On April 21, 2015, David Stockman writes on Contra Corner:
The level of complacency in world financial markets is downright astounding—–even stupid. Today there are two more signs of extreme mania——a brokerage firm calculation that there are now $5.3 trillion of government bonds trading at negative yields and the cross-over of eurolibor into the nether world of negative yields, as well.
These deformations cannot be explained with reference to macroeconomic conditions—–such as weak growth or a temporary spot of minimal CPI gains. Instead, they are the destructive work of central banks and a few hundred monetary mandarins who have literally usurped control of the entire world economy.
And they have done it through a deft maneuver. That is, by disabling the pricing system in financial markets entirely and displacing market forces with central command and control in the form of pegged money market rates, manipulated yield curves, invitations to speculators to front-run massive central bank bond buying programs and both implied and explicit promises that rising risk asset prices will be favored and facilitated at all hazards.
All of this monetary mayhem is being done in the name of an astoundingly primitive Keynesian premise. Namely, that there is insufficient “aggregate demand” in the world and too little inflation in consumer goods and services as measured by the CPI and other consumption deflators; and that these insufficiencies can be magically remedied by ZIRP, massive government debt monetization and the rest of the easy money tool kit .
How? Why by inducing businesses and households to borrow more and spend more when they are otherwise not inclined to spend income they don’t have; and to rid them of a purported reluctance to spend even what they can afford because the price of toilet paper, tonic water, TVs and trips to the mall may be going down tomorrow.
Here’s the thing. Both of these alleged barriers to spending are postulates of Keynesian economic models, not conditions extant in the real world. Upwards of 85% of US households, for example, are not borrowing because they are already tapped out and trapped in “peak debt”. Even the borrowing rebound that has happened since the 2008 crisis has occurred for reasons that are irrelevant to the central bankers’ Keynesian predicate.
The only debt that has surged in traditional recovery cycle fashion is student debt and auto paper. The former has nothing to do with ZIRP or any other Fed machination. As a practical matter, the $1.3 trillion of student loans outstanding represent the largesse of the state, not the workings of the credit markets—-since the entire mountain of student debt is either government funded or guaranteed and there is no credit analysis whatsoever.
In fact, 45% of student debt outstanding is in non-payment status, meaning that it functions as a cash stipend. Moreover, nearly one-third of the loans which are in payment status—-that is, owed by borrowers who have run out of ways to prolong their “student” status—-are delinquent. That the tens of millions of former student debt serfs can’t and won’t pay will become a huge political issue and social policy questions, but it has nothing to do with the machinations emanating from the Eccles Building.
The surge of auto loans—–more than 30% of which are subprime—–is consequent to Fed policy, but not in a good way. Through massive and sustained financial repression, the Fed and other central banks have produced a mindless and almost panicked stampede to “yield” among bond managers and homegamers alike.
This has generated a 40% gain in outstanding auto paper—–from $700 billion at the post-recession bottom to nearly $1 trillion at present—-but, again, none of it is based on credit analysis in the traditional sense. The entire boom in auto paper is being sold to yield starved investors based on temporarily low default rates and exaggerated collateral values for the new and used cars being hocked. The latter assume, however, that there will never be another recession or that when interest rates eventually normalize that there will be enough new credit extension to support prices for the massive tranches of used vehicles which will be coming off leases and loans after 2015.
That is never going to pan out. There will be another subprime loan collapse—–this time in the auto market. And, in any event, the whole credit channel of monetary policy transmission is broken and done owing to peak debt. The central banks are just mechanically and blindly pushing on a string of monetary expansion that is levitating not the main street economy but only financial asset prices in the canyons of Wall Street.
Likewise, there is not a shred of evidence that consumers are hoarding cash and waiting for plummeting prices in order to spend themselves silly. The fact is, 50% of US households have no savings at all and live hand-to-mouth, paying the lowest prices they can find at the moment; and another 35% are spending what they can afford and need without regard to phony policy metrics like the PCE deflator less food and energy.
For crying out loud, the whole idea of hoarding among the 85% of households not invested in the casino is just plain implausible. In pretending they are attacking the phony scourge of “deflation” and “low-flation”, therefore, the central bankers are either engaging in a deliberate ruse or they have fallen victim to ritual incantation.
The real victim, of course, is the world’s financial system and economy. The central banks have now succeeded in generating a planet wide mania. Since the turn of the century that have expanded their collective balance sheets from $2 trillion to $22 trillion, causing the greatest falsification of financial prices in recorded history.
This has made cowards and crooks out of the political class and reckless gamblers out of the financial class. That’s the real meaning of the absurd position that banks with spare cash must pay another bank to assume their excess monetary digits or that governments should be paid for the privilege of issuing debt that they can never repay.
In short, the financial system has gone nuts owing to the destructive domination of central banks and the tiny posse of Keynesian academics and apparatchiks which run them. Self-evidently, the power intoxicated central bankers of the world have no intention of stopping—-meaning that only an eventual thundering crash of the system will bring their madness to an end.
But that may come sooner than you think. This morning’s survey by Zero Hedge of the sheer mania evident in markets around the world is a truly frightening portent of the gathering storm:
From Zero Hedge
By now everyone has seen the infamous chart showing how much of Europe’s government bond market is trading in negative territory.
This is simply a visual representation of three stunning facts:
- As of this moment 53% of all global government bonds yielding 1% or less.
- $5.3 trillion of all global government bonds currently have negative yields, of which 60% are European.
- and Central bank assets now exceed $22 trillion, a figure equivalent to the combined GDP of US & Japan.
Considering that central banks aren’t going anywhere in their frenzied scramble to re-export deflation to their peers, which means trillions more in debt monetizations (until they all lose patience, or credibility, whichever comes first and start paradropping money from Bernanke’s chopper) the statistics above are only going to get worse.
It is in this context that moments ago, Bill Gross said that “German 10 year Bunds are the short of a lifetime…
… however with the provision that there is one open question: timing and ECB QE (also, we can only guess that Gross means 1992 not 1993 for the pound move).
Of course, that is the $5.3 trillion question.
In the meantime, here are some observations on timing and ECB QE.
As we noted over a month ago on March 6, what will first happen before Bunds are indeed “a short of a lifetime” is that they will first all hit -0.20%. They are already well on their way.
The reason? The same one we have been pounding the table on for over three years – Europe simply does not have enough unencumbered collateral for the ECB monetize, and certainly not enough to allow the ECB to continue its QE until late 2016.
And little by little everyone is figuring this out.
Today, it’s Reuters’ turn which write that “Debt redemptions and coupon repayments are expected to be about 30 billion euros more than the value of debt sales.”
Reuters continues:
This means the ECB and national central banks (NCBs) may struggle to buy some of the bonds needed to keep the maturity of the banks’ purchases in line with the average maturity of each country’s eligible debt. The markets with the biggest net inflows this month are Spain, Germany and the Netherlands.
“This month’s low net supply figure is not helpful to the ECB/NCB aim to minimise market distortions when carrying out QE, as there could be competing flows with investors wanting to reinvest in European government bonds,” said Orlando Green, rate strategist at Credit Agricole.
What this means is that far from being the short of a lifetime right now, Bunds are in fact quite the opposite, and their progression to the hard -0.20% floor across the curve is just a matter of time before everyone decides to frontrun the ECB’s purchases over the next year. Because if the ECB will have no choice but to buy even more Bunds from the private market, then the sellers can demand any prices for these Bunds, up to and including the ECB’s hard (for now) floor of -0.20%!
Indeed, confirming that the ECB has a scarcity problem is the ECB’s stern denial of just that: “ECB President Mario Draghi said last week he saw no “scarcity” problem in bond markets.”
Let’s revisit when the 10Yr Bund is trading at -0.20%, shall we?
Meanwhile, the only question is when the benchmark Bund finally crosses the historic 0.00% threshold. There is a brief reprieve in the coming two months…
The redemption flow in euro zone bond markets may exacerbate some of these problems in April but these difficulties may ease in the next two months. Debt sales in Italy and France in particular will outweigh debt repayments in May, Credit Agricole data shows.
… After which things get very ugly, fast:
It will be a bumpy road though — a net 69 billion comes back to the market in July. So far under its programme, which began on March 9, the ECB has bought 73.3 billion euros of public sector bonds.
If ECB purchases are not market-neutral, investors may take the opportunity to speculate on what the central bank will buy in any given month, on the view that it will have to revert to neutrality by the end of the programme in September 2016.
Visually, the above looks as follows:
Of course, if Greece has anything to do with it, this ECB’s “market neutrality” will be compromised much faster: should the Greek capital controls and bank run be exacerbated in the coming days, primarily as a result of the ECB’s own ongoing attempt to spark a banking sector panic in Greece, then the 10 Year Bund may slide under 0.00% in the coming days, on its way to -0.20%.
And yes, once the entire German curve is trading at -0.20% then Bill Gross will be spot on, and Bunds will indeed be the short of a lifetime.
Just don’t expect to pocket the proceeds any time soon because, paradoxically, for that to happen, central banks have to finally lose all credibility. And the fiat in which one will enjoy the profits from the Bund short may suddenly not be worth all that much in a post central-bank world.
