Quiet CDS creep highlights China risk
As credit default swaps (CDS) for many euro zone sovereigns have zoomed to ever new record highs this year, Chinese CDS too have been quietly creeping higher. Five-year CDS are around 135 bps today, meaning it costs $135,000 a year to insure exposure to $10 million of Chinese risk over a five-year period. According to this graphic from data provider Markit, they are up almost 45 basis points in the past six weeks. In fact they are double the levels seen a year ago.
That looks modest given some of the numbers in Europe. But worries over China, while not in
the same league as for the euro zone, are clearly growing, as many fear that the real scale of indebtedness and bad loans in the economy could be higher than anyone knows. Above all, investors have been fretting about a possible hard landing for the economy, with the government unable to control a growth slowdown.
The CDS rises have coincided with worsening economic data – state-owned companies’ profits have fallen 8.6 percent in the January-April period from year-ago levels while industrial production weakened sharply in April. Fixed asset investment – a key driver of the economy – has hit its lowest level in nearly a decade.
CDS fell slightly today after Premier Wen Jiabao called for more efforts to support growth. His comments also provided a mild boost to China’s stock markets. Gavan Nolan, Markit’s director for credit research, says Wen’s comments suggest growth is taking precedence over inflation in policymakers’ minds:
Three snapshots for Thursday
Fears that Athens is on the brink of crashing out of the euro zone and igniting a renewed financial crisis have rattled global markets and alarmed world leaders, with Greece set to figure high on the agenda at a G8 summit later this week. This chart shows the impact on assets since the Greek election:
Euro zone banks now account for only 8% of total euro zone market value – they were over over 20% of the market in 2007:
Japan’s economy rebounded in January-March from a lull in the previous quarter, shaking off the pain of a strong yen and Europe’s debt crisis on solid consumer spending and rebuilding from last year’s earthquake.
Battered India rupee lacks a warchest
The Indian rupee’s plunge this week to record lows will have surprised no one. After all, the currency has been inching towards this for weeks, propelled by the government’s paralysis on vital reforms and tax wrangles with big foreign investors. These are leading to a drying up of FDI and accelerating the exodus from stock markets. Industrial production and exports have been falling. High oil prices have added a nasty twist to that cocktail. If the euro zone noise gets louder, a balance of payments crisis may loom. The rupee could fall further to 56 per dollar, most analysts predict.
True, the rupee is not the only emerging currency that is taking a hit. But the Reserve Bank of India looks especially powerless to stem the decline. (See here for an article by my colleagues in Mumbai) . One reason the RBI’s hands are effectively tied is that India is one of the few emerging economies that has failed to build up its hard currency reserves since the 2008 crisis and so is unable to spend in the currency’s defence. Usable FX reserves stand now around $260 bilion, down from $300 billion just before the 2008 crisis. See the following graphic from UBS which shows that relative to GDP, India’s reserve loss has been the greatest in emerging markets.
But there is worse. The relative decline in reserves since 2008 coincides with a ballooning in India’s external debt, both private and public. Comprising mostly of corporate borrowing and trade credit, the debt stands at $350 billion, up from $225 billion four years back.
No wonder investors have upped their bearish bets on the rupee: a Reuters poll of Asian fund managers shows these at a six-month high and significantly higher than any other Asian currency. For now, the trade looks worryingly like a one-way street.
Three snapshots for Tuesday
The euro zone just avoided recession in the first quarter of 2012 but the region’s debt crisis sapped the life out of the French and Italian economies and widened a split with paymaster Germany.
Click here for an interactive map showing which European Union countries are in recession.
The technology sector has been leading the way in the S&P 500 in performance terms so far this year with energy stocks at the bottom of the list. Since the start of this quarter financials have seen the largest reverse in performance.
Poland, the lonely inflation targeter
Is the National Bank of Poland (NBP) the last inflation-targeting central bank still standing?
The bank shocked many today with a quarter point rate rise, naming stubbornly high inflation as the reason, and signalling that more tightening is on its way. The NBP has sounded hawkish in recent weeks but few had actually expected it to carry through its threat to raise rates. Economic indicators of late have been far from cheerful – just hours after the rate rise, data showed Polish car production slumped 30 percent in April from year-ago levels. PMI numbers last week pointed to further deterioration ahead for manufacturing. And sitting as it does on the euro zone’s doorstep, Poland will be far more vulnerable than Brazil or Russia to any new setback in Greece. Its action therefore deserves praise, says Benoit Anne, head of emerging markets strategy at Societe Generale.
(Poland’s central bank) is one of the last orthodox inflation-targeting central banks in the global emerging market central bank universe. They are taking action because they are seeing inflation creeping up and have decided to be proactive.
The rate rise is especially notable given many central banks in developing countries appear effectively to have surrendered their inflation-fighting mandate. Nowhere is the push for lower interest rates more pronounced than in Brazil where the government last week announced plans to scrap fixed-rate savings deposits in a move that is seen paving the way for more agressive rate cuts. Clearly there is tolerance here for higher inflation, which will still end 2012 well above target.
But many analysts such as Manik Narain at UBS consider Poland’s decision a high-risk one given the growth issues. Narain sees it possibly motivated by the need to signal Poland will not welcome further currency weakness (the zloty like most emerging currencies has shed much of its early-2012 gain) Therefore a prolonged monetary tightening cycle is unlikely, he says. Indeed many reckon the NBP may find itself, like the European Central Bank last year, reversing an ill-considered rate rise. Analysts at Capital Economics write:
If we are right in expecting growth and inflation to slow by more than most expect over the second half of this year then this may well be the NBP’s “ECB moment”. Recall that having hiked rates twice in the first half of 2011, the ECB was forced to start loosening policy once again by November as the economy weakened. In Poland’s case, we think there is a good chance that today’s rate hike will be reversed by the end of the year.
Three snapshots for Tuesday
Equities in the countries most exposed to the euro zone crisis seem to be being hit especially hard this year. The Datastream index of shares in Portugal, Italy, Ireland, Greece and Spain has a total return of -5.3% this year compared to +8.9% for a euro zone index excluding those countries.
U.S. consumers went back to using their credit cards in March to keep spending while student and new-car loans shot up as the value of outstanding consumer credit jumped at the fastest rate since late 2001, data from the Federal Reserve showed on Monday.
Total consumer credit grew by $21.36 billion – more than twice the $9.8 billion rise that Wall Street economists surveyed by Reuters had forecast.
Perhaps some of that credit card spending is finding its way to luxury goods companies – there certainly don’t seem to be too many worries about an economic slowdown coming through in their share price performance:
Three snapshots for Wednesday
Euro zone factories sank further into decline last month but manufacturers in Asia upped their tempo to meet growing demand from the United States and China, exposing a widening gulf between Europe and the rest of the world.
Unemployment in the euro zone rose to a 15-year high of 10.9 percent in March – as this chart shows the level of youth unemployment paints a worrying picture:
U.S. private employers hired a far fewer than expected 119,000 people in April, the smallest gain since September 2011, a report showed on Wednesday, adding to concerns that the economy has lost some of its momentum. This chart shows the relationship between the first release of ADP figures and non-farm payrolls which are released on Friday.
from MacroScope:
Netherlands at core of the crisis
The Netherlands has become the latest country to come into the firing line of the euro zone crisis.
The cost of insuring five-year Dutch debt against default jumped to its highest since January as the government's failure to agree on budget cuts spiraled into a political crisis and cast doubt over its support for future euro zone measures.
Dutch Prime Minister Mark Rutte offered to resign on Monday, creating a political vacuum in a country which strongly backed an EU fiscal treaty.
Five-year Dutch CDS jumped 14 basis points to 133, only a whisker away from the record of 136 basis points hit on November of last year. The premium that investors require to hold 10-year Dutch bonds over their equivalent German Bunds rose to 79 basis points – its highest in 3-years.
Commerzbank's take on Holland:
Elections could be held in September 2012 at the earliest, because the Dutch constitution prescribes a period of 80 days between the dissolution of the government and new elections. In the interim, the government would be unable to get important reforms approved by parliament. This suggests that the 3 pct (budget deficit) target will be missed in 2013 and the country’s AAA rating is at risk.
A Dutch debt auction on Tuesday will provide another test of investor appetite following Monday's selloff.
Three snapshots for Monday
The euro zone’s business slump deepened at a far faster pace than expected in April, suggesting the economy will stay in recession at least until the second half of the year. The euro zone’s manufacturing PMI came in below all forecasts from a Reuters poll of economists, plumbing 46.0 in April – its lowest reading since June 2009. Weak PMI numbers are a bad sign for economic growth (see chart) but also for earnings:
Reuters reports that the Dutch government will resign on Monday in a crisis over budget cuts, spelling the end of a coalition which has strongly backed a European Union fiscal treaty and lectured Greece on getting its finances in order. As this overview shows the Dutch economy looks in better shape than many in the euro zone but is still finding austerity measures difficult to pass.
French President Nicolas Sarkozy appealed directly to far right voters on Monday with pledges to get tough on immigration and security, after a record showing in a first round election by the National Front made them potential kingmakers. See how the votes may transfer from 1st to 2nd round in this interactive calculator (click here).
Three snapshots for Friday
Although the focus has been on Spanish debt auctions this week as this chart shows Italy has much further to go in meeting this year’s funding needs.
German business sentiment rose unexpectedly for the fifth month in a row in March, moving in the opposite direction to the composite PMI:
Greg Harrison points out 82% of S&P 500 companies have beaten their Q1 earnings estimates so far. It is early days but it it continues that would be the highest for at least five years. Is this a sign that the strength in corporate earnings in continuing? The chart below suggests as least part may be due to falling expectations coming into earnings season.
