Category Archives: deflation

Jim Chanos: China = Dubai X 1000

Posted on
1

According to Bloomberg, the big bears are circling China.

Marc Faber, publisher of the Gloom, Boom & Doom Report, says China is overdoing it. “It does not make sense for China to build more empty buildings and add to capacities in industries where you already have overcapacity,” Faber told Bloomberg Television on Feb. 11. “I think the Chinese economy will decelerate very substantially in 2010 and could even crash.”…

…The costs of wasteful investments in empty offices and shopping malls and in underutilized infrastructure will weigh on China, Chanos, president of New York-based Kynikos Associates Ltd., said in a speech at the London School of Economics. “We may find that that’s what pops the Chinese bubble sooner rather than later.”…

Risk for Commodities

Last month, banks lent a further 1.39 trillion yuan — almost one-fifth of the target amount for the whole of 2010. Also in January, foreign direct investment climbed 7.8 percent to $8.13 billion. Retail sales during last week’s Lunar New Year holiday rose 17.2 percent from the same period in 2009, according to the Ministry of Commerce.

While China’s resilience has helped support the world economy, raising demand for energy and raw materials, the bursting of a bubble would have the opposite effect. Government efforts to wean the economy off its extraordinary support may roil markets.

In January, the central government ordered banks to curb lending, which put China’s stock market into reverse. In a sign, in part, of how dependent the world has become on China, stocks and currencies slumped in places such as Australia and Brazil that supply commodities to the People’s Republic. On Feb. 12, the eve of the one-week Lunar New Year holiday, China for the second time in a month ordered banks to set aside more deposits as reserves. The Shanghai Composite Index has fallen 8 percent year-to-date, after gaining 80 percent in 2009.

Bidding Up Prices

“If the Chinese economy decelerates or crashes, what you have is a disastrous environment for industrial commodities,” said Faber, who oversees $300 million at Hong Kong-based Marc Faber Ltd.

The stimulus tap that Beijing turned on has flowed to projects such as its 2 trillion yuan high-speed-rail network. The 221 billion yuan Beijing-Shanghai line has surpassed the Three Gorges Dam as the single most expensive engineering project in Chinese history.

Some beneficiaries of the government efforts have plowed their loans into real estate and stocks. Property prices across 70 cities jumped 9.5 percent in January from a year earlier, according to government data.

…Chanos, a short-seller who was early to warn about Enron Corp., is one of a growing number of investors sounding the alarm. “Right now, the Chinese market is overheating,” George Soros said in a Jan. 28 interview.

Wait, I thought Soros was a Keynesian. Isn’t printing and spending the way to perpetual prosperity?

Another example Chanos has cited is the city of Ordos, where party officials have built an entire new downtown on the windswept grasslands of Inner Mongolia, 25 kilometers (15 miles) outside the existing municipality of 1.5 million people.

Ordos is really comedic. Check out this video:

Gold

Posted on
2

Look at the similarity between the March 2008 peak and immediate aftermath and what we’ve seen since the December high in gold:

Prophet.net

Sure, there could be a little more oomph here for a push like that close second peak in ’08, but just because gold hasn’t dropped like a stone doesn’t mean the mania will go on without a hiccup. Each high was accompanied by extremely high and sustained bullishness, which tends to exhaust the upside for at least a few months, since after such an event everyone has already bought all the gold they want for the time being.

Also, if the euro’s run is over, why not gold’s? For all its timelessness, the markets still treat it like another currency, a highly-speculative one at that. Here is a euro chart where I’ve highlighted the same periods as above:

-

I am going to view any near-term upside with an eye towards taking a short position in each of these, though of course I own physical gold for safety’s sake.

Discount window warfare

Posted on
1

I glanced at the markets at 4:30 just in time to see every “risk” market spike down hard together. That kind of instant, coordinated movement only happens on announcements, usually something out of Washington. Turns out the Fed spooked traders with news of a 0.25% hike in the discount rate, the rate at which distressed banks borrow from the central bank.

For release at 4:30 p.m. EDT

The Federal Reserve Board on Thursday announced that in light of continued improvement in financial market conditions it had unanimously approved several modifications to the terms of its discount window lending programs.

Like the closure of a number of extraordinary credit programs earlier this month, these changes are intended as a further normalization of the Federal Reserve’s lending facilities. The modifications are not expected to lead to tighter financial conditions for households and businesses and do not signal any change in the outlook for the economy or for monetary policy, which remains about as it was at the January meeting of the Federal Open Market Committee (FOMC). At that meeting, the Committee left its target range for the federal funds rate at 0 to 1/4 percent and said it anticipates that economic conditions are likely to warrant exceptionally low levels of the federal funds rate for an extended period.

The changes to the discount window facilities include Board approval of requests by the boards of directors of the 12 Federal Reserve Banks to increase the primary credit rate (generally referred to as the discount rate) from 1/2 percent to 3/4 percent. This action is effective on February 19.

In addition, the Board announced that, effective on March 18, the typical maximum maturity for primary credit loans will be shortened to overnight. Primary credit is provided by Reserve Banks on a fully secured basis to depository institutions that are in generally sound condition as a backup source of funds. Finally, the Board announced that it had raised the minimum bid rate for the Term Auction Facility (TAF) by 1/4 percentage point to 1/2 percent. The final TAF auction will be on March 8, 2010.

Easing the terms of primary credit was one of the Federal Reserve’s first responses to the financial crisis. On August 17, 2007, the Federal Reserve reduced the spread of the primary credit rate over the FOMC’s target for the federal funds rate to 1/2 percentage point, from 1 percentage point, and lengthened the typical maximum maturity from overnight to 30 days. On December 12, 2007, the Federal Reserve created the TAF to further improve the access of depository institutions to term funding. On March 16, 2008, the Federal Reserve lowered the spread of the primary credit rate over the target federal funds rate to 1/4 percentage point and extended the maximum maturity of primary credit loans to 90 days.

Subsequently, in response to improving conditions in wholesale funding markets, on June 25, 2009, the Federal Reserve initiated a gradual reduction in TAF auction sizes. As announced on November 17, 2009, and implemented on January 14, 2010, the Federal Reserve began the process of normalizing the terms on primary credit by reducing the typical maximum maturity to 28 days.

The increase in the discount rate announced Thursday widens the spread between the primary credit rate and the top of the FOMC’s 0 to 1/4 percent target range for the federal funds rate to 1/2 percentage point. The increase in the spread and reduction in maximum maturity will encourage depository institutions to rely on private funding markets for short-term credit and to use the Federal Reserve’s primary credit facility only as a backup source of funds. The Federal Reserve will assess over time whether further increases in the spread are appropriate in view of experience with the 1/2 percentage point spread.

Ok, so they are finally going to tighten up a bit, just in time for the next wave of home mortgage and commercial real estate defaults. This is a deflationary action, and it fits right into the psychology of a top, where Fed officials would be expected to conclude that the storm had passed.

When thinking about Fed decisions, I assume that it is not actually foolish economists like Bernanke and crew who make them, but their cunning and wealthy bosses — Blankfein, Dimon and company. Why would bank execs want tighter credit at the Fed? JP Morgan and Goldman Sachs likely don’t give a hoot about 0.25%, but this could push smaller banks over the edge and into the FDIC’s Friday lottery, whereby their deposits are gifted to other lucky banks.

As for the significance of this for the markets, it sends a signal that I believe will often be repeated in the coming months and years: bankers do not want to destroy the dollar any faster than they can help it. Hyperinflation is game over for the banking cartel, since the value of debt (and therefore bank assets) goes to zero.

The Fed is likely to look tougher from here on out (and actually they have not created new base money for about 12 months), especially in comparison to their European, Australian and Canadian counterparts. The Aussies and Canadians still have to liquidate their housing bubbles, and it is a very safe bet that the high rates that have made for such a lucrative carry trade are going to fall hard, along with their currencies.

Don’t be surprised if the dollar climbs all the way back to its 2000 peak.

The bubble down under

Posted on
4

5-year view of the ASX 200:

Source: Bloomberg

Australia has a huge property bubble that has yet to burst. The average home there, at AU$502,492, is priced at eight times average household income, compared to about three times income at the height of the US bubble (though higher in places like California and Florida). This is a country with a population density of just 7.3 per square mile, compared to 83 for the US!

Aussies are still in the denial stage, which says a lot about the nature of group-think, since they can look at the rest of the world and see the exact same dynamic at play, though a couple of years ahead.

China appears to be in about the same place, with prices even more out of whack with incomes and rents, twice as overvalued as the most overvalued California houses in some cases. Australia and China also have plenty of froth in their equity markets, though those resemble the US and the rest of the world.

What would happen to Australia if housing prices, stock prices and commodity prices all collapsed at once? Come to think of it, Canada is in a very similar position, and their housing bubble, while not as wild, has still yet to deflate.

The tables are turning, and panic is on the way back.

Posted on
1

I was extremely, almost uncomfortably short for the last couple of weeks, and with the Dow down 175 a few minutes ago, I covered my stock futures shorts and bought a few contracts to hedge up my long-term puts. It’s looking very good for the shorts — dollar up across the board, bond spreads wider, and stocks and commodities down together. Classic deflation trade.

Here’s the Dow. You can see that RSI says we’re already into oversold territory on the daily bar, which indicates the power of this move. There could be a bounce here, but I think stocks are where gold was after it fell hard from $1228 last month: they can rally, but the high is in. Now the bulls will be the ones fighting the tape.

Source: Prophet.net

-

Of course, the rally taught us bears to go easy and hedge up after little sell-offs like this, but that is going to be a frustrating stragegy if we’ve turned. As with the euro since the dollar index put in its low, surprises will be to the downside. I suspect not even this initial move down is over yet, maybe just the most violent part.

Take a look at the VIX. It has just blasted off – jumping over 50% in a week, most of it in just two days! This is giving us a very, very strong signal that panic is coming back, and in fact, was never very far off:

A decade without job gains

Posted on
Reply

From Chart of the Day:

-

What was that about credit being the lifeblood of the economy? Well, the 2000s saw the greatest bubble ever, and all it got us was richer bankers. Robert Prechter often says that the depression started with the bursting of the dot-com bubble and deflation of social mood from the euphoria of the late ’90s. This chart, like the Dow:Gold ratio (down to 9 today from a peak of 44), give you and idea of what he’s talking about. After all, there was no net growth last decade — it was all a sham.

Is the commodities rally done?

Posted on
1

Here’s the daily continuation chart of commodity index futures since July. Note the new highs on weakening momentum:

Source: futures.tradingcharts.com

-

The oil and base metals markets are similar. Here’s the base metal index, from kitcometals.com:

-

And oil futures, from stockcharts.com (3-year chart):

-

See also:

Copper looks set to fall hard (12/21/09)

Eric Sprott: new lows ahead for S&P 500

Posted on
1

From Bloomberg:

Dec. 29 (Bloomberg) — The Standard & Poor’s 500 Index will collapse below its March lows as an expected rebound in economic growth fails to materialize, according to hedge fund manager Eric Sprott.

The Toronto-based money manager, whose Sprott Hedge Fund returned 496 percent over the past nine years while the S&P 500 lost 32 percent, said the index’s 67 percent rally since March reflects investors misinterpreting economic data. He’s predicting the gauge will fall 40 percent to below 676.53, the 12-year low reached on March 9.

“We’re in a bear market that will last 15 or 20 years, and we’ve had nine of them,” Sprott, chief executive officer of Sprott Asset Management LP, which oversees C$4.3 billion ($4.09 billion), said in an interview Dec. 18.

-

Here’s what a 20-year, deflationary bear market looks like (Nikkei 225):

Source: Yahoo! Finance

-

Sprott also still likes gold, and from his perch in Canada he picks up smaller mining and exploration stocks. Although I like gold for the long term, I do take issue with the idea expressed here:

“If you get into this thing where you’ve got to keep printing more and more and more, who knows about the price of gold?” he said. “It will be the new currency in due course.”

Japan of course tripled its money supply and debt load in the aftermath of the bubble, but the central bank’s refusal to let bad debt and bad banks go under has locked the country into deflation and the Yen has remained strong. The debt situation in the US is much worse than in Japan, so our deflation should be even stronger. Japan was also bouyed through the ’90s and ’00s by strong exports as the rest of the world continued to grow, whereas the current bust is global. I do agree that after this deflationary stage clears the way, the government and central bank are bound to destroy the currency. The same could be said for the euro, pound and all of the rest, since none have any gold backing anymore.

The issue is timing — I have been saying since before the crash that deflation would be the situation for longer than almost anyone anticipates, myself included. This is because we have a credit system, not a cash system — in our economy it is credit issuance that controls the value of the currency unit, and credit will be contracting for years to come.

3rd Quarter GDP revised lower again

Posted on
2

The bulls cheered when the Department of Commerce told us GDP was 3.5%, but then the estimate was quietly lowered to 2.8%, and now we hear that 2.2% is a more like it. In reality of course, when you take away government expenditures, which should not be in GDP anyway as they are not Production, the economy continued to shrink. What else would you believe given that credit is still rapidly contracting and government is throwing sand into any market mechanisms that would clear away the bad debt?

David Rosenberg asks, “Can you handle the truth?”

Posted on
Reply

The Gluskin Sheff economist lays it all out in this end-of-year report. Click “Fullscreen” below to read the report. Subscribe to Rosenberg’s free daily emails here.

Special Report Year Ahead 121609 http://d1.scribdassets.com/ScribdViewer.swf?document_id=24216649&access_key=key-7ajim913ehdby1gxbei&page=1&version=1&viewMode=list

-

Some take-aways:

- Mainstream economists called this downturn “The Great Recession”. But this is truly a gentle way of saying “Depression”

- Perhaps inflation is a consensus forecast, but deflation is the present day reality

- We believe that the dominant focus this coming year will be on capital preservation and income orientation

He sums up the buy-side consensus like this:

At the outset, let it be known that when I read everyone else’s year-ahead prognostications, all I can think of is, “where do I store this stuff for a year so I can look back and say ‘That was so wrong!’.” It’s not that the reports are always bullish every year; it is that they seem so contrived. And, as I mentioned in the December 10th edition of Breakfast with Dave, this year, probably like most years, there seems to be a remarkable level of agreement. Based on my reading, here is what I conclude the consensus views are as we head into 2010:

- Having read various Year-Ahead Reports, it sure seems like there is a remarkable level of agreement for 2010


- Muted recovery, but positive growth, for sure! No risk of a ‘double dip’.


- Equity markets up!


- A barbell strategy of domestic multinational blue chips and emerging market equities.


- The U.S. dollar is…neutral, but we did locate more bulls than bears (so much for the ‘carry trade’ thesis).


- Positive on commodities for the most part.


- Concerned about government balance sheets, and therefore…


…Bearish on long term government bonds because they are the ‘competition’ and, after all, who would tie their money up for 10 years at 3.5% when you can lose 22% in stocks? And, therefore…


…Bullish on spread product (as long as it’s not long-term). And, therefore…


…Really comfortable with high yield (just for the coupon and the view that default rates will come down).


- Certain that volatility will not be an impediment.


- The Fed will begin to raise rates in the second half of the year, but that this will have no impact since they will still be low.