MORNING BID – On GDP, the Fed, Argentina, and lots of other things

Jul 30, 2014 13:45 UTC

To paraphrase Kevin Costner in Bull Durham, we’re dealing with a lot of stuff here. The U.S. economy did end up rebounding in the second quarter, with a 4 percent rate of growth that’s much better than anyone anticipated – and the first-quarter decline was revised to something less horrible, so investors worried about the economy are a bit less freaked out at this particular moment.

Of course, that still means that the economy only grew 0.9 percent in the first half of the year, and that’s not all that amazing, but the economy in the second quarter grew in areas that matter the most – business spending, consumer spending and to a lesser extent government, which was such a drag on GDP for a good long time that can’t be just ignored. In tandem with the GDP figure, the ADP report said 218,000 jobs were added for private payrolls for July, another strong month that portends a good showing out of the Labor Department figures on Friday. That’s all at a time when the housing indicators continue to weaken, which is still a concern, and some even believe that auto sales have probably hit their apex as well for this cycle, given so much of the buying was based on incentives, but we’ll get better clarity on that on Friday.

The good data overall has given the dollar a jolt, continuing a strong run for the U.S. currency that strategists believe will be maintained for some time now. The euro hit a low of $1.3369 overnight and is at levels not seen since November, and the dollar is at one-month highs against the yen.

The dollar in coming days and months clearly will hinge on data and how the Federal Reserve and bond yields react to it, particularly when you see the differential between U.S. and European rates. Spain’s 10-year note yield dropped through the U.S. rate as of yesterday, and Germany’s annual inflation slowed to a 0.8 percent rate of growth, which should keep the lid on the euro. Net short positions in the euro have been increasing, with nearly 89,000 in short positions among speculators as of last week, according to CFTC data, while dollar/yen short positions are slowly being liquidated, dropping to 53,000 last week from about 82,000 in mid-June.

That’s a notable shift, and similar things are happening in sterling; Marc Chandler of Brown Brothers Harriman said this morning that the dollar is “turning,” with the next technical breach on the euro coming around $1.3325, and he says it could fall to $1.3230. Again, the attractiveness of the U.S. dollar when weighed against super-low European yields should keep some funds coming into Treasuries, so the lower-for-longer argument persists, and money will keep rushing in as yields become more attractive – the two year note is now at 0.57 percent, highest since May 2011, and the CME Group’s Fed Watch puts odds on a rate increase by April at 42.7 percent today versus 38.8 percent yesterday.

Money is also rushing into Argentina’s bonds this morning as the talks continue to head off a default, although that’s a bit of a fuzzy situation. Simply not paying bondholders is the definition of a default, while ISDA’s determinations committee is the one that rings the bell on a default for those holding the $1 billion or so in insurance contracts for those who are holding those things. Talks went through all day on Tuesday, and Wednesday will be the day of more and more and more talks as people keep watching this situation with interest.

Investors who like playing some single-share volatility got their wish with Twitter earnings yesterday. The stock is up more than 20 percent following those results, a relief for those who saw the Netflix, Apple and Google releases all come out and fizzle in terms of big moves in individual shares.

Ryan Vlastelica pointed out in a story yesterday that it looks like investors are still expecting bigger moves in Expedia, Tesla Motors, 3D Systems and others, just because while harvesting, or selling, volatility is ok in a market as steady and dull as this one, when it comes to high-growth shares with much of their value wrapped up in their future growth, one never knows. Twitter ranks in Starmine’s bottom decile when it comes to its enterprise value-to-sales ratio and other ratios, so it’s a big bet on growth.

MORNING BID – Tango de la default

Jul 29, 2014 13:00 UTC

Red letter day for Argentina comes tomorrow, with the holdout investors and the South American nation coming down to the wire on a potential deal that would offer the holdouts something better than what everyone else agreed to in 2005 and 2010. Without getting into issues of vultures vs. violating debt agreements, the situation probably comes down to three scenarios.

First, Argentina defaults. One cannot underestimate this too much – Argentina has already defaulted before, and the stakes are nowhere near as high for the country as they were the first time. But it is still pretty darned damaging – it puts the country into another level of pariah with international capital markets (double secret probation, and here’s where we once again note that had John Vernon lived, he would have solved this whole mess), it causes even more capital flight from the country and worsens the outlook for the currency, which is already trading at a level much lousier than the going real rate.

The spot rate is about 8.1 pesos to the dollar – its two-decade chart looks like a double-black diamond ski run – while the black-market rate is more like 12 pesos to the dollar. Argentines would likely increase their dollar holdings, and would put severe pressure on foreign reserves, which aren’t all that great to begin with. With inflation at about 30 percent, this isn’t a fun option. As Hugh Bronstein noted in a June story, Argentina is also a big soybean exporter – third in the world – and farmers there plan on hoarding the product in case of a default. The cost of immediate soybean exports from Argentina is up 6.3 percent in the last week or so; similar Brazilian exports are up 5.3 percent, and on the Chicago Board of Trade, soybean futures have risen 4.7 percent.

The peso continues to weaken.

The peso continues to weaken.

The second option, and this one is even less likely, is that the holdouts blink in some way. The holdouts haven’t changed their position in some way, and as Dan Bases points out in a story today, their years-long pursuit of payment on similar obligations in Peru, and the fact that this has been going on for 12 years already, suggests they’ve got some serious staying power (nimble trading is great in some markets; in others, the more important characteristic is extreme stubbornness). It’s still unclear just what the holdouts stand to make out of this, but the $1.33 billion-plus-interest judgment in their favor has the Argentines saying that’s a 1,600 percent return, which isn’t a bad day at the office if it all works out.

The holdouts would also be likely to wait until January when certain clauses that would put Argentina on the hook for a lot more money from other undeclared holdouts and then perhaps any bondholders who did negotiate might want to come back and wrangle again and extend the process. Some legal experts say that this clause isn’t going to be triggered by Argentina being forced into paying the holdouts, but try telling the Argentines that. The only recent blow to the holdouts? The hanging judge in this whole thing, Thomas Griesa, allowed the nation to pay certain obligations (or rather, for Citigroup to pay certain obligations on the nation’s behalf) that would have potentially upset a settlement earlier in the year with Repsol – the holdouts argued against this as it cracks the door to other relief somewhere, though of course the odds are pretty thin.

The third scenario, which in some ways seems equally unlikely (we’re starting to think an asteroid will hit the Earth before any other real option), is that there’s some kind of negotiated agreement that allows the exchanged bondholders to say they’re not worried about additional restitution provided they can just get their scheduled coupon payments.

Then, everyone gets paid, there are no additional claims – per what Argentina wants to happen after December 31, 2015 – and the whole thing finally finishes – the hedge funds have their victory, Argentina can claim it didn’t put itself on the hook for any more money than what the judge forced them into paying, and it will all stop there. (And then of course Argentina can sell more bonds in two years or so, because bond markets have shorter memories than people think.)

MORNING BID – Next for Puerto Rico, Argentina and the Fed

Jul 8, 2014 13:02 UTC

The market’s recent chatter has revolved specifically around whether the strength in the jobs figure from last week moves forward the expected timing of the first interest-rate hike from the Federal Reserve.

The answer: yes, but probably by not that much. Jobs growth of 288,000 for June was better than expected, and that 6.1 percent unemployment rate looms large for those who figured the Fed would be ready to start raising rates after at least 6.5 percent was surpassed. So we’re there on that, but as Kristina Hooper of Allianz points out, the wage growth seen hasn’t been terribly strong, and the types of jobs being created – a lot of which are in lower-paying industries like retail – don’t portend the same kind of economic strength that might have been manifest by now in other iterations of U.S. recoveries.

So there was some hoopla on Monday over a prominent economist like Jan Hatzius shifting his “first rate hike date” figure dramatically. In moving from early 2016 to late 2015, he’s really only joining the consensus here on this. With the Fed meeting minutes due out on Wednesday, considerable attention will be paid to how the Fed is now viewing the economic situation, particularly given their penchant for a go-it-slow approach.

High rates are the hallmark of the increasingly bizarre debt situations engulfing both Puerto Rico and Argentina. The two nominally couldn’t be more different – one a sovereign nation that defaulted 12 years ago and yet still has created enough drama to fill a lifetime of Chekhov, the other a commonwealth and a territory of the United States.

The former for years was a no-go zone for anyone who likes their debt holdings boring. The latter was a celebrated gathering place for muni buyers because all of the island’s debt was tax-free, so New Yorkers and Californians alike could jump into the fray there.

What’s notable as well is the way in which there are bifurcations now in both situations.

In Puerto Rico, debt that had been expected to have a quasi-guarantee from the government or the Government Development Bank of Puerto Rico, like its electric company or sewer utility bonds, are now cast adrift. They are floating in the wind and seeing their bond prices drop to somewhere around 35 to 40 cents on the dollar, while the more protected general obligations are trading at something more normal (but still not all that awesome) 80 to 85 cents on the dollar.

The recent passage of a law that lets the corporations “restructure” has now brought in distressed players and hedge funds – kind of the exact people the Argentines found themselves in bed with after their restructuring took place and led to the imbroglio that they’re now involved in. They can’t pay their restructured holders, but send money to the custody bank anyway to seem like they have the intention to pay were it not for a meanie of a judge (nobody has used the word “meanie,” and he’s probably a lovely man who likes dogs and kids). And if they do pay the holdouts too, they open another can of worms, a $15 billion can of worms (their numbers). The latest development is that the Argentines asked a mediator to stay the judge’s ruling, which is kind of their 20th run at this.

Has Puerto Rico created a similar mess here? The Barclays Muni High Yield Index suggests so. Or as Dan Burns, Reuters Americas markets editor, points out, it was up 9.5 percent year-to-date on June 11, and now it’s just up 5.7 percent, with all but 0.2 percentage point of that retracement having taken place since the restructuring laws surprisingly passed about two weeks ago. The stock market has taken notice too, as MBIA Inc, one of the guarantors of Puerto Rico’s “corporation” debt, has seen its stock fall more than 19 percent since the law’s passage on June 25, while Assured Guaranty, considered a bit less exposed, is down 11 percent in that time period.

MORNING BID – Two to Tango

Jun 25, 2014 12:52 UTC

Wednesday’s version of reading tea leaves involves Argentina’s economy minister Axel Kicillof, who will be in New York to speak to the United Nations about Argentina’s debt situation. In case the U.N. missed it, Argentina defaulted a while back – 12 years ago – and they’ve been fighting with a group of investors on paying some of their debt since. Which is a roundabout way of saying Kicillof may not just be in New York to talk to the U.N., not when NML, Aurelius and the other holders are all also in New York too, and the judge in question, and any special envoy he introduces to try to wring some kind of compromise out of this situation. There’s a big coupon payment due June 30, and the country has been prohibited from doing so unless it pays the holdouts, which it has pledged not to do, giving it a 30-day grace period before being declared in default.

So the thing to watch for is something like a clandestine meeting between all parties to find a way to reach an accord, even if it’s the kind of thing that comes down to the July 30 wire – when Argentina would be considered in default again (double-secret default, as Dean Wormer would have it, and really, if John Vernon were alive, he’d have solved this mess a long time ago).

Argentina is worried about being on the hook for as much as $15 billion and not just the $1.33 billion-plus-interest owed to the holdout hedge funds – Moody’s puts the number closer to $7.5 billion, maybe up to $12 billion, per an overnight story from Dan Bases. Neither is a number Argentina wants to deal with, hence their reluctance to participate in any kind of negotiation that amounts to a gun to their heads.

There’s going to be a lot of face-saving going on. Whether the holdouts will get their $1.33 billion is in question – it’s likely to be something less than that, with some kind of provision that allows it to be implemented, perhaps, after the expiration of a deadline at years-end that would obviate the need for the South American nation to consider paying the rest of the bondholders something additional.

Given the need to finance ongoing activities (that is, a recession), time is of the essence. Nobody is going to get entirely what they want – by now the opportunity cost for the hedge funds has to have been significant (they could have hung back and bought a bunch of Greek debt and stakes in Icelandic banks and been done with this), and Kicillof can ill afford to go home and say he caved into the “vultures” that officials blame for the country’s economic strife. So a meeting in New York may not be on the calendar, but one never knows.

MORNING BID – Turkey, the Fed, and we all float down here

Jan 29, 2014 14:46 UTC

The messy sell-off in emerging markets was stemmed overnight after Turkey surprised everyone by raising rates to 12 percent – but it didn’t last. Major averages in Britain and Germany opened at their highs of the day but have since faded, and even though the big rate increases in Turkey, South Africa and India are meant to stem capital flight, so far the market’s shooting first and asking questions later. S&P futures were up about 20 points after the Turkey rate hike – an odd move for such a localized event – and we’re seeing the reaction now, which, to quote Tom the cat about the ‘white mouse no longer being dangerous,’ “DON’T…YOU…BELIEVE…IT.” So we’re lower, and continue to head lower, and for those of you new to the markets, this is what’s called a selloff.

The big question: Will the Federal Reserve defer its tapering campaign in recognition of emerging-markets difficulty? One could say the Fed cannot be expected to act as the underwriter for global risk-taking, but you’d be laughed out of the room, given the performance of assets around the world in the last several years as the Fed went into full-QE mode.

On the other hand, there’s a difference between providing broad support to the markets (via helicopter or not) and an actual admission that you’re changing policy to respond to specific issues worldwide, and such a move strikes us as the latter, not the former. With that in mind, it would be remiss to think the Fed does not continue at its measured pace, dipping down to $65 billion in bond purchases per month this time, as Janet Yellen takes the reins and we find out what kind of situation the new Fed head has gotten herself into while Ben Bernanke eases into what one hopes is a steady and muted retirement (think Johnny Carson, not Alan Greenspan).

For one, eventually reducing the monthly stimulus to zero at least gives the Fed room to ratchet up that stimulus again if they really need to.
Furthermore, the emerging markets, in a sense, are already gone. No, it’s not a disaster yet – but the implosion of China’s shadow banking system, the resignation of every Turkish official in Ankara, and the, well, uh, never mind, Argentina is Argentina, and isn’t going to be solved by the Fed put. The Fed might give it lip service in its statement but any more than that really ratchets up the moral hazard.

Furthermore, when one takes a look at the relative strength of emerging markets stocks with the U.S. market, it’s clear EM has been struggling for a while anyway. A comparison of relative performance between the MSCI EM index (.MSCIEF, or EEM.P if you’re into the ETF thing) is at 0.7 or so, and U.S. markets have been the steady outperformer since the beginning of 2013, and that outperformance accelerated throughout the year but particularly in the second quarter when the Fed started talking about reducing stimulus in the first place.

That doesn’t mean they can or will reverse course – it makes no sense. But less liquidity washing ashore means a bad investment can no longer be covered by smoke and mirrors. The MSCIEF’s relative performance index is still looking terrible, having fallen below the 30 level that indicates an oversold condition. It’s not quite at the nadir of the June 2013 or May 2012 selloffs, but it’s close, so if there’s a place one might expect some buying, it’s now. But it’s not happening yet – and that does raise questions about whether we’ll see more soothing words from central banks.

Back in the USA, the Treasury is readying its first-ever auction of two-year floating-rate securities, likely to see demand from various types of investors.
There are currently more than $200 billion in agency and “supra-sovereign” floating rate notes outstanding, mostly from Federal Farm Credit and Federal Home Loan Bank, per Morgan Stanley data. So, Treasuries should add nicely to the mix here, and it’ll quickly become a very big dog in a very small pond (dogs can jump in ponds, go with the analogy). So the $15 billion will add to the week’s mix of other supply.

For one thing, this gives the Treasury the chance to manage its issuance a bit more by reducing the number of short-dated auctions of bills, instead issuing this note that resets based on market rates for floating-rate notes. It will helpfully cut back on the weird dislocations that the market has seen of late in bills that are maturing just as the United States is set to run afoul of the debt limit (again) or face some kind of annoying only-in-Washington-type spectacle.

(Of course, if it was all two-year floaters, then in the month it had more floaters coming just as a budget crisis hit, those yields would go through the roof. So you can’t entirely solve the Washington problem this way, and floating-rate notes as far as we know cannot hold Congressional office).

The other advantage for the Treasury is the lack of what’s called “term premium,” which Morgan Stanley says will lead to interest-rate payment savings.
Term premium refers to how much additional interest you have to offer someone who is taking the risk of buying longer-dated securities (and therefore risking wide swings in interest rates or other unforeseen events over a five-year period vs. say, six months). But floating rate notes have no such provision (they float, after all), so that *should* save Treasury some money.

Reuters’ bond correspondent Richard Leong points out they’re expected to sell with a yield of 0.10 percentage point, almost a quarter less in the two-year fixed-rate note supply sold on Tuesday. So, that’s savings for Uncle Sam until the FRN yield rises above the fixed-rate two-year notes. Overall, the interest rate should be greater than what’s embedded in notes, though, which is good for money market funds (they hold about $276 billion of floating rate notes already).

FRNs are great in an environment where interest rates are on the rise, which has been the case for several months now (until this month that is), and therein, of course, lies the danger. If rates fall, well, not so great, as the interest rate on the notes would be chipped away.