of the past decade – click to enlarge.
We're not 100% sure if China's M1 is a good proxy for money TMS, as there is a paucity of readily available monetary data from the PBoC (its web site is basically useless, at least it was when we last looked) and we don't know whether savings deposits are available on demand in China or not, but it is a fairly good bet that it actually is at the very least a good proxy for TMS-1.
Economic and Political Quagmires
We want to briefly take another look at the situation in four of the emerging market countries that have recently been the focus of considerable market upheaval. The countries concerned are Turkey, Venezuela, Argentina and South Africa. There are considerable differences between these countries. The only thing that unites them is a worrisome trend in their trade and/or current account balances and the recent massive swoon in their currencies as foreign investors have exited their markets (this in turn has pressured the prices of securities). There is currently an economic and political crisis in three of the four countries, with South Africa the sole exception.
However, even South Africa is feeling the heat from the fact that it has a large current account deficit and the ongoing exodus of foreign investors from emerging markets. However, the country is actually used to experiencing vast fluctuations in foreign investment flows in short time periods and has the potential to relatively quickly turn its balance of payments position around. Of the four countries in question, it seems to us to be the most flexible one in this respect.
A Few Worrisome Signs for the Jobs Market
It is well known by now that the two most recent payroll report misses were due to the bad weather that economists and economic forecasters apparently failed to notice. They presumably never go outside, possess no thermometers and don't watch the weather channel, or any other news programs for that matter – this is the best explanation we have for this particular forecasting failure at the moment.
Forecasting with the help of a ruler pressed to a chart (i.e., by simply extrapolating the most recent trend) apparently isn't working so well when global warming makes the weather extremely cold.
Anyway, employment is usually a lagging economic indicator. This is so because employers can never be sure whether incipient signs of economic weakness are merely a short term blip or the sign of worse things to come. One doesn't simply fire people on every little blip in sales. And yet, there are recently a few signs – subtle as they may still be – that the US labor market is deteriorating. A friend pointed us to this recent post by Lee Adler, who is an avid follower of unadjusted, raw economic data and has long stressed that there is an uncanny inverse correlation between US unemployment claims and the stock market. He writes:
“The headline number for initial jobless claims came in at 339,000, which was close to Wall Street economists’ consensus guess of 335,000. On the surface it looked like a non event, with the stock market seemingly viewing it as such, but the actual data shows a more troubling picture.
The DOL reported that “The advance number of actual initial claims under state programs, unadjusted, totaled 358,914 in the week ending February 8, an increase of 3,727 from the previous week. There were 361,417 initial claims in the comparable week in 2013.”
The current number was down 2,500 or 0.7% year over year. This was a sharp deceleration from the prior week’s annual rate of decline of 8.6%, and it’s near the top of the range of weekly annual percentage changes of the past 15 months. Furthermore, the week to week increase of 3,727 was atypical for this week of February. Last year that week had a drop of 27,000. The average change for this week over the previous 10 years was a drop of 6,600. Instead of dropping this week, as is the norm, claims rose. By any measure this was not a good performance.”
Another Warning Sign for Stocks
Both Tom McClellan and Jim Stack recently pointed out that the Coppock curve – a very long term momentum oscillator – has turned down (here are the links to Jim Stack's and Tom McClellan's articles on the topic). It should be pointed out that the Coppock curve is generally better at catching market bottoms than tops, as the stock market tends to make spike lows and rounded tops. As an indicator catching major lows, the Coppock curve has an excellent track record. However, it has been recognized that it does in fact also warn of major peaks, only this requires two downturns in the curve in succession, over a period of about one to two years. As can be seen on McClellan's chart below, a second peak has just been put in. As he points out, the curve could still reverse course if the DJIA rises sufficiently (namely to currently 16,238 points), which would invalidate the signal. Whipsaws do occasionally happen.
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Small Moves on Monday, But Charts Still Ominous
The moves in the EM currencies the market is currently most focused on have actually been fairly small on Monday – however, when looking at the charts, one cannot help thinking that they are merely consolidating ahead of the next major move. For instance, the Argentine peso and the South African Rand have built triangles in recent days, which more often than not tend to be continuation formations. The Turkish lira has also failed to find any new fans and has formed a symmetrical triangle as well on the daily chart (a somewhat steeper sloped one).
Of course there is no guarantee that these triangles will actually turn out to be continuation formations. It is just something that has a fairly high probability per experience.
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Charts We Have Recently Pondered
We come across a large number of charts every day, and below we show a few stock market related ones that we have found especially interesting. First a chart that was recently published by John Hussman. It shows the total value of US equities and bonds divided by GDP. Although one might object that GDP is a somewhat arbitrary choice for the purpose of this comparison, the chart nevertheless is testament to the economy's increasing 'financialization', which in turn is a direct consequence of decades of massive monetary inflation. Inflation spreads from its point of origin throughout the economy, but there are 'inner circles' that profit from it, as they are the earliest receivers of newly created money. Their profit comes to the detriment of later receivers, who find the purchasing power of their incomes diminished.
In the innermost circles we naturally find the government and the banking cartel, hence the 'financialization' effect. The financial sector becomes ever bigger, and represents an ever larger share of corporate profits. His happens notwithstanding interruptions like the 2008 crisis, as the largest financial firms as a rule are always bailed out when things go seriously wrong. That is what the banking cartel was set up for after all!
Euro Area Credit Markets Remain Calm, But …
Below is an update of the usual suspects, CDS on sovereign debt, euro basis swaps and a few other charts (keep in mind that 4-in-1 charts use different scales, which are identified by colors).
No-one seems to be worried in euro-land at present, in spite of the continued increase in various sovereign debtbergs. There is however a small degree of concern visible in Slovenia, which is going through a political crisis. As Reuters reported last week:
“A dispute over the leadership of Slovenia's ruling party erupted on Wednesday, posing a threat to the euro zone state's four-party coalition government and its efforts to avert an international bailout.
The mayor of Slovenia's capital Ljubljana, Zoran Jankovic, announced he would run for the leadership of the center-left Positive Slovenia (PS), the main ruling party, in a move that prompted dismay among the other coalition parties. Jankovic, who set up the PS in 2011, resigned from its helm in February, enabling his successor, Alenka Bratusek, to form a coalition government with the three other parties and to become prime minister of the tiny Alpine country.
The parties had refused to join a coalition if Jankovic remained PS leader. They cited a state anti-corruption commission report which said in January Jankovic could not explain the origin of a big part of his income in past years. "I decided to be a candidate for the president of Positive Slovenia. This was a difficult decision. I will explain my reasons… at the congress," Jankovic told a news conference, referring to a party gathering planned for October 19. Bratusek has said she will seek re-election as PS leader.
"This is not good for Slovenia. Jankovic has a better chance of winning and if that happens the government will collapse," said Meta Roglic, a political analyst at daily Dnevnik.”
Blow-Off or Ending Diagonal?
When we recently wrote about the stock market's technical condition following the FOMC decision, we took another look at the wedge that has formed in many indexes and noted:
“Sometimes markets accelerate into a blow-off move from such formations – it has e.g. happened in 1999-2000. However, this is not always the case.”
We then spoke about the so-called 'ending diagonal', a formation the market could also be in the process of building. Obviously, we cannot see the future, but both the fundamental backdrop and the market's technical state give us important clues of an 'if-then' variety.
So what do the technical conditions tell us? Essentially they are saying: a big, temporally compressed move very likely lies directly ahead. From a trading perspective one would ideally wait for the market to make the direction of the move obvious via a break of either important support or resistance levels, and then take positions accordingly.
Unprecedented Risk as the World's Debtberg Grows
We should perhaps call this the 'nothing bad can possibly happen' update, because that is the message from the markets. Not only is money continuing to flow in big gobs into risk assets, market participants also no longer see any risk associated with them. What we have here is the 'Ben helicopter effect' in all its glory.
And yet, one has to ask oneself, what does it really mean when the mere threat of a tiny reduction in central bank liquidity provision is all it takes to upset markets around the world and the removal of that threat is seen as a sign that there are no risks at all?
As the recent quarterly review of banking and financial market developments published by the BIS shows, the world is drowning in more debt than ever. Since the crisis of 2008, the global answer to the problems caused by too much unproductive debt was to simply vastly increase the amount of unproductive debt in the system.
At the same time, central banks have massively goosed the money supply everywhere. This serves mainly to bail out the insolvent fractionally reserved banks at everybody else's cost. Not only do savers and all those dependent on fixed income no longer get a fair return, but the quality of the money issued by the central banks declines as its quantity increases. We may not yet have become fully aware of the effects, but they are beginning to show up, even if official measures of 'inflation' serve to hide most of them. Of course the distortion in relative prices in the economy is all too visible as the prices of titles to capital and certain commodities soar, but very few observers care about that.
As the charts below show, investors have been lured into taking massive risks while at the same time eschewing the instruments that could afford them a measure of protection (of course, system-wide risk cannot be eliminated that way: it can only be shifted around).
Given that central banks are adamant that they will keep interest rates at zero for as far as the eye can see, there are two possibilities as to how this could play out.
Either we are now on the cusp of the mother of all bubbles, a bubble in risk assets that dwarfs anything that has happened before (in fact, by some measures we have already attained that exalted state of affairs – consider e.g. that junk bond yields have reached all time lows in the course of this year), or the bubble that is already underway will sooner rather than later run into troubles that are independent from central bank interest rate policy.
What possibilities are there? There are in fact quite a few. Interest rates and/or inflation expectations might 'get away' from the central bankers. Economic performance may unexpectedly weaken in spite of 'ZIRP'. Moreover, a number of 'risk sand piles' is in perpetual danger of having a grain of sand too many piled atop them. Think of Japan's massive fiscal debt or the still growing debtberg in Europe. Since the current echo bubble is in several ways different from the traditional credit expansion driven booms in which the commercial banks are the main drivers of credit growth, it stands to reason that its demise may not follow the traditional pattern either (this pattern is usually that the central bank raises rates until something breaks). We will have to wait and see what transpires, but our guess is that some 'left of field' financial accident is likely to become the trigger.
On to the charts.
SPX Retakes 50 dma
Yesterday's move in the SPX back above the 50 day moving average bore a very close resemblance to the last occurrence in early July. As the chart below shows, both the price movements prior to the break, MACD and the relative position of the 20 day moving average looked almost exactly similar:
Different Levels of Bullishness Displayed in Positioning/Sentiment Data
What is different are a number of ancillary data. For instance, there is far more enthusiasm about this move in the option pits than there was last time around, but there is less bullishness detectable in sentiment surveys. This may be partly due to the relative strength in technology shares, which never really corrected much. The options of many big cap tech stocks are quite heavily traded.