Edge and Odds

The enemy of knowledge is not ignorance, it’s the illusion of knowledge (Stephen Hawking)

It ain’t what you don’t know that gets you into trouble. It’s what you know for sure that just ain’t so (Mark Twain)

Edge and Odds

Invest with smart knowledge and objective odds

NEW$ & VIEW$ (14 DECEMBER 2015): More Chinese Green Shoots; EU IP Up!

China’s Industrial Production Gears Up China’s industrial production grew at a faster-than-expected pace in November, suggesting that efforts to boost growth may be bearing fruit.

The National Bureau of Statistics reported Saturday that China’s industrial production rose 6.2% in November from a year earlier, accelerating from a 5.6% increase in October. This exceeded a median 5.7% growth forecast by 14 economists in a survey by The Wall Street Journal.

Fixed-asset investment in nonrural China rose 10.2% year-over-year in the January to November period, unchanged from the January to October period and matching expectations. Retail sales rose 11.2% in November from a year earlier, accelerating from the 11% year-over-year increase in October, the statistics agency said. The retail figure was slightly above expectations. (…)

Consumption was helped last month by a tax cut for small cars and by China’s Singles’ Day online-sales festival on Nov. 11. During Singles’ Day, e-commerce platform operator Alibaba Group Holding Ltd. reported a 60% rise in year-over-year revenue to 91.2 billion yuan ($14.1 billion). However, the one-day sales event may detract from December retail numbers after many consumers front-loaded purchases, economists said. (…)

Real-estate investment rose 1.3% year -over-year, the statistics agency reported Saturday, compared with 2% growth for the January to October period. (…)

Prime Minister Li Keqiang told China’s cabinet recently that “destocking” the property market is a priority. By official count, there are 430 million square meters of unsold housing; unofficially there is lots more. (…) One municipality near the eastern city of Hangzhou is subsidizing buyers with a modest 1% of the purchase price, up to around $4,600.

There’s a wrinkle. Those with college degrees get 1.5%. A masters degree gets you 3%. A doctorate holder buying a house would receive 10%. In China, education pays.

Yuan Declines to Four-Year Low as New Index Signals Weakness

The yuan dropped 0.06 percent to close at 6.4591 a dollar in Shanghai, according to CFETS prices. It earlier declined to 6.4665, the weakest since July 2011. While the currency has retreated 3.9 percent against the greenback this year, it has advanced against 11 of 16 major currencies tracked by Bloomberg. The PBOC on Monday cut its reference rate by 0.21 percent to a four-year low of 6.4495. (…)

Chinese Move Would Loosen Yuan’s Peg to the Dollar China’s central bank signaled it could loosen the yuan’s peg to the U.S. dollar and let it track the currencies of its broader trading partners.

China’s central bank signaled its intention to change the way it manages the yuan’s value by potentially easing its loose peg to the U.S. dollar and instead letting it track the currencies of its broader trading partners.

In an editorial posted on its website Friday night, the People’s Bank of China said the yuan’s exchange rate would be better measured against a basket of currencies rather than the dollar alone.

The foreign-exchange trading system run by the central bank for the first time published the composition of the currency basket, which comprises the dollar, euro, yen and 10 other currencies.

It isn’t clear whether or when China would move away from the dollar in favor of the currency basket, which it has discussed in the past. But any change could have broad repercussions for currency markets—such as reducing China’s demand for dollars—as well as for investors and global trade. (…)

On Friday, the yuan recorded its biggest weekly drop against the dollar—about 0.83%—since a surprise devaluation on Aug. 11. A dollar bought 6.4553 yuan based on Friday’s closing price published by the China Foreign Exchange Trade System, or CFETS. (…)

Decoupling from the dollar peg would give the PBOC more flexibility in allowing the yuan to depreciate against the dollar, economists and analysts say.

“They’re preparing for the Fed to hike; expecting the hike would lead to a stronger dollar,” said Koon Chow, a senior strategist at Union Bancaire Privée. “They don’t want to be caught in the corner defending their exchange rate.” (…)

The FT is more direct:

China clears way for renminbi weakening Central bank switch raises investors’ fears of new currency war

(…) “By showing that the yuan has actually appreciated against a trade-weighted basket of currencies, it will be very hard for the US authorities to criticise Chinese policymakers for allowing the yuan to weaken against the dollar,” he said. (…)

Japan Tankan survey eases pressure on BoJ

Business conditions were unchanged since September, with the headline index for large manufacturers coming in at +12, compared with market expectations of a fall. (…)

In a country where some official statistics are notoriously unreliable, with gross domestic product especially prone to large revisions, the BoJ regards the Tankan as the best measure of Japan’s economy.

The quarterly Tankan is similar to ISM surveys of purchasing managers in the US but samples more than 10,000 companies and has a response rate of almost 100 per cent. The maximum possible reading is +100, the minimum -100.

Large service companies gave a reading of +25, unchanged since September and among the highest levels since the 1990s. Businesses of all sizes forecast conditions will get worse but that is common when the current reading is good.

Compared with September, companies raised their forecast for profit growth in the current fiscal year by 2 percentage points to 5.4 per cent. They also raised their forecasts for capital investment from 6.5 per cent to 7.8 per cent growth. (…)

Euro-Area October Industrial Production Rises 1.9% From Year Earlier

Euro-area industrial production climbed 1.9 percent in October from a year earlier, surpassing economists’ forecasts.

Month-on-month production rose 0.6 percent, snapping two periods of declines, according to Eurostat.

Analysts said the better-than-expected performance was as a good starting point for the final quarter of the year, with manufacturers’ orders up amid low inventories. 

The October data showed that the rebound was driven by a broad-based expansion across the industrial categories.

The production of durable and non-durable consumer goods as well as capital goods grew, after contracting in September.

Energy production expanded at a slower pace but remained a positive contributor.

Here’s the Eurostat L.T. chart, showing the EA trailing the EU28:

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And the table that reveals how erratic IP has been in 2015:image
U.S. Producer Prices Rebound

The overall Final Demand Producer Price Index increased 0.3% (-1.1% y/y) during November, following a 0.4% October decline. Prices excluding food & energy gained 0.3% (0.5% y/y) after two months of 0.3% decrease.

Final demand goods prices (35% of the total index) eased 0.1% (-1.2% y/y), down for the fifth straight month. The latest decline was led by a 0.6% drop (-19.0% y/y) in energy prices. Gasoline prices fell 1.3% (-33.4% y/y) while home heating oil prices declined 5.2% (-40.4% y/y). Residential natural gas prices were off 3.1% (-11.8% y/y) and residential electric power costs fell 0.3% (+0.1% y/y). Offsetting this decline was a 0.3% gain (-3.9% y/y) in food prices.

Final demand goods prices excluding food & energy eased 0.1% (-0.1% y/y) after declining 0.3% in October. Core finished consumer goods ticked 0.1% higher (2.4% y/y) after a 0.2% decline. Core consumer nondurables costs rose 0.2% (3.3% y/y) following no change, and consumer durables edged 0.1% higher (1.1% y/y).

Final demand services costs (63% of the total index) increased 0.5% (0.5% y/y) after a 0.3% fall. This was led by trade services which rebounded 1.2% (1.0% y/y); trade services represent the margins charged by retail and wholesale dealers and merchants. Prices for transportation of passengers rose 0.4% (-6.2% y/y) after three months of decline. Prices for transportation and warehousing of goods gained 0.4% (-1.9% y/y). Other services, including financial, health care and communications, improved 0.1% (+0.8% y/y).

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Fifth of US adults live in or near poverty Almost 5.7m Americans join lowest income ranks since financial crisis

(…) More than 45 per cent of them — almost 2.5m adults — have joined the lowest income ranks since 2011, long after the post-crisis recession was ostensibly over. (…)

They also help explain why any notion of a recovery still seems a long way off to many in the US and why the message of populist politicians such as Donald Trump that America is not working resonate on the eve of an election year. (…)

But the country’s lowest income group — defined by Pew for a three-person household as earning less than $31,402 a year — has also grown at more than five times the rate of the middle class in the past seven years. There are now 48.9m adults in this bracket in the US, up from 43.2m in 2008 and just 21.6m in 1971.

Pew’s measure of the lowest income group is relatively broad, though it calculates that almost half of the adults in this category — 23m — fell below the $18,850 poverty line for a household of three set by the US Census Bureau.

The group’s members earn half or less of Pew’s $62,804 median household income in the US last year and the $41,869 to $125,608 range Pew uses to define the American middle class. (…)

HIGH YIELD

There’s never just one cockroach!

Icahn Says High-Yield Meltdown Is ‘Just Beginning’

A day after a prominent Wall Street firm shocked investors by freezing withdrawals from a credit mutual fund, things only got nastier in the junk-bond market. Prices on the high-risk securities sank to levels not seen in six years and, to add to the growing sense of alarm, billionaire investor Carl Icahn said the selloff is only starting.

“The meltdown in High Yield is just beginning,” Icahn, who’s been betting against the high-yield market, wrote on his verified Twitter account Friday. (…)

The weakness in the market comes as credit quality in speculative-grade debt is falling. For every junk-bond issuer that had its rating boosted this year, two have been downgraded, a ratio not seen since 2009, according to data compiled by Bloomberg. (…)

HYG1211(Bespoke Investment)

Icahn’s high-yield bond fund ‘meltdown’ call overdone

(…) Friday’s high-volume selling felt like capitulation to some traders, who said it was based on a misunderstanding of the significance of the Third Avenue move, while the strength of the afternoon rebound means the bottom is now in. That rosy judgment seems premature. US high yield bond returns will be negative this year for the first time since 2008, and there are large numbers of fair-weather investors and reluctant yield-chasers who are in the asset class and who will have to be flushed out before this sell-off is over.

Third Avenue does not seem likely to be a harbinger of more mutual fund closures to come. Its fund is very different from mainstream junk bond funds. In fact, it operated more like a distressed debt hedge fund. As Morningstar points out, management had invested half the fund’s assets in bonds rated below a B grade and another 40 per cent in bonds that did not have a credit rating at all. Its losses this year have been many times those of the average junk bond fund, and its unique collection of assets would have been hard to sell in a hurry even in the pre-crisis days of ample liquidity in bond markets. (…)

With interest rates held at rock bottom and conservative bonds yielding a pittance, high yield has attracted investors who would not normally be in the asset class. Are they likely to hang around after seeing their portfolio statements bathed in red? After last week’s rout, US junk bonds are showing returns of minus 4.5 per cent for the year to date, according to a Barclays aggregate index.

Many high-yield investors have been comforted by the ultra-low levels of defaults on junk bonds in recent years. But those benign conditions are rapidly becoming a thing of the past. JPMorgan is forecasting the default rate among energy companies will hit 10 per cent in 2016, nearly triple this year’s rate. That pulls the overall junk bond default rate up to 3 per cent next year and the bank is forecasting that it could spike even further in 2017, to 4.5 per cent compared with the long-term average default rate of 3.6 per cent. Those forecasts were penned before the latest leg down in the oil price, so they probably underestimate the distress to come.

There is also a whole new area for investors to concern themselves with, as the retail sector appears to be entering a period of accelerating change. The customer shift to online shopping has caused profit warnings all the way up to giants such as Macy’s this year; among the less robust and more highly indebted chains who fund themselves in the junk bond market, credit quality threatens to decline sharply.

All of which is to say, one does not need to predict a liquidity crisis or a run on high-yield funds to expect further declines from this asset class. No meltdown, perhaps, but a prolonged period of misery may be in store.

Oil tumbles towards crisis-era lows â€˜Smell of fear’ in market as Brent drops more than 3%

BEARNOBULL’S WEEKENDER

Pointing up George Friedman’s World of Geopolitics via John Mauldin

(…) Well, what is on page 1 right now, or should be, is the fact that Eurasia, understood as Europe and Asia taken together, is in complete chaos while North America and the rest of the Western Hemisphere are not.

  • In Europe, we see the entire European Union dream fragmenting.
  • Russia is engaging in more and more aggressive behavior and simultaneously suffering an economic crisis.
  • The Chinese economic miracle, like Japan’s before it, has reached the point of normalization, where growth returns to more normal rates, though those rates will still be higher than in the developed world. Yet China still has a billion people living in abject poverty.
  • The Middle East is in chaos.

The heartland of humanity, if you will – the Eurasian land mass from the Atlantic to the Pacific – is now riddled with crises. Worse, the crises are merging. The Russian crisis, the Middle Eastern crisis, and the European crisis are all starting to merge into one perfect storm.

The other part of the equation is the relative isolation of the North American “island.” Latin America too is stable relative to the rest of the world, so we are seeing a huge differentiation in the world. On one side, the Eastern Hemisphere is plunging into deeper and deeper chaos. On the other side, the Western Hemisphere is increasingly stable in relative terms.

(…) The EU founders never explained how they would manage the inevitable economic and other crises that would arise. Europeans assumed that if they created a united Europe, they would enjoy perpetual prosperity. That plan stopped working after 2008, and they have never decided how to manage the pain.

Secondly, they have always needed labor. The Muslims didn’t sneak into Europe; Europe invited them, first as guest workers in the 1960s and ’70s, then as citizens of all of the rapidly developing European countries.

Europeans have never been good at integrating aliens into their midst, unlike the United States or Australia or Canada, each of which is built on layer after layer of migrants. Europeans have a more nationalist vision of the state. To be French means you must have a lineage that is French. Others can gain citizenship, but that makes native Frenchmen very uncomfortable.

So, you have a deeply fragmented continent, united only by the quest for prosperity. With a declining population, that prosperity depends in part on immigration. The Europeans don’t know how to manage immigration, and yet they don’t want to live without prosperity.

The EU project was destined to fail. Its leaders could never decide whether the nation state or the Brussels bureaucracy ultimately governed. It was chaos from the beginning, intellectually, and it took just one major misstep for all the flaws to become evident. (…)

With no sense of a shared fate in Europe, the idea that an economic problem will be solved by a joint fiscal policy suggests that other countries and other interests must dictate to the German economy or the Spanish or British economies. The Europeans are simply not prepared to trust each other in that way. Nothing in their history justifies their trusting each other. They are not prepared to give up their sovereignty.

(…) In recent decades China has been the low-wage, high-growth economic engine of the world. Through the past 150 years, we have always had one such country. In the late 19th century it was the United States.

Such economies cannot sustain themselves forever, simply because wages will rise. In China’s case, wages can rise naturally, or they can rise because China is maintaining a no-unemployment policy and is lending to corporations that really should go out of business; but in any case, at this point China’s exports are too expensive. China is now more expensive than Mexico in terms of wages and many other variables, such as transportation.

The Chinese solution is to build a domestic market. The problem is that about a billion Chinese live in households that earn less than $3 a day. (…) So Chinese leaders have this vision of developing domestic demand, but they don’t have nearly enough money or time to do that; so they are embroiled in a huge crisis, and the crisis is not just economic. It is social, in that the expectations of the Chinese are being dashed. The poorest citizens are never going to participate in the country’s prosperity.

China can go in one of two directions from here. The country could fragment, as it did through most of the century before World War II, or it could evolve into a dictatorship. What I see happening in China is the imposition of a dictatorship by Xi Jinping. He is both ruthlessly purging the party of any potential opposition and suppressing dissent. He sees that he has little choice, because China has gotten itself into an economic situation where any solution short of dictatorship will rip the society apart. The leadership will now have to clamp down very hard on both society and the economy.

(…) The traditional model in China after the central government fails is regionalism. For example, the coastal regions are more closely tied to the American and the European economies than they are to China’s. The party machinery in the coastal areas (which is right now undergoing a purge) has a great interest in maintaining those relationships and very little interest in supporting the interior.

(…) No matter how much you spend, you are not going to bring subsistence farmers up to a level that lets them support a modern economy or consume enough of the products China is producing.

China’s fantasy now is that it will be a high-tech producer. To accomplish this they must compete with Japan, South Korea, Germany, and the United States, among others. That is a tough club to break into. The Chinese can’t sustain the model they have had; they can’t really adopt the high-tech model very effectively; and they can’t develop domestic demand, because they are just too poor and have too many people to do so effectively.

(…) The normal historical pattern would be for China to break apart into different regions with different interests. Xi is trying to prevent that by utterly breaking any organization that shows signs of serious dissent.

So the two choices in China are either a fairly brutal dictatorship or regionalism and the conflict that will follow. Until 1947, regionalism was normal for China. We all assume that what happened after 1947 is the new normal. Is that right, or was it just an aberration? (…)

USD and U.S. equities anybody?

The consumer sector in 2030: Trends and questions to consider (McKinsey & Company)
The Best Books of 2015
Dear Media, Stop Freaking Out About Donald Trump’s Polls

(…) Right now, he has 25 to 30 percent of the vote in polls among theroughly 25 percent of Americans who identify as Republican. (That’s something like 6 to 8 percent of the electorate overall, or about the same share of people who think the Apollo moon landings were faked.) As the rest of the field consolidates around him, Trump will need to gain additional support to win the nomination. That might not be easy, since some Trump actions that appeal to a faction of the Republican electorate may alienate the rest of it. Trump’s favorability ratings are middling among Republicans (andawful among the broader electorate). (…)

That 25 or 30 percent of the vote isn’t really Donald Trump’s for the keeping. In fact, it doesn’t belong to any candidate. If past nomination races are any guide, the vast majority of eventual Republican voters haven’t made up their minds yet. (…)

So, could Trump win? We confront two stubborn facts: first, that nobody remotely like Trump has won a major-party nomination in the modern era.4And second, as is always a problem in analysis of presidential campaigns, we don’t have all that many data points, so unprecedented events can occur with some regularity. For my money, that adds up to Trump’s chances being higher than 0 but (considerably) less than 20 percent. Your mileage may vary. But you probably shouldn’t rely solely on the polls to make your case; it’s still too soon for that.