Three snapshots for Tuesday
Argentina’s debt insurance costs rose after the country moved to seize control of leading energy company YPF on Monday, Madrid called the move on YPF, controlled by Spanish company Repsol, a hostile decision and vowed “clear and strong” measures, while the EU’s executive European Commission warned that an expropriation would send a very negative signal to investors. Of the countries in the MSCI Frontier equities universe Argentinian equities are the worst performer this year.
German analyst and investor sentiment rose unexpectedly in April. The Mannheim-based ZEW economic think tank’s monthly poll of economic sentiment rose to 23.4 from 22.3 in March, beating a consensus forecast in a Reuters poll of analysts for a fall to 20.0.
India’s first interest rate cut in three years may be its last for a while. The central bank cut rates on Tuesday by an unexpectedly sharp 50 basis points to boost the sagging economy, but warned there was limited scope for more cuts, with inflation likely to remain elevated and growth on track to pick up, albeit modestly.
Three snapshots for Tuesday
Is now the time to shift to equities vs. bonds? Goldman Sachs think so and traditional valuation measures such as the equity risk premium (chart) make bonds look expensive relative to equities when compared to the average over the last 20 years.
It isn’t surprising that the performance of equities relative to bonds tends to be closely correlated with economic activity. However as the chart below shows this does break down from time to time, equities are currently still trailing bonds over a 12-month period while an ISM above 50 suggests equities should be winning.
Fed Chairman Ben Bernanke poured some cold water on the recent improvement in the U.S. jobs market yesterday. Today’s consumer confidence numbers were mixed, the “jobs hard to get” index rose to 41.0 per cent from 38.6 per cent the month before, but the “jobs plentiful” index also rose to 9.4 per cent from 7 per cent
As gasoline prices rise a handy map of which countries subsidise fuel.
Russia’s new Eurobond: what’s the fair price?
Russia’s upcoming dollar bond, the first in two years, should fly off the shelves. It’s good timing — elections are past, the world economy seems to be recovering and crucially for Russia, oil prices are over $125 a barrel. And the rise in core yields has massively tightened emerging markets’ yield premium to U.S. Treasuries, offering an attractive window to raise cash. Russia’s spread premium over Treasuries hit the narrowest levels in 7 months recently and despite some widening this week it is still some 75 basis points below end-2011 levels.
Initial indications from the ongoing roadshow are for a two-tranche bond with 10- and 20-year maturities, possibly raising a total of $3.5 billion.
But market bullishness notwithstanding, investors say Moscow should resist temptation to price the bond too high, a mistake it made during its last foray into global capital markets in April 2010. Fund managers have unpleasant memories of that deal, recalling that Russia unexpectedly tightened the yield offered by 25-28 bps, making the bond an expensive one for investors who had already placed bids. The bond price fell sharply once trading kicked off and yields across the Russian curve rose around 25-30 basis points. Jeremy Brewin, a fund manager at Aviva said:
Russia has a slightly disappointing reputation.. We all ended up paying a tighter spread than we expected. Everyone is concerned they will get pulled in too tight again.
James Croft, head of emerging debt trading at Mitsubishi-UFJ agrees:
The demand for Russian risk is such that getting this bond away should be no problem. The only impediment that could make the transaction harder is investors’ wariness, based on the negative experience of the last deal back in 2010.
Dear Ms. Rao,
A recent claim successfully put forth by the Russian Government before two French courts (see below) could have drastic financial implications for the Russian State’s budget, stemming from the existence of billions of unpaid russian sovereign debt.
We believe credit rating agencies and emerging debt managers should follow developments in this matter very closely.
The current investment grade ratings enjoyed by the Russian Federation are based on a negligent analysis of inaccurate financial data.
The public accounts of the Russian Federation’s financial position make no mention of (and therefore actively dissimulate) the existence of due debt issued or guaranteed by the Russian State prior to 1917.
It has been put forth to the French Senate (Sénat, Commission des Affaires Etrangères de la Défense et des Forces Armées, rapport no. 150 – 1997 – 1998, projet de loi relatif au règlement définitif des créances réciproques entre la France et la Russie, annexe au procès verbal de la séance du 3 décembre 1997) that the 1997 value of this debt was in excess of 40 billion US$.
If the leading credit rating agencies adjusted the Russian Federation’s public accounts, as they should, to include an additional liability of US$ 40 billion this would no doubt lead to a change in their opinion on that State’s capacity to repay debt, and so to the ratings they issue.
While credit rating agencies and the Russian Federation have both argued wrongly in the past, and still do, that debt issued or guaranteed by the Imperial Russian State is not a full faith and credit obligation of the Russian Federation, they may not be able to do so in the future because recent claims sucessfully put forth recently by the Russian Federation have drastically changed the situation.
By successfully claiming ownership, before two French courts (Tribunal de Grande Instance de Nice in 2009 and Cour d’Appel d’Aix en Provence in 2011), of the Orthodox Cathedral in Nice on the grounds that the building had been paid for out of the Imperial Russian State budget and that the Russian Federation was the successor governement to the Imperial Russian State, the Russian Federation has in fact asked the court to acknowledge what defaulted sovereign bondholders have been saying all along: that the Russian Federation is the successor government to the Imperial Russian State and as such is both entitled to claim its assets and bound to pay off Imperial Russia’s debt.
For more on the matter of negligent sovereign debt rating analysis, please visit our website at:
We thank you for your attention.
The Credit Rating Agency Observatory – CRAO
Three snapshots for Wednesday
Saudi Arabia has repeated publicly it would prime its pumps to meet any shortfall in exports from fellow OPEC member Iran, this chart shows their production since 1980:
Unwelcome news for British finance minister George Osborne ahead of today’s budget – February public sector borrowing comes in at £15.2bn against expectations for £8bn.
Along with the rise in bond yields, expectations for interest rates at end 2013 and 2014 have started to pick up:
Three snapshots for Thursday
The VIX volatility index has fallen below the average level seen during the 2003-2008 pre-crisis period.
The low level of the VIX is also being matched by moves down in other ‘safe haven’ assets. The dollar is near an 11-month high against the yen, and a rise in U.S. Treasury yields is pushing up the spread between U.S. and Japanese bond yields.
President Barack Obama and British Prime Minister David Cameron discussed the possibility of releasing emergency oil reserves during a meeting on Wednesday, two sources familiar with the talks said.
While likely to be popular with many Americans, tapping the SPR alone could antagonize allies in Europe, several of whom remain unhappy over last year’s action and are unlikely to back another release.
The head of the Paris-based IEA, Maria van der Hoeven, has said in recent weeks she sees no current need for consuming nations to release strategic reserves.
Oil prices — Geopolitics or growth?
It’s the economy, stupid. Or isn’t it?
Brent crude has risen 15 percent since the end of last year, focusing people’s minds on the potential this has to choke off the recovery in world growth. But some reckon it is the recovery that’s at least partly responsible for the surging oil prices — economic data from United States and Germany has been strong of late. There are hopes that France and the United Kingdom may escape recession after all. And growth in the developing world has been robust.
Geopolitics of course is playing a role as an increasing number of countries boycott Iranian oil and fret over a possible military strike by Israel on Iran’s nuclear installations. But Deutsche Bank analysts point out that world equity markets, an efficient real-time gauge of growth sentiment, have risen along with oil prices.
Their graphic (below) shows a remarkably close relationship between oil prices and the S&P 500. Click to enlarge
Deutsche says:
We find it hard to believe that a genuine concern about a real risk of war would have accompanied a 4.7 percent gain in the S&P 500 index during February to a post-Lehman high.
Slipping up on oil and Greece?
Thursday’s crude oil price surge to its highest in almost 4 years (apparently due to a subsequently denied report from Iran of a Saudi pipeline explosion…phew!) illustrates just how anxious and dangerous the energy market has become for world markets yet again this year and HSBC on Friday spotlighted its threat to the global economy and asset prices in a note entitled “Oil is the new Greece”. The point of the neat headline hook was a simple one:
With Greece disappearing, at least temporarily, from the headlines, investors have quickly found a new source of anxiety thanks to the recent surge in oil prices
Just like many investors and strategists over the past month, HSBC rounded up its various assessments of the impact and fallout from higher oil prices, stressing the biggest risk comes from supply disruptions related to the Iran nuclear standoff and that any major political upheaval in the region would threaten significant crude spikes. “Think $150 or even $200 a barrel,” it said. It reckoned the impact on world growth, and hence the broader risk horizon depended on the extent of this supply disruption and the durability and scale of the price rise. Worried equity investors should consider hedging their portfolios by overweighting the energy sector. Obvious winners in currency world would be the Norwegian crown, Malaysian ringitt, Brazil’s real and Russia’s rouble, the bank’s strategists said. The most vulernable units are India’s rupee, Mexican and Philippines pesos and Turkey’s lira.
Earlier this week, strategists at JPMorgan Asset Management said crude oil exposure could be useful to them as a hedge to their relatively neutral positioning on world equities.
We also added exposure to crude oil, as a partial hedge in portfolios. We believe this provides some offset to a neutral stock/bond position, should the global business cycle prove to be stronger than expected. To some extent, it also acts as a “tail hedge” against geopolitical event risk, given the febrile situation in the Middle East.
But the question of whether oil packs as much a threat for world markets as the systemic risks posed by the Greek debt collapse is an interesting one. Certainly the sort of random, nervy price movements late Thursday are reminiscent of the edgier days of the now two-year-old euro crisis. Familiar too is the often unfathomable second-guessing of political developments in the euro zone. Yet for many people oil is just the new, well… oil.
It’s not really gone away over the past 18 months as an all-pervasive menace to the world economy and concerns about peak oil and the long-term decline in global supplies means even the slightest distortion to either supply or demand in future will likely instantly bring it back to the dashboard of all global investors. The 60% surge in crude prices between August 2010 and April 2011 was arguably just as powerful in sapping world economic activity in the second half of last year as the euro crisis was — perhaps moreso. And even as financial markets and economics commentariat talked openly in the final months of 2011 of a western banking and sovereign debt collapse leading to a double-dip recession and even a worldwide depression — crude oil prices never had a weekly close back below $100 for the remainder of the year!
What chances true democracy in oil-rich Iran?
Truly, oil can be a curse. Having it may enrich a country (more likely its rulers) but it does not seem condusive to democracy. And the more oil a country produces, the less likely it is to make the transition to democracy, according to research from investment bank Renaisssance Capital.
So as Iran goes to the polls today, what are the chances it will become a democracy? (Iran itself could argue, reasonably enough, that it is the most democratic country in the region — everyone over the age of 18, including women, are allowed to vote, though the choice of candidates is restricted)
Surprisingly, the Renaissance report’s author Charles Robertson concludes, Iran does have a chance to achieve democracy, though probably not this year. He says no oil exporting country that produces more than 150,000 barrels per day of oil per million of population has ever achieved a transition to democracy (note Norway was already a democracy before it found oil). But others which produce less oil have done so, notably Algeria, Gabon, Congo Indonesia, Nigeria and Ecuador (Some of these democracies are clearly flawed). Robertson writes:
This suggests that the Gulf states, Equatorial Guinea, and Brunei willl not change their political systems until their energy wealth dries up. ..Yet Iran’s net exports are 32,000 bpd per million people. This is insufficient to immunise it from democratisation pressures.
If Iran was not blessed with oil however, its per capita income of over $10,000 means it would probably have been a democracy. (Though it is equally possible that without the oil it may not have that wealth) Robertson’s “democratisation database” tells him an autocracy with per capital incomes of $6000 to $10,000 has a 6.4 percent chance of a transition to democracy. If incomes are shrinking the odds rise to 15.5 percent.
“So revolution is clearly not a base case scenario for this year but a plausible risk.”
On the positive side, these income levels generally portend peaceful political change rather than violent upheaval, he says, citing the example of Taiwan and Czechoslovakia which moved to democracy in 1992, as well as transitions in Spain and Greece in the 1970s. But more is at stake in Iran — because of its oil. If a revolution awaits Iran, let us hope it is a peaceful one — the last one in 1979 triggered a huge oil shock that propelled the world into recession.
Emerging beats developed in 2012
Robust growth from the emerging market basket in January was always going to be tough to beat, but research from February’s gains show just how strong these markets are performing against developed ones, and not just from the traditional BRICs either, research from S&P Indices shows.
Egypt has been a prime example. Following a bout of political unrest and subsequent removal of Hosni Mubarak after nearly 30 years in power, Egypt’s market returns have rocketed, climbing 15.3 percent in February on top of January’s 44.3 percent take-off.
Thailand, Chile, Turkey and Colombia are also on the to-watch list as these emerging lights have all flashed double-digit returns in the first two months of this year, while all twenty emerging markets included in the S&P data were up, gaining an average of 6.62 percent, making gains in the year-to-date a mouth-watering 18.95 percent.
Compare that with developed market returns of 4.6 percent in February, led by Nordic countries in particular Norway with (13.8 percent) in February, Denmark (13.5 percent) and Sweden (10.2 percent). Yet returns in developed markets were dragged down by Israel (-1.9 percent) and Greece (-2 percent). Overall developed markets grew 10.3 percent in the first two months of the year.
So taken together – equity markets have gained $1.6 trillion in February, which when added to January’s bullish run, clawing back all $3 trillion worth of losses in 2011 leading to the best start the S&P 500 has had since 1987.
Optimism should be checked, however. High oil prices supported by geopolitical pressure at the prospect of an Israeli strike on Iran’s nuclear facilities and subsequent knock-out of a 3.5 million barrel per day production of crude oil could start to have a negative effect on markets, while Europe still faces high levels of debt and the challenge of reducing deficits, which could create a drag on the growth of emerging economies.
S&P says:
The haves and have-nots of the (energy) world
Nothing like an oil price spike to bring out the differences between the haves and have-nots of this world. The ones who have oil and those who don’t.
With oil at $124 a barrel, the stock markets of big oil importers India and South Korea posted their first weekly loss of 2012 on Friday. But in Russia, where energy stocks make up 60 percent of the index, shares had their best day since November, rising more than 4 percent. The rouble’s exchange rate with the dollar jumped 1.5 percent but the lira in neighbouring Turkey (an oil importer) fell.
Emerging currencies and shares have performed exceptionally well this year. Some of last year’s laggards such as the Indian rupee have risen almost 10 percent and stocks have jumped 16-18 percent. But unless crude prices moderate soon, the 2012 rally in the stocks, bonds and currencies of oil-poor countries may have had its day. Societe Generale writes:
As oil prices are now flirting with $125 per barrel, it is reasonable to start thinking about the potential impact on global emerging markets of an oil price shock and the currencies likely to gain the most from elevated oil prices and those that won’t….Russia appears as the clear winner of a potential oil price shock, and the rouble is therefore the best hedge against this risk
The bank advises its clients to buy the rouble and sell the currencies of oil importing Israel and Hungary. In Asia it suggests selling the Korean won. It also recommended exiting long positions on the Turkish lira.
Russia is the clear winner. Revenues from the energy sector provide half the state’s income and according to the graphic below from SocGen, oil exports account for 15 percent of Russia’s economy. At the other end of the spectrum are Taiwan, Korea and Turkey where oil imports make up between 7-12 percent of GDP.
