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(No) Conundrum 2.0

Could things possibly be any more fascinating?

Representative Kevin Brady: "I'll conclude with this. My main concern, having served on the committee in the early to mid-2000s, your able and very highly respected predecessor sat where you sat and assured the committee that maintaining low interest rates for an extended period wouldn't cause general price inflation or inflate an unsustainable asset bubble - which didn't prove to be the case. After the credit-fueled housing bubble burst in 2007, your predecessor assured the committee that the resulting weakness would be confined to the subprime segment of the housing market and the damage would be limited to about $150 billion, roughly the cost of the S&L crisis. Following the financial crisis in the fall of 2008, we were repeatedly assured the Fed had the strategy to exit from the large expansion of its balance sheet to normalize monetary policy, including the federal funds target. Yet, the goalposts have been moved time and time again - and now removed. And today, you've assured the committee once again - and I so appreciate your testimony - that the Fed is confident it can exit without sparking high inflation; but that we can't know the details or the time-table; but that the Fed and the FOMC have it essentially handled. I don't expect the Fed to be perfect. Yours is a tough job. Theirs is a tough job. But it just strikes me this over time "don't worry be happy" monetary message isn't working - at least, in my view, for the committee and certainly not for the economy at this point. I know my colleagues will ask about today's Wall Street Journal where noted economist, Federal Reserve historian Dr. Alan Meltzer, makes the point never in history has a country financed big budget deficits with large amounts of central bank money and avoided inflation. My worry is that the track record of central banks, including the Fed, in identifying these economic turning points and acting quickly to prevent inflation, that track record is not as good as we would like. So, forgive me for being skeptical. I believe we need more specifics and a clear timetable on the comprehensive exit strategy."

Good luck with that, Congressman. There will be neither specifics nor a timetable. The Fed has pretty much painted itself into a corner. QE3, in particular, fueled dangerous Bubbles in equities and corporate Credit. Meanwhile, it ensured another two years of global (largely Asian) over- and mal-investment. Today and going forward, the Fed will have little clarity as to the soundness of the financial markets or real economy. It will have minimal grasp on prospective inflation rates. So long as the financial Bubble inflates, economic output will appear OK. Yet market Bubbles guarantee intractable financial and economic fragility. Market tumult would, in short order, darken economic prospects. Very few appreciate today's dilemma.

May 8 - Bloomberg (Simon Kennedy and Ilan Kolet): "The global economy is rebooting for 'Great Moderation 2.0.' Barely five years after the worst financial turmoil and recession since the Great Depression, the U.S. and fellow advanced nations are showing a stability in output growth and hiring last witnessed in the two decades prior to the crisis, in an era dubbed the 'Great Moderation.' The lull points to a worldwide economic expansion that will endure longer than most. Volatility in growth among the main industrial countries is the lowest since 2007 and half that of the 20 years starting in 1987... Investors also are becalmed, with a risk measure that uses options to forecast fluctuations in equities, currencies, commodities and bonds around the weakest level in almost seven years... Such calm finally is providing a support for equities over bonds and giving companies and consumers long-sought clarity to spend."

What an incredibly fascinating time to be a "top down" analyst - of economics, global markets and geopolitics. And as an analyst of Bubbles, these days it's too often "Déjà vu all over again." "Tech Bubble 2.0" resonates. "Great Moderation 2.0" analysis, well, it suffers from the same misconception as the original: complete disregard for the impacts and future consequences of flawed policies and resulting Credit and asset Bubbles. With going on six years of unprecedented growth in Federal Reserve Credit and global central bank holdings, analysts should be especially cautious when it comes to extrapolating the deceptive appearance of financial and economic stability.

From an analytical perspective, I'll dismiss "Great Moderation" chatter and focus instead on the reemergence of a "Conundrum." Recall that chairman Greenspan introduced "Conundrum" into market lexicon back in 2005. Confounding the Federal Reserve (officials and models), long-term yields trended lower in the face of Fed rate increases.

From my perspective, there was No Conundrum in 2005. I addressed this topic in a May 2005 CBB, "Conundrums," and again in June 2006 with "No Conundrum, Again." The Fed had increased short-term rates from 2% to 4% between December 2004 and November 2005 with minimal impact on long-term Treasury yields or mortgage rates. I saw no mystery. Committing another major policy blunder, the Fed had held rates too low for too long. And in the midst of an increasingly speculative Mortgage Finance Bubble backdrop, timid Fed rate increases completely failed to restrain leveraged speculation. Financial conditions were remaining extraordinarily - dangerously - loose.

I want to bring in some data. Mortgage Credit growth averaged about $270 billion annually during the decade of the nineties (no slouch period for Credit growth!). Total Mortgage debt began growing at doubled-digit rates in 2002 as the Fed aggressively reflated (post-"tech" Bubble). Surging annual mortgage debt growth surpassed $1.0 Trillion for the first time in 2003. It then inflated to $1.27 Trillion in 2004 and hit an all-time record $1.45 Trillion in 2005.

It was my view at the time that long-term Treasures, agency debt and MBS were beneficiaries (downward pressure on yields) of an increasingly unstable Bubble backdrop. Essentially, the marketplace was discounting the unsustainability of both rapid system Credit growth and an unsound economic expansion. Indeed, I argued at the time that this dynamic was dysfunctional. In a key "Terminal Phase" Bubble Dynamic, liquidity and general speculative excess sustained the mispricing (and gross over-issuance) of mortgage Credit and prolonged the general Bubble period. At the end of the day, one could say bond prices had it "right" and stocks had it "wrong." It's so good to be a bond. During the Bubble period low bond yields spurred destructive excess that came back to crash stocks - while the inevitable bust proved absolutely delightful for Treasuries and agency securities.

So I am monitoring the 2014 decline in Treasury and global sovereign yields with keen interest. Of late, there's been some concern that declining long-term yields might be signaling issues thus far ignored by bullish equities investors (with the S&P500 a smidgen below record prices). From my experience, the bond market tends to be a much more effective discounter of fundamental prospects (and macro inflection points!) than equities. For sure, equities tend to turn wild late in the speculative cycle. It's worth noting that 10-year Treasury yields traded to almost 5.30% in June 2007 and then sank almost 150 basis points in five months - while the S&P 500 defied a faltering Bubble to trade to record highs in October 2007.

After ending 2013 at 3.03%, 10-year Treasury yields have declined 41 bps y-t-d. Sovereign yields have collapsed throughout Europe and have generally fallen around the globe. What's behind the decline? Are there potential ramifications for stocks and the global economy? These are critical questions, especially considering the bullish consensus view of accelerating U.S. and global growth.

Some thoughts. First of all, I'm rather convinced that we're in the "Terminal Phase" of the global government finance Bubble that began inflating more than five years ago. Credit and speculative excesses have exacerbated global distortions - including problematic wealth distribution and economic maladjustment (certainly including mounting over-capacity for too many things). For now, there are some disinflationary tailwinds exerting modest downward pressure on consumer price aggregates. Bond prices are supported by meager CPI gains throughout the developed world. I believe "safe haven" government debt markets are further supported by the unsustainability of various Bubbles, certainly including U.S. stocks, corporate debt and global risk assets more generally.

It's also my view that a rapidly deteriorating (faltering global Bubble-induced) geopolitical backdrop has begun to bolster safe haven demand for Treasuries and sovereign debt. I fear the "Ukraine" crisis marks an unfortunate end to an era of general global cooperation and integration - and the troublesome return of "Cold War" tensions and risks. Myriad risks encompass economic, financial and military. And it is difficult for me to envisage rapidly escalating tensions in the South China Sea and East China Sea as mere coincidence. Russian and Chinese governments appear determined. They both seem to be implementing plans - replete with belligerent war-time propaganda and disinformation. The U.S. is portrayed as the villain - and things seem headed in the direction of an acrimonious bipolar world. There are major potential economic ramifications that go neglected in the midst of bull market exuberance.

I will not claim to be an expert in geopolitics. My macro expertise is more in the realm of Credit, financial flows, Bubbles and associated financial and economic fragility. But these days I discern an extraordinary interplay between geopolitical and the markets. If I'm on the right track with the geopolitical, the world is quickly becoming a more dangerous place. Geopolitical risks compound the vulnerabilities associated with mounting "Terminal Phase" Bubble excesses.

Egregious Fed and central bank monetary inflation has ensured mispricing for tens of Trillions of dollars of financial assets. In particular, I fear central bank policies have incentivized enormous amounts of speculative leverage (certainly including myriad "carry trades"). This means the leveraged speculator community is once again a source of major instability. And I fear the ETF complex - having doubled in size in four years - is another avenue of potential fragility. As I've posited previously, a strong case can be made that the scope of trend-following and performance-chasing finance currently fueling market Bubbles is unprecedented. The consensus view dismisses the notions of speculative excess, Bubbles and fragility.

And here's where things get really interesting. Whether things blow up soon or not (in Ukraine or the China Seas), newfound geopolitical uncertainties have unexpectedly boosted market risk. I believe the more sophisticated market operators have likely begun to take some risk off the table. De-risking/de-leveraging wasn't much of an issue when the Fed was adding $85bn of monthly market liquidity. But with the Fed now in the waning months of its QE operations, the markets are increasingly susceptible to a bout of "risk off." If the hedge funds are turning more risk averse, this would likely mark an impending inflection point in terms of overall marketplace liquidity.

I suspect the markets have already entered a period of unusually high risk. What the bulls see as "healthy rotation," I view as confirmation of incipient risk aversion, greed transforming to fear, and the overall "inflection point" thesis. With QE winding down, there is impetus for the leveraged speculators to push forward with de-risking while Fed liquidity remains available. Bullishness is so entrenched that any serious market retreat would catch most by surprise. A scenario where the hedge funds bound for the exits as a spooked public clicks the sell button on ETF holdings doesn't these days seem like such a longshot.

Yet I over-simplify things. The geopolitical backdrop has surely turned incredibly complex and nuanced. I believe Russia and China have increasingly serious issues with U.S. dominance over global finance. Both have serious domestic problems that might incentivize them to act out - and perhaps even act out as partners.

At the same time, the U.S. and the West are hoping financial and economic sanctions (as opposed to military confrontation) will alter Putin's behavior. A weak ruble and faltering Russian stocks and bonds are seen as pressuring Putin and his inner circle. As things unfold, I would expect officials from Russia and China to demonstrate resolve of steel against Western pressure (financial and otherwise). And it would seem reasonable that the performance of Western stock and bond markets now also plays into the new Cold War calculus. It would appear an especially inopportune time for a bout of serious market tumult. From a game theory perspective, perhaps this even reduces the odds of a near-term market blowup. Personally, I wouldn't want to be on it.

It was another interesting week in the markets. In the category "careful what you wish for," Mr. Draghi finally seemed to get some traction with a weaker euro. The euro declined 1.1% against the yen this week to the lowest level in two months. It is worth recalling that euro weakness versus the yen back in late January corresponded with a fleeting bout of market "risk off." How big is the yen carry trade - borrowing in cheap yen to speculate in higher-yielding European stocks and bonds? Might this be an important trade that risks pushing the leveraged players into a more urgent de-risking/de-leveraging mode?


For the Week:

The S&P500 slipped 0.1% (up 1.6% y-t-d), while the Dow added 0.2% to a record high (up 0.04%). The Utilities declined 0.8% (up 10.3%). The Banks dropped 0.9% (down 1.9%), and the Broker/Dealers fell 2.4% (down 5.1%). The Morgan Stanley Cyclicals were down 0.4% (up 2.5%), while the Transports added 0.3% (up 4.3%). The S&P 400 Midcaps declined 0.6% (up 0.8%), and the small cap Russell 2000 fell 1.9% (down 4.9%). The Nasdaq100 declined 0.9% (down 1.0%), and the Morgan Stanley High Tech index fell 1.0% (down 1.1%). The Semiconductors were little changed (up 7.7%). The Biotechs added 0.4% (up 7.5%). With bullion down $11, the HUI gold index dropped 3.1% (up 11.0%).

One- and three-month Treasury bill rates ended the week at two bps. Two-year government yields declined two bps to 0.385% (unchanged y-t-d). Five-year T-note yields fell 3 bps to 1.63% (down 11bps). Ten-year Treasury yields were up four bps to 2.62% (down 41bps). Long bond yields jumped 10 bps to 3.46% (down 51bps). Benchmark Fannie MBS yields were unchanged at 3.27% (down 34bps). The spread between benchmark MBS and 10-year Treasury yields narrowed four to 65 bps. The implied yield on December 2015 eurodollar futures fell 10 bps to 0.985%. The two-year dollar swap spread was unchanged at 13 bps, while the 10-year swap spread declined three to eight bps. Corporate bond spreads were mostly narrower. An index of investment grade bond risk was little changed at 64 bps. An index of junk bond risk declined four to 342 bps. An index of emerging market (EM) debt risk dropped 17 to 279 bps.

Debt issuance remained steady. Investment-grade issuers included Celgene $2.5bn, Caterpillar $2.0bn, JP Morgan $2.0bn, Xerox $700 million, Hasbro $600 million, Union Pacific Railroad $500 million, Eastman Chemical $350 million, Mead Johnson Nutrition $500 million, Southern Cal Edison $400 million, National Retail Properties $350 million, Waste Management $350 million, USAA Capital $350 million, DT Energy $350 million, Northern States Power $350 million, Appalachian Power $300 million, Pacific Gas & Electric $300 million, Citigroup $200 million, Export Development Canada $250 million, Oncor Electric Delivery $250 million and National Rural Utility Coop $250 million.

Junk funds saw inflows of $368 million (from Lipper). Junk issuers included Kratos Defense & Security Solutions $625 million, Rayonier AM Products $550 million, Berry Plastics $500 million, Essar Steel Minnesota $450 million, Comstock Resources $400 million, Murray Energy $400 million, Ocwen Financial $350 million, Radian Group $300 million, Forestar USA Real Estate $250 million, Excel Trust LP $250 million, Hiland Partners LP $225 million, Gibson Brands $150 million and New Gulf Resources $270 million.

Convertible debt issuers this week included Cobalt International Energy $1.15bn.

International dollar debt issuers included AERCAP $2.6bn, China Cinda Finance $1.5bn, CNPC General Capital $1.5bn, Caixa Economica Federal $1.3bn, Ontario $1.25bn, Manitoba $750 million, Sanders RE $750 million, International Bank of Reconstruction & Development $900 million, Fibria $600 million, Transfield Services $325 million, Tonon $230 million and Barclays $220 million.

Ten-year Portuguese yields declined 9 bps to 3.54% (down 259bps y-t-d). Italian 10-yr yields fell 9 bps to a record low 2.95% (down 117bps). Spain's 10-year yields declined 6 bps to a record low 2.92% (down 124bps). German bund yields added a basis point to 1.46% (down 47bps). French yields declined 3 bps to 1.90% (down 66bps). The French to German 10-year bond spread narrowed about 4 to 44 bps. Greek 10-year yields dipped 2 bps to 6.11% (down 231bps). U.K. 10-year gilt yields rose 4 bps to 2.69% (down 33bps).

Japan's Nikkei equities index dropped 1.8% (down 12.8% y-t-d). Japanese 10-year "JGB" yields were about unchanged at 0.61% (down 13bps). The German DAX equities index increased 0.3% (up 0.3%). Spain's IBEX 35 equities index was little changed (up 5.8%). Italy's FTSE MIB index fell 1.8% (up 12.8%). Emerging equities were mixed. Brazil's Bovespa index gained 0.2% (up 3.1%). Mexico's Bolsa jumped 1.6% (down 2.5%). South Korea's Kospi index was little changed (down 2.7%). India's Sensex equities index jumped 2.6% (up 8.6%). China's Shanghai Exchange slipped 0.8% (down 5.0%). Turkey's Borsa Istanbul National 100 index gained 0.5% (up 11.5%). Russia's MICEX equities index rallied 5.1% (down 8.8%).

Freddie Mac 30-year fixed mortgage rates dropped eight bps to 4.21% (up 79bps y-o-y). Fifteen-year fixed rates fell six bps to 3.32% (up 71bps). One-year ARM rates declined two bps to 2.43% (down 10bps). Bankrate's survey of jumbo mortgage borrowing costs had 30-yr fixed rates down eight bps to 4.58% (up 67bps).

Federal Reserve Credit last week expanded $5.6bn to a record $4.256 TN. During the past year, Fed Credit expanded $980bn, or 29.9%. Fed Credit inflated $1.445 TN, or 51%, over the past 78 weeks. Elsewhere, Fed Foreign Holdings of Treasury, Agency Debt gained $5.4bn to $3.285 TN. "Custody holdings" were down $69bn year-to-date.

Global central bank "international reserve assets" (excluding gold) - as tallied by Bloomberg - were up $820bn y-o-y, or 7.4%, to a record $11.923 TN. Over two years, reserves were $1.449 TN higher for 14% growth.

M2 (narrow) "money" supply jumped $51.2bn to a record $11.243 TN. "Narrow money" expanded $708bn, or 6.7%, over the past year. For the week, Currency increased $1.7bn. Total Checkable Deposits fell $12.2bn, while Savings Deposits surged $63bn. Small Time Deposits slipped $2.3bn. Retail Money Funds increased $1.1bn.

Money market fund assets rose $16.9bn to $2.591 TN. Money Fund assets were down $145bn y-t-d, while gaining $8bn from a year ago, or 0.3%.

Total Commercial Paper jumped $10.7bn to $1.042 TN. CP was down $3.4bn year-to-date, while increasing $50bn over the past year, or 5.0%.

Currency Watch:

The U.S. dollar index added 0.5% to 79.90 (down 0.2% y-t-d). For the week on the upside, the South African rand increased 1.3%, the Australian dollar 0.9%, the Canadian dollar 0.7%, the South Korean won 0.6%, the Mexican peso 0.5%, the Norwegian krone 0.4%, the Brazilian real 0.4%, the Singapore dollar 0.3% and the Japanese yen 0.3%. For the week on the downside, the Swedish krone declined 1.0%, the Swiss franc 1.0%, the euro 0.8% the Danish krone 0.8%, the New Zealand dollar 0.6% and the British pound 0.1%.

Commodities Watch:

May 8 - Bloomberg (Ott Ummelas): "China, which uses more oil than any country except the U.S., raised daily crude imports to a record in April as a new refinery and stockpiling bolstered demand. Overseas purchases increased to 27.88 million metric tons... That's about 6.81 million barrels a day, up from the previous record of 6.66 million in January. 'China imported more crude probably to fill inventory and meet demand that will rebound in June following the maintenance season,' Amy Sun, an analyst with ICIS-C1 Energy, said..."

May 8 - Bloomberg (Alex Davis): "China's inbound shipments of copper surged 52% in April from a year earlier while iron ore jumped 24% amid an unexpected increase in the nation's overall imports and exports for the month. Copper purchases rose to 450,000 tons and iron ore climbed to 83.4 million tons... Strong demand after price declines helped fuel the gains, Ivan Szpakowski, a Shanghai-based analyst at Citigroup Inc., said..."

The CRB index slipped 0.8% this week (up 8.7% y-t-d). The Goldman Sachs Commodities Index declined 0.6% (up 2.4%). Spot Gold fell 0.8% to $1,289 (up 6.9%). July Silver lost 2.2% to $19.12 (down 1%). May Crude increased 23 cents to $99.99 (up 2%). June Gasoline dropped 1.6% (up 4%), and June Natural Gas sank 3.1% (up 7%). July Copper gained 1.3% (down 9%). May Wheat added 0.9% (up 18%). May Corn jumped another 2.2% (up 20%).

U.S. Fixed Income Bubble Watch:

May 9 - Bloomberg (Sarika Gangar): "Companies borrowing to complete deals and prop up their stock prices are helping to keep U.S. investment-grade debt sales at about a record pace, defying predictions of a slowdown. Apple...and... Anheuser-Busch InBev NV have led $477.2 billion of offerings this year through yesterday, almost matching the $477.4 billion sold during the same period in 2013, an unprecedented year for U.S. issuance... Apple's $12 billion deal to fund shareholder rewards and AB InBev's $5.25 billion sale in January to finance its purchase of South Korea's Oriental Brewery Co. are spurring the second-busiest period ever for debt sales used to fund mergers, acquisitions, dividends and share buybacks... 'What really surprised us at the beginning of the year was the decline in interest rates,' Hans Mikkelsen, head of U.S. investment-grade credit strategy at Bank of America... said... 'Issuers have a window of opportunity to issue at very attractive yields that they didn't expect."

May 6 - Financial Times (Tracy Alloway and Vivianne Rodrigues): "For almost two years the money rolled in. Then, last month, it stopped. Ninety-five consecutive weeks of inflows to US funds that invest in leveraged loans made by banks came to an abrupt halt in the second week of April, when investors pulled $249m from the market. Since then, investors have continued to withdraw money from the funds, taking out $664m just last week, according to Lipper... If outflows intensify it could prove the first major test for a loan market that has experienced a sea change in recent years. Once considered the purview of large institutional buyers, 'mom and pop' investors have poured billions of dollars into mutual funds and exchange traded funds (ETFs) that invest in such loans. Wary of rising interest rates, retail investors have flocked to the floating-rate returns on offer from investing in leveraged loan funds."

May 6 - Bloomberg (Christine Idzelis): "Junk-rated companies are paying up to borrow in the loan market as investors yank more than $900 million from funds that buy the debt. At least six companies in the last week including KKR & Co.'s TASC Inc. and TravelClick have increased yields on their loans being marketed in the U.S.... About 20% of borrowers have had to offer higher interest rates or yields than initially proposed since the beginning of March, compared with fewer than 9% during the first two months of the year... Loan investors are getting more selective about what they will buy after facing three weeks of withdrawals, with the end of a 95-week streak of cash inflows..."

May 9 - Financial Times (Vivianne Rodrigues): "Investors hungry for high yielding assets are turning to one of the riskiest corners of the US corporate debt market, that of long-dated debt rated triple C, lured by the potential of stronger returns. Overall sales of triple C debt in the US have surged in recent weeks, along with the performance of the bonds, which mature in 10 years or more. The combination of very low credit ratings and longer maturities is a risky one for investors. Triple C debt, deep into 'junk' territory, is sold by companies that have the greatest probability of default. 'If you are buying triple C rated bonds maturing several years from now, you are taking significant risk. Period. It's that simple,' said Fran Rodilosso, senior investment officer... at Van Eck Global. The move into the riskiest corner of the junk bond market is coming as interest rates have moved in the opposite direction to what many expected this year."

May 7 - Bloomberg (Christine Idzelis): "Concern that regulatory scrutiny will curb the market for collateralized loan obligations may have been overblown. Morgan Stanley raised its forecast for new CLOs in the U.S. this year to as much as $85 billion, at least the third bank since April to boost projections for the biggest buyers of junk loans... CLO issuance is accelerating after concern regulatory attention would damp new formation of the funds, which provide financing to speculative-grade companies."

Federal Reserve Watch:

May 7 - Bloomberg (Vivien Lou Chen): "Yellen says Fed policies are meant to induce conditions that create greater spending. 'I would hardly endorse' the term 'goosing the stock market,' Yellen said in response to questions after speech to Joint Economic Committee. [Yellen] takes issue with the idea Fed policy has contributed to income Inequality. Still, "we probably do have an impact on the stock market."

May 9 - Bloomberg (Steve Matthews): "Federal Reserve Bank of Dallas President Richard Fisher said he favors a steady tapering in bond buying by the Fed, with a $15 billion cut to zero in October. 'Barring some destabilizing development in the real economy that comes out of left field, I will continue to vote for the pace of reduction we have undertaken, reducing by $10 billion per meeting our purchases and eliminating them entirely' at the Oct. 28-29 meeting... The Dallas Fed chief also endorsed Yellen's support for appointment of a community banker to the Fed board. 'It is very important we find a banker' who would bring a practical viewpoint to discussions with 'largely theoretical' Ph.D. economists on the Federal Open Market Committee, he said."

May 9 - Dow Jones: "The intense focus and analysis by market participants on the Fed's 'dots' has Dallas Fed chief Fisher a bit perturbed. He emphasizes the dot chart, which anonymously maps out each Fed official's rate forecast, is only 'best guesses.' Fisher even says 'one option would be to dispense with the exercise altogether' if the chart creates confusion... He ultimately asks for the public's patience as the Fed improves its communication, urging us to lean on Yellen's pressers 'to explain what simply cannot be communicated with a series of dots.'"

Central Bank Watch:

May 8 - Bloomberg (Stefan Riecher and Jeff Black): "European Central Bank President Mario Draghi signaled that officials are ready to ease monetary policy next month and stepped up his expressions of concern about the euro's exchange rate. 'The Governing Council is comfortable with acting next time, but before we want to see the staff projections that will come out in the early June,' Draghi said... ECB officials are debating how much stimulus they might need to add to a euro region economy haunted by the threat of deflation. While Draghi gave no signal that radical moves such as quantitative easing are imminent, new economic forecasts next month may give them the scope to cut interest rates or inject more money into the region's financial system."

U.S. Bubble Watch:

May 9 - Bloomberg (Elizabeth Campbell): "Consumers in the U.S. will probably pay the most ever for meat this grilling season as costs for pork and beef surge, according to the American Farm Bureau Federation. The... average prices for ground beef climbed to a record $3.698 a pound in March, the highest since at least 1984, and retail pork-chops reached $3.824 a pound, the costliest since at least 1998... 'Farmers and ranchers are raising smaller numbers of hogs and cattle,' John Anderson, the bureau's deputy chief economist, said... 'This is the key factor contributing to higher retail meat-prices, a trend that is likely to continue through the summer and, at least for beef, into next year.' The U.S. cattle herd started the year at the smallest since 1951 as ranchers struggled to recover from years of drought."

May 6 - Bloomberg (Prashant Gopal): "The U.S. trophy-home market is shattering price records this year as an increasing number of residential properties change hands for more than $100 million. Barry Rosenstein, founder of hedge fund Jana Partners LLC, has purchased an 18-acre (7.3-hectare) beachfront property in East Hampton, New York, for $147 million... That would break the U.S. single-family price record of $120 million set last month with the sale of a Greenwich, Connecticut, waterfront estate on 51 acres. In Los Angeles, a 50,000-square-foot (4,600-square meter) home sold in February for $102 million in cash after a bidding war. The world's richest people are moving cash to real estate as they seek havens for their wealth. In the U.S., an improving economy and stocks at a record are bolstering confidence among the affluent. Home purchases of $2 million or more jumped 33% in January and February from a year earlier to the highest level for the two-month period in data going back to 1988, according to... DataQuick."

May 6 - Bloomberg (Tim Jones and William Selway): "Bold talk of cutting state income taxes is becoming muted as U.S. governors and legislatures face the reality that they can't afford to keep their promises, even in an improving economy. ...Nationwide, state revenue growth in the year's first three months rose less than 1% from a year earlier, according to estimates by the Nelson A. Rockefeller Institute of Government... That's the smallest gain since 2010, and it has forced reconsideration -- or abandonment -- of pledges of relief. 'What looked like good news that allowed for some tax cutting has not only stopped, but it has reversed and started becoming bad news,' said Donald Boyd, who tracks state finances at the institute. 'It's hard to cut taxes in a big way when times are still kind of tight and you've had several years of serious budget cuts. Tax cuts are coming up against a lot of other priorities."

May 6 - Bloomberg (Richard Rubin and Margaret Collins): "Premature withdrawals from retirement accounts have become America's new piggy bank, cracked open in record amounts during lean times by people like Cindy Cromie, who needed the money to rent a U-Haul and start a new life... The Internal Revenue Service collected $5.7 billion in 2011 from penalties, meaning that Americans took out about $57 billion from retirement funds before they were supposed to."

May 7 - Bloomberg (Ian Katz): "Former Treasury Secretary Timothy F. Geithner said in his new book that members of the Obama administration 'talked openly' about nationalizing banks such as Citigroup Inc. in the aftermath of the financial crisis... Geithner also said he refused to fire Kenneth Lewis, then chief executive officer of Bank of America Corp., according to the report today. Geithner's book, 'Stress Test: Reflections on Financial Crises,' is to be published May 12."

Geopolitical Watch:

May 9 - Bloomberg (Ott Ummelas): "NATO Secretary General Anders Fogh Rasmussen speaks... Russia has manipulated media, spread propaganda about NATO. NATO ready to reposition troops, hold more drills in response to Russian actions. Security environment has changed dramatically. NATO regrets that Russia sees it as adversary. Russia should 'step back from the brink' and fulfill intl commitments that are critical to security, stability 'Let me stress that NATO as an alliance has decided to suspend all practical cooperation with Russia.' NATO disputes Russia's claim on troop exit from border..."

May 8 - Associated Press: "President Vladimir Putin has overseen a military exercise involving Russia's nuclear forces amid escalating tensions over Ukraine... He said that the maneuvers involved the military across the entire Russian territory, including the nation's nuclear forces. Putin was quoted as saying by Russian news wires that the exercises simulated dealing a massive retaliatory nuclear strike in response to an enemy attack -- an unusually blunt statement that reflected tensions with the West running high over Ukraine."

May 6 - Bloomberg (Michael Heath): "The commander of U.S. air forces in the Pacific said Russia has 'increased drastically' its long- range bomber patrols in northeast Asia as ties with America's allies deteriorate over upheaval in Ukraine. General Herbert Carlisle said an F-15 fighter jet had intercepted a Russian 'Bear,' a designation for the Tupolev Tu-95 strategic bomber, that flew toward Guam, where the U.S. has military facilities... 'What Russia is doing in Ukraine and Crimea has a direct effect on what is happening in Asia-Pacific,' Carlisle said... 'Some of the things we've seen is their long-range aviation, and the increase in that. They've come with their long-range aviation out to the coast of California. They circumnavigated Guam.' The news of a step-up in Russian pressure in the region follows U.S. President Barack Obama's visit last month to Japan and South Korea, allies that host American bases... 'Ukraine and Crimea is a challenge for us, and it's a challenge for us in the Asia-Pacific as well as Europe,' Carlisle said. 'The number of long-range aviation patrols that have gone around the Japanese islands as well as around Korea have increased drastically.'"

May 9 - Bloomberg (Evgenia Pismennaya, Yuliya Fedorinova and Ilya Arkhipov): "Russian President Vladimir Putin plans to open the door to Chinese money as U.S. and European sanctions over Ukraine threaten to tip the economy into recession, according to two senior government officials. The move would roll back informal limits on Chinese investment as Russia seeks to stimulate growth, said the official... The government wants to lure cash from the world's second-biggest economy into industries from housing and infrastructure construction to natural resources, they said... Putin is turning to Asia as financing from the U.S. and EU tightens and capital outflows surge amid the worst standoff since the fall of the Iron Curtain."

May 7 - Reuters (Linda Sieg): "The idea that Japan can improve its security without dropping a long-standing ban on aiding friendly countries under attack is a miracle that just won't happen, the acting head of an advisory panel to Prime Minister Shinzo Abe said... Abe has made clear that he wants to lift the ban on so-called collective self-defense to bolster security ties with the United States as China expands its military and North Korea develops its nuclear capabilities. The lifting of the ban would be a major turning point for the military, which has not engaged in combat since its defeat in World War Two under a U.S.-drafted pacifist charter."

May 8 - Financial Times (Demetri Sevastopulo and Geoff Dyer): "The US condemned China on Wednesday for moving an oil rig into waters disputed with Vietnam, calling the decision 'provocative' and likely to 'raise tensions'. These tensions in the South China Sea had earlier escalated dramatically after Vietnam said Chinese ships rammed its vessels near the Paracel Islands and the Philippines detained a Chinese fishing boat and crew. 'This unilateral action appears to be part of a broader pattern of Chinese behaviour to advance its claims over disputed territory in a manner that undermines peace and stability in the region,' said Jennifer Psaki, US state department spokeswoman... The strong statement from the US state department follows a number of occasions in recent months when the Obama administration has adopted tough rhetoric to criticise Chinese actions in the South China Sea."

May 9 - Reuters: "China's foreign ministry blamed the United States on Friday for stoking tensions in the disputed South China Sea by encouraging countries to engage in dangerous behavior, following an uptick in tensions between China and both the Philippines and Vietnam... The United States has called China's deployment of the rig 'provocative and unhelpful' to security in the region, urging restraint on all sides. Chinese foreign ministry spokeswoman Hua Chunying repeated that the waters the rig was operating in, around the Paracel Islands, were Chinese territory and that no other country had the right to interfere. 'It must be pointed out that the recent series of irresponsible and wrong comments from the United States which neglect the facts about the relevant waters have encouraged certain countries' dangerous and provocative behavior... We urge the United States to act in accordance with maintaining the broader picture of regional peace and security, and act and speak cautiously on the relevant issue, stop making irresponsible remarks and do more to maintain regional peace and stability,' she added."

May 7 - Bloomberg: "Tensions flared in the South China Sea today as armed Philippine police arrested Chinese fishermen near a disputed shoal and Vietnam said a boat collided with a Chinese vessel during a confrontation in waters close to islands claimed by the two countries. The Chinese fishing vessel and its crew were detained by the Philippines near the Nansha Islands, known as the Spratly Islands in English...The incident came as Vietnam said Chinese vessels intentionally collided with one of its navy and coast guard boats near an exploration rig placed by China off the Vietnamese coast near the Paracel Islands. China has 80 vessels in the area, including seven military craft, Ngo Ngoc Thu, Vice Commander of Vietnam's Coast Guard said... China accused both countries of violating its sovereignty over the island chains, saying Vietnam was being 'disruptive' and demanding the release of the fishermen by the Philippines... The incidents come as China takes a more assertive stance on maritime territorial issues that are souring relations with neighbors from Vietnam to Japan."

May 7 - Reuters (Nguyen Phuong Linh and Michael Martina): "Vietnam said ... a Chinese vessel intentionally rammed two of its ships in a part of the disputed South China Sea where Beijing has deployed a giant oil rig, sending tensions spiraling in the region. The foreign ministry in Hanoi said the collisions took place on Sunday and caused considerable damage to the Vietnamese ships. Six people sustained minor injuries, it said. 'On May 4, Chinese ships intentionally rammed two Vietnamese Sea Guard vessels,' said Tran Duy Hai, a foreign ministry official and deputy head of Vietnam's national border committee. 'Chinese ships, with air support, sought to intimidate Vietnamese vessels. Water cannon was used,' he told a news conference... Six other ships were also hit, other officials said, but not as badly. Dozens of navy and coastguard vessels from both countries are in the area where China has deployed the giant rig, Vietnamese officials have said. 'No shots have been fired yet,' said a Vietnamese navy official..."

May 8 - Bloomberg: "China has maintained 'restraint' in the face of 'provocations' by Vietnam in a dispute over China placing an oil rig in a disputed part of the South China Sea, says Yi XianLiang, China's deputy director general of boundary and ocean affairs. Between May 2 and May 7 Vietnamese ships rammed Chinese ships 171 times near an oil rig China is setting up in the disputed waters: Yi. Vietnam says Chinese ships rammed its vessels in the area 'In the face of Vietnamese provocations China had to increase its security forces and took action to stop Vietnamese activities such as ramming:"

China Bubble Watch:

May 9 - MarketNews International: "China's forex regulator warned Friday of the risk of increasingly volatile cross-border capital movements this year, while pledging to quicken the pace toward a convertible yuan under the capital account... 'The two-sided volatility of cross-border capital will increase,' the regulator said... 'Externally, the Federal Reserve's exit from quantitative easing policy will be repeatedly speculated by markets, the negative impacts will gradually pile up, emerging markets will once again suffer shocks which will spread to our country,' it said."

May 9 - Reuters (Clare Jim) - China's efforts to cool its property sector look to have been more effective than intended, as a sharp drop in construction activity and falling prices threaten what had been one of few firing engines of the world's second-largest economy. Developers know the market is struggling -- their inventory is rising and prices are falling... 'To us, it is no longer a question of 'if' but rather 'how severe' the property market correction will be,' Nomura analysts said... They estimated the property slump could take a full percentage point off China's economic growth this year... Even Beijing has a problem with excess supply. Figures from data provider China Real Estate Information Corporation (CRIC) show more than 13 months supply of unsold housing in the capital, an increase of 80% from a year ago... Last week, media reported developer Gold Tai Yuen Group cut prices by 30% on a high-end project still being built in Shanghai... CRIC said large developers had joined followed smaller firms in cutting prices in the eastern city of Hangzhou, one of the bigger cities to experience a steep property correction. Developers pointed out that it is difficult to halt or delay projects, because they could be fined or even have their land seized if they fail to finish construction within a time limit... CRIC figures for April show the area of property sold in Beijing and Guangzhou plummeted an annual 46% and 40% respectively, while Shanghai and Shenzhen down 29% and 26%... At land auctions, an important source of funds for debt-strapped local governments, the construction area sold dropped 83%, while the total sold value declined 10%. The downturn could flow through to some 40 other related industries, ranging from cement to furniture."

May 6 - Bloomberg: "China's cooling property market has helped push its budget into deficit and prompted Standard & Poor's to warn of risks to the finances of regional borrowers. Growth in national fiscal revenue slowed to 5.2% in March from 8.2% in February... The budget swung to a 326 billion yuan ($52bn) deficit from a 257.5 billion yuan surplus. New home sales in 54 cities tracked by Centaline Group slid 47% from a year earlier to a four-year low over the May 1-3 Labor Day holidays. Property market weakness would undermine Premier Li Keqiang's efforts to spur growth and make it harder for local- government financing vehicles to repay debt using land sales... 'A significant deterioration in the property market and land prices will have very wide-ranging implications for the entire economy and also credit markets,' Christopher Lee, head of corporate ratings for Greater China at S&P... said... 'Land is used as the collateral for financing for LGFVs. It's also used as the collateral for property developers to get construction funding.' Local governments have set up thousands of financing vehicles to fund projects from subways to sewage systems, which account for 80% of state capital spending and 40% of tax revenue... Total liabilities of regional authorities rose to a record 17.9 trillion yuan as of June 2013, the National Audit Office estimates."

May 5 - Financial Times (Simon Rabinovitch): "Smaller Chinese banks have ramped up their shadow lending activity, adding to the financial risks that threaten to trip up the world's second-biggest economy. The 2013 results of unlisted banks, published over the past week, reveal that city-based lenders have been among the most aggressive in China in using complex credit structures to evade regulatory controls and issue higher-yielding loans... A Financial Times analysis of the balance sheets of 10 unlisted banks - institutions that are leading lenders in their home cities but have limited national reach - found that their exposure to shadow credit assets soared last year. For the 10 banks, which operate in large cities from Shijiazhuang in the north to Fuzhou in the south, investments in trust plans and holdings of other non-standard credit products climbed to 23.3% of their total assets last year, up from 14.3% in 2012."

May 7 - Bloomberg (David J. Lynch and Liza Lin): "The Chinese government is gaining an unlikely ally in its effort to overhaul the economy: striking Chinese workers. So far this year, the China operations of International Business Machines Corp., PepsiCo Inc., Wal-Mart Stores Inc., and Yue Yuen Industrial Holdings Ltd., a major supplier to Nike Inc. and Adidas AG, all have been idled by labor protests. 'This is not a blip,' says Dan Harris, a Seattle-based attorney representing companies operating in China. 'It's going to continue and get worse.' While China's communist party was founded to benefit the country's 'workers and peasants,' Chinese leaders aren't known for their patience with protest. This latest wave of labor unrest... might be different. The government wants to rebalance the slowing economy to rely more on consumption. Higher incomes for workers would be a good start."

May 9 - Bloomberg: "Consumer inflation in China moderated to an 18-month low and the decline in factory-gate prices persisted... The consumer price index rose 1.8% from a year earlier in April... That compares with the median estimate of 2.1%... and a 2.4% gain in March. The producer-price index fell 2 percent, the 26th straight decline... Today's data add to signs that domestic demand remains muted, with falling commodity prices exacerbating overcapacity in industries including steel and cement."

May 6 - Bloomberg: "President Xi Jinping's plans to open China's state-owned enterprises to competition are spurring local officials to consider asset sales that could help rein in provincial and municipal debt. Businesses controlled by local administrations, which range from hotels to retailers to power generators, had assets of 43.8 trillion yuan ($7 trillion) as of the end of March, according to Ministry of Finance estimates... 'The movement on this has happened at a surprisingly fast pace,' said Andrew Batson, an analyst in Beijing at researcher Gavekal Dragonomics who has covered China since 1998. 'Local governments have these huge off-balance-sheet debts, so they have a much stronger incentive than the central government necessarily does to try to raise cash from asset sales.'"

May 9 - Bloomberg: "Passenger-vehicle sales in China rose 13% last month as consumers brought forward purchases in anticipation more cities will implement ownership restrictions to fight pollution and congestion, according to an industry group... Six Chinese cities, the latest being Hangzhou in eastern Zhejiang province, have imposed quotas on new license plates to control the growth in vehicle population as worsening smog led Premier Li Keqiang to declare 'war' on pollution. More municipalities are considering introducing restrictions..."

Global Bubble Watch:

May 5 - Bloomberg (Susanne Walker): "In a world awash with U.S. government bonds, buyers of the longest-term Treasuries are facing a potential shortage of supply. Excluding those held by the Federal Reserve, Treasuries due in 10 years or more account for just 5% of the $12.1 trillion market for U.S. debt. New rules designed to plug shortfalls at pension funds may now triple their purchases of longer-dated Treasuries, creating $300 billion in extra demand over the next two years that would equal almost half the $642 billion outstanding, Bank of Nova Scotia estimates."

May 5 - Wall Street Journal (Dan Strumpf and Matt Jarzemsky): "The fastest start on record for corporate takeovers is providing fuel for a stock market stuck in low gear. U.S.-based companies this year have proposed or agreed to $637.95 billion worth of mergers or acquisitions -- either as the buyer or the target -- the most at this point since Dealogic started tracking these figures in 1995... Shares of the companies getting snapped up have jumped an average of 18% the day after the deal news, according to Dealogic. And contrary to conventional wisdom, shares of the buyers in proposed deals have risen. Buyers' shares are up an average of 4.6% the day after a deal's announcement. That is the highest postdeal share jump on record, according to Dealogic."

May 6 - Bloomberg (Cordell Eddings): "Axel Merk has filed the paper work, picked a name and is ready to launch Merk Investments LLC's first exchange-traded currency fund. Problem is, no one wants to put money into it. Foreign-exchange ETFs have seen investors withdraw $1.1 billion this year, or 23% of assets... The lack of demand underscores the ills facing the $5.3 trillion-a-day currency market, where returns are dwindling as the volatility investors exploit for profit drops to levels not experienced since before the financial crisis... Growth in exchanged-traded funds has been among the fastest in the history of finance -- with $2.9 trillion in assets as of the end of December, double that four years ago. If trends in currency ETFs continue, this would be the third consecutive year of outflows."

May 6 - Bloomberg (Weiyi Lim): "The fortunes of Alibaba Group Holding Ltd.'s billionaire co-founders have more than tripled this year as the company prepares for an initial public offering. Alibaba Chairman Jack Ma, 49, has a $12.5 billion net worth, up $8.9 billion year-to-date, according to the Bloomberg Billionaires Index. Joseph Tsai, the company's executive vice chairman, controls a $4.8 billion fortune."

Japan Watch:

May 6 - MarketNew International: "The Organisation for Economic Cooperation and Development has slashed its outlook for Chinese GDP growth this year and lowered its estimate of Japan's growth... While the OECD said Japan's efforts to discourage deflation and promote growth are working, it warned that fiscal consolidation plans need to be quickly implemented to offset a potential crisis that could hurt Japan and spill over into the global economy. 'With gross public debt surpassing 230% of GDP, a detailed and credible fiscal consolidation plan to achieve the target of a primary budget surplus by FY 2020 remains a top priority to sustain confidence in Japan's public finances,' the OECD said. It lowered its forecast for 2014 GDP growth in Japan to 1.2% from November's estimate of 1.5% growth..."


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