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This index of non-energy industrial commodities (mundane things such as burlap, butter, cocoa beans, copper scrap, corn, cotton, hides, hogs, lard, lead scrap, print cloth, rosin, rubber, soybean oil, steel scrap, steers, sugar, tallow, tin, wheat, wool tops, and zinc) began to weaken last summer as the Eurozone sovereign debt crisis was heating up and fears of another financial crisis caused sparked a wave of risk-aversion and de-risking: swap spreads rose, equities declined, Treasury yields plunged, and credit spreads widened as investors feared a double-dip recession. Yet so far this year, we have seen just the reverse: swap spreads, particularly in the U.S., have declined, equities are up, credit spreads have tightened, and now—as the above chart shows—commodity prices are turning up (as of Friday, the CRB Spot index had exceeded both its 50- and 100-day moving average). Moreover, copper prices have jumped 27% since October, and the JOC metals index is up almost 16% since December. All of this suggests that global growth fundamentals are improving.
As this chart of credit default swap spreads shows, there has been a substantial improvement in spreads since late November '11. Spreads are still relatively high, but there's been important improvement on the margin.
I note again that Treasury yields remain terribly depressed, despite all the stirrings of activity going on. How much longer can the bond market remain terrified of growth?
32 comments:
I think bond investors are anticipating possible deflation, and so that is holding down yields.
Certainly, we have seen deflation in other investable assets. Had you held onto bonds since 2007, you would be able now to buy real estate for half price, while earning some interest and gaining a good amount of bond appreciation. That's asset deflation in property. You can buy twice as much property as before.
Stocks have done nothing since 1999, and are down from all-time high of Dow Jones 14,000 July 2007--more deflation. Again, bondholders can buy more company equity than four years ago---deflation.
Why not park money in bonds? Other assets are getting cheaper all the time. It is the Japan investment quandary. Only bonds seem to hold their value.
The last three CPI readings are flat to down.
Maybe bonds are the place to be. The Fed may be passively tightening the money supply, and the FOMC is dominated by self-styled inflation "hawks" who get diarrhea every time the economy shows some spark.
Japan, once the world's second-largest economy, has had tight money for 20 years, and global commodities roared ahead. The Fed has been tight--so tight we now have a dead CPI--and commodities have roared ahead. Commodities have roared ahead due to demand from China and India.
History is funny. There was a time that Ronald Reagan was hailed as a "Great inflation Fighter." When Reagan left office, inflation was running at five percent, much better than the double digits he inherited.
Now Obama may upstage Reagan. Obama may leave office with inflation at zero, or even deflation. But he gets no credit. Obama needs better PR.
Funny how unimportant inflation is, next to the more important goal of robust growth.
This is how I see Treasury yields:
QE as far as the eye can see = lower supply of treasuries/longer dated bonds = higher prices = lower yields.
This view assumes ~2% growth, max, and an ever-present fear of tail risks...not entirely irrational.
Perf is hitting on a good point. We are in a new era of QE as far as the eye can see. Global Sovereign balance sheets skyrocketed simultaneously and it will take decades to unwind...
PL-
Monetizing debt makes sense when inflation is dead and output low.
BTW, if fighting inflation is so important, then Obama has wrested the (dubiously bestowed) title of "Great Inflation Fighter" from Ronald Reagan hagiographers.
The Obama-Bernanke combo has steered us out of the Great Bush jr. Recession, and into the promised land of Zero Inflation. Nirvana. Euphoria.
Gee, why don't I feel so great?
Because inflation is just not that important, that's why. The econo-shamans chant verses in tribute to the glories of zero inflation, but I would prefer meat on the table.
BTW, possible good news here. Pep Boys is going private at 24 percent premium to market.
That suggest private market believes what Grannis is saying, that many public cos. are cheap.
If true, and if financing eases up a bit, we may see a "going private" rally on Wall Street, as companies appreciate to higher "going private" level.
Could result in a 15 percent rise this year alone.
Ben,
Printing money can only change the price of things, not the level of output. Basic econ 101.
Once this is grasped, then there is no worry of inlfation or DEFLATION.
Scott,
I have enjoyed your blog for the past year or so. I have a question that I would like to throw at you and see if would be one of your future posts.
What do you think about the demographic trend of retirement of the baby boomers? And how will that trend affect the overall economy over a shorter term and longer term horizon?
There are authors out selling the story of how the US and other countries are going through a general reset because of the post war generation boom aging and going past their "peak spending" years. Most notably, Harry Dent is arguing the inevitable effects of the Boomer Generation going past their peak spending years dooms the US and global economies in the not-too-distant future. I wondered if you had any thoughts on this subject.
Thanks,
Trent
PL--Yes, but there is such a thing as money illusion. Myself, if Uncle Sam tosses a $100 bill out on the street I will work to get it in my hand. Output goes up.
Also, debts are paid back in nominal dollars. If we have deflation, the debt burden grows worse, even as people decide to not buy stocks or real estate. Japan has tried the deflation route. Uglier than an unflushed toilet.
"Monetizing debt makes sense when inflation is dead and output low."
There is another word for "monetizing debt": Stealing.
Let me edit your statement slightly:
Stealing makes sense when someone else has something I want and I can get away with it.
Junkyard Dawg-
Inflation is not stealing. Bondholders bought bonds knowing the risks.
If what you say is true, then deflation is stealing from debtors.
So we are stuck in the ridiculous position of trying to precisely to maintain zero inflation, despite floods of new goods and services that render measuring inflation often futile.
And maintaining precisely zero inflation (as measured, however dubiously) even if doing so corrodes real economic growth.
The nay people hurt by moderate inflation might be drug lords with huge cash holdings. Everyone else benefits.
Do not genuflect to gold or paper currency, such sentiments are the demented extreme of theo-monetarism, practiced by econo-shamans and amateurs to bray about the yellow metal.
I worship real, material growth.
Time to Fire up the Engines
"U.S. Stocks in Longest Valuation Slump Since Nixon"
U.S. equities have been stuck below the five-decade average for the longest period since Richard Nixon’s presidency, a sign investors don’t trust earnings even after a three-year bull market.
Analysts estimate profits in the Standard & Poor’s 500 Index will reach a record $104.78 this year after increasing 125 percent since the end of 2009, the fastest expansion in a quarter century, according to data compiled by Bloomberg. American companies are boosting income so much that even after stocks doubled, the S&P 500 hasn’t traded above its 16.4 mean ratio for 446 days, the longest stretch since the 13 years beginning in 1973.
Battered by the 14 percent decline in the S&P 500 since 2000, the worst financial crisis since the Great Depression and the so-called flash crash 21 months ago, investors are staying away from stocks, even after record profits, 10 quarters of U.S. economic growth and promises by the Federal Reserve to keep interest rates near zero through 2014. Of the $37 trillion erased from global equities in the credit crisis, $24 trillion has been restored."
Man, I am ready for a bull market.
Benjamin said...
"I think bond investors are anticipating possible deflation, and so that is holding down yields."
There is no deflation, only a bond bubble.
Benjamin said...
"Monetizing debt makes sense when inflation is dead and output low."
Printing money never makes sense. It destroys savers, who are life blood of capitalism and a source of capital for enterprisers. Prosperity is created by hard work ---> saving ---> investing. Not by monetizing.
Inflation is also not dead. You just have been brainwashed by the Fed and the government. Chairman Bernanke said he will once again change the way inflation is reported. That way, inflation will be "even lower" soon. Inflation reported in the old way, from 1970s is currently running at above 10%!
Tiho-
Milton Friedman, John Taylor, Allan Meltzer and Ben Bernanke have all advised Japan to engage in sustained QE. Those are all very conservative economists. If inflation is theft, then the aforementioned are all advocating thievery.
The supply of money needs to be boosted; we need to encourage output and risk-taking.
As for capital, we are glutted with the stuff. Treasury auctions are over-subscribed. We have a global capital glut.
And to me, the real heroes are those who build businesses (usually by borrowing) or develop real estate, not lenders. Lenders are risk-averse weenies, and do not deserve much return. And they won't in coming years, as capital is so abundant.
Beyond that, Japan has tried the tight money route for 20 years, and it has been an epic failure. It just doesn't work.
I like what works.
Scott -
The Baltic Dry Index has taken a major dive in the last few months, doesn't that portend declining commodity prices ahead?
I too agree with, PERF...
Puff, is correct as the Baltic index is only about two hundred points from it's 2008 low....
The Baltic Index can be thought of as the conjunction of two independent variables: demand for bulk commodities and the size of the shipping fleet. In the absence of a major decline in commodity prices and with no reason to suspect the onset of a global recession, I am inclined to view the drop in the Baltic as being driven primarily by an increase in shipping capacity. There is a multi-year lag between an increase in commodity prices and shipping demand and the emergence of new shipping capacity.
Correction, today the Baltic reached a new four year low of 702.
Think about it, does this indicated export expansion?
Scott
You are correct, there is a massive influx of ships hitting the fleet now that were ordered during the 2006-2008 boom. It is an unbelievable amount of new supply that is masking actually quite healthy demand for commodity transport. The BDI is a rate index, not a demand index.
Is there any data source for changes in the size of the shipping fleet over time?
this shows the general uptrend in capacity into 2010, though it would be nice to have something current, along with demand data -
http://earlywarn.blogspot.com/2011/05/global-shipping-capacity.html
Our county roads are full of chuck holes and crumbling apart. The crew comes around now and then and fills the holes with hotmix that only lasts for a short while. This is not just a metaphore.
Why can't we get them fixed properly? There's money out there. Michigan actually has a budget surplus right now. The money's not circulating as it should. It's a problem of maldistribution.
There is nothing what would suggest over expansion, by the shipping industry.
Please, examine the replacement rate.
http://www.worldshipping.org/about-the-industry/containers/global-container-fleet
Benji,
So you entire theory rests on the ability of the Fed to social engineer an outcome. Good luck. We can already see the unintended consequences and the Fed will need to get more radical to squeeze out even less.
Slow motion trainwreck cuourtesy of conductor Ben Bernanke and bunk economics.
Som good news from people who track mortgages.....
especially commercial.....
U.S. Bank Loan Delinquencies - 4Q Early Estimates
In advance of final 4Q figures, Trepp has released its estimates for 4Q 2011 U.S. Bank Loan Delinquencies.
Trepp is estimating a slight drop for residential delinquency rates, suggeting a slow recovery in that segment, and healthy declines for commercial loans. In addition, large banks stepped up their sales of distressed CRE loans in 4Q, driving improvements in commercial mortgage and construction loan fronts.
Hans-
Are you kidding? Over-expansion is THE story in the shipping business today. Everybody, and I mean EVERYBODY, has been lamenting the tidal wave of new vessels joining the fleet in 2010, 2011 and 2012. You can't be even cursorily involved in shipping or invested in shipping and not know this.
Everyone should forget about bonds until interest rates reach 10-12% -- until then, we are in a buy window for dividend and rent-earning equities -- bonds are a disaster in waiting at this point...
Baseball, the three years you mentioned has an average of 5.5% replacement rate, which is near typical of the industry.
How is that considered "over-expansion?"
I would like to know.
Wednesday, February 01, 2012
The Irrelevance of the Baltic Freight Index
For those loyal CD readers who have been asking lately for an update on the Baltic Freight Index, Dennis Gartman explains in today's The Gartman Letter why its relevance as an economic indicator has diminished to the point that it is being ignored:
"There has been a great deal written of late regarding the collapsing Baltic Freight Index, with those writing about that weakness making the case that that collapse speaks volumes about the state of the global economy. This is nonsense, for the collapsing Baltic Dry Freight Index speaks only to the idiocy and greed and very poor timing of ship owners and nothing more.
We begin this discussion by stating for the record that we believe it was we here at TGL and Jim Grant of the eponymous newsletter who brought the Baltic Freight Indices to Wall Street’s attention more than a decade and a half ago. Then it was indeed a fine and useful economic tool. It rose ahead of economic growth; it fell ahead of economic weakness. Its worth was proven. We embraced it enthusiastically and we extolled its virtues.
However, in the past several years its usefulness has waned to the point where we’ve not even paid attention to its plunge. Why? Because the index has fallen for the very simple reason that there were far, far, FAR too many ships brought on line when the BFI rose from its low at or near 2000 back in 2005-06 to its high near 11,500 in 2008. Ship owners became stupidly greedy believing that these good times would continue ad infinitum.
Worse, the banks that supported them became even more ignorant and financed those dreams. Ships were built and they were big ships and bigger. Ships were being scrapped, but the ships being scrapped were capable of carrying 2-5 thousand TEUs (twenty-foot export containers) and they were being replaced by ships capable of carrying 15-20 thousand TEUs! We are not math whizzes here at TGL, but even we know that one has to scrap a lot more 2-5 thousand TEU carriers to offset one carrying 17 thousand.
Further, the cost of moving a ship carrying 15-20 thousand TEUs is not much different than that of one carrying 1/10th as many. Once the ship is underway, the fueling cost of the larger ship is marginally higher than that of the smaller. Given the numbers of large ships contracted for and built over the course of the past two or three years, the over-supply of space-aboard-ship is high and is rising. Greed and stupidity have trumped economic wisdom.
Thus, where others are pointing to the weakness in the Baltic Dry Index… it has fallen 11,500 in 2008, to 4,500 in early 2010 to 800 presently!.... as evidence of economic weakness we suggest instead that it is a simple inverse index of stupidity and nothing more. Rather, we count the numbers of TEUs moving through the port facilities around the world as the true signal of economic strength or weakness, and those numbers are rising, not falling. The BFI was a fine index to watch fifteen years ago; it ain’t no more, unless you are trading shipping owner’s greed and stupidity."
Puffer, thank you for the excellent reference!
Thank you one and all for the education regarding the shippers!!
http://www.shippingonline.cn/news/newsContent.asp?id=22111
What's in your wallet? No shippers, Sir!
Benji,
Read my post again I didn't say inflation was stealing, I said monetizing debt was stealing. Big difference. I can explain it to you if you need me to.
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