No need for sophisticated prose. The week was ugly. Things look bad. There are elements similar to the year 2000 bursting of the “Dot-com” Bubble. There are parallels to the much more systemic 2008 mortgage finance Bubble collapse. Yet, for me, this week rekindled more distant memories….
Surging global bond yields and acute currency market instability. Inflation fears. Rampant Credit growth and Acute Economic Imbalances. Policy paralysis and geopolitical tensions. Especially late in the week, I found myself reminiscing of days intensely following developments on a Telerate machine, Quotron and the Dow Jones Newswire – on the fixed-income trading desk at Toyota’s U.S. headquarters in Torrance, CA. It was the summer of 1987.
I place the start of today’s swiftly concluding cycle at Greenspan’s post “Black Monday” crash liquidity assurances. I found myself on Friday pondering how many Trillions of additional liquidity the world’s central bankers would be compelled to create these days in the event of a synchronized global crash – in yet another round of desperate measures to thwart financial collapse. Consequences? Could it even work?
Things weren’t supposed to unfold this way. The Fed was clearly going to be cautious, all moves made gingerly and well telegraphed to conspicuously vulnerable markets. Given time, inflation would surely subside. The worst-case scenario would be the Federal Reserve and global central banks raising rates until something began to “Break.” There was time. Rates would remain extraordinarily low for months and quarters. Nothing too pressing.
Well, complacent markets – and central bankers – grossly misjudged two key aspects of underlying fundamentals. Inflation Dynamics were much more powerful and well-entrenched than appreciated. Similarly, Market Structure fragilities were greatly more acute than recognized. The upshot: things are “Breaking” before central bank tightening cycles even get cracking.
Things are Breaking badly in periphery Europe – with the ECB yet to even nudge the policy rate off negative 50 bps. Greek yields surged another 67 bps this week to 4.38% – with a stunning 10-session spike of 172 bps. Italian yields jumped 36 bps to 3.76% (up 167bps in 10 sessions). Yields were up 34 bps in Spain to 2.78% (131bps) and 32 bps to 2.80% (142bps) in Portugal. Even German bund yields rose 24 bps to 1.52% (96 bps), as French yields rose 29 bps to 2.10% (107bps).
Eurozone annual CPI reached a record 8.1% in May. Christine Lagarde and the ECB doves had to capitulate. Months of justification, rationalization, obfuscation and blind faith were no longer tenable. Lagarde now faces a challenge Draghi avoided: raising rates. It’s a Herculean Challenge, especially after 11 years without even a wobbly little baby step. Worse yet, rates have been negative for eight years, a period where the ECB balance sheet inflated $5 TN.
A new and notably hostile cycle is taking hold. The ECB was a leading proponent and participant in the great global central banking experiment. This exercise has failed – these days blowing up in faces in Washington, Tokyo, Frankfurt, and beyond. Inflation has become unhinged, while highly levered speculative market Bubbles are bursting. At this point, is it even feasible to contemplate giving the experiment yet another shot? Einstein’s definition of insanity.
For the first time in years, I’m seeing reference to Greece’s 200% of GDP debt load, as well as Italy’s 150%. Did these countries use the years of unlimited access to ultra-cheap finance to restructure their economies and get their fiscal houses in order? If not, they’re in some deep trouble.
The cycle has turned, and the liquidity spigot is being turned off (first at the periphery). The days of egregiously loose finance – compliments of the ECB, global central bankers, and the risk-embracing leveraged speculating community – have run their fateful course. It’s always the riskier borrowers at the “periphery,” overwhelmed with cheap finance late in the boom cycle, that are left high and dry – illiquid and insolvent – when speculative finance reverses and Bubbles begin to succumb.
We’ve witnessed this recurring cycle: boom, bust and central bank resuscitation. Repeat. My thesis holds that this is the End of the Line. Resuscitating periphery Bubbles would now require monumental liquidity injections. This liquidity, however, would these days gravitate away from deflating bonds and financial assets – instead disposed to energy, agriculture and other commodity markets – in the process only stoking New Cycle Inflationary Dynamics.
The fates of Greece and Italy, in particular, are now at the whim of a disorderly marketplace. Borrowing costs are rapidly escalating, while already problematic debt ratios will spike higher. A historic Bubble has burst. De-risking, deleveraging and illiquidity have rapidly become systemic issues. Contagion. European bank stocks were hammered 6.0% this week, with Italian banks sinking 9.2%.
Ominously, U.S. banks (BKX) were slammed 7.8% this week. Bank CDS prices reversed sharply higher. JPMorgan CDS jumped eight for the week to 90 bps, the largest weekly gain since March. BofA CDS rose eight (95bps), Citigroup eight (111bps), Morgan Stanley eight (108 bps) and Goldman Sachs four (111bps). Friday’s six bps rise in JPMorgan CDS was the largest increase since March, while Morgan Stanley’s eight bps jump was the biggest since May 2020. Everything points to mounting systemic crisis risk….
The double whammy of surging mortgage rates and skyrocketing home prices has led to ‘collapsed’ housing affordability in America, according to Chris Flanagan’s team at Bank of America… The situation has gotten so bad that it now compares to the ‘historically low affordability readings’ in the fourth quarter of 1987 and the first quarter of 2005, according to the B. of A. team. Notably, those years coincide with the ‘Black Monday’ stock market crash of 1987, when the Dow Jones Industrial Average tumbled about 22.6% in a single trading session, and the start of the subprime mortgage crisis as home prices roared higher from 2000 to 2005, and hit a multiyear high in 2006. (MarketWatch –Joy Wiltermuth)
[The above article was an excerpt from Doug Noland’s weekly commentary.]
Renowned Economist issues startling prediction | America’s Future
PhD Economist: “Don’t Bet on It”
According to former Goldman Sachs executive, Nomi Prins…
Americans who are hoping for a ‘return to normal’ are going to be shocked when they see what happens next in America.
She says, “If you’re betting your job, savings, or retirement accounts on a return to ‘normal’ you’re about to be left behind by a brand-new crisis few see coming.”