US QE3 on again ?

Mrs Gillard’s Labour Party was routed in Queensland over the weekend, a State which has been one of their traditional strongholds. The Labour party is expected to lose 44 of the 51 seats in the State Assembly. The Federal election is due in 20 months, though I have my doubts as to whether the current administration (which is holding power following deals with independents) can survive;

Australian mortgage arrears rose (overdue by more than 30 days) to 1.57% in the 3 months to 31st December 2011, from 1.52% in the 3rd Q. The Aussie housing market is coming off a massive property boom. Losses will increase, quite clearly. The RBA has been slow at reducing interest rates recently, though should do so in coming months. With a slowing China putting pressure on the one part of the economy which was doing well (the mining sector – I remain short), Australia’s economy could well decline sharply, putting pressure on the A$ as rates are cut more aggressively by the RBA. I’m short the A$ against the US$, for full disclosure purposes;

Chinese industrial companies suffered their 1st Jan/Feb decline of profits since 2009 – net income dropped by -5.2% to US$96bn, according to the National Bureau of Statistics. Profits rose by +34.3% in the same period of 2011, by comparison. Sales rose +13.4%. Chinese markets were the clear under performer today within Asian markets (Source Bloomberg);

Mr Bo’s legacy in Chongqing is being dismantled – a senior official of the deposed Politburo member’s staff in Chongquin was dismissed. The death of an UK citizen has also raised questions – there are allegations of the involvement of Mr Bo’s wife and the UK government has asked China to investigate. The Party is getting together to send a signal of unity, but the truth seems rather different ahead of the elections of 7 (out of 9) members of the State Council (the guys who run China) later this year. There is still no news as to Mr Bo;

India’s Government borrowing costs keep rising as the governments budget deficit keeps increasing and the trade picture worsens as oil prices rise. The Government is to raise US$111bn in the fiscal year starting 1st April. Whilst inflation is not under control (the benchmark wholesale price index rose to 6.95% in Feb, higher than the 6.55% in Jan), analysts expect the RBI to cut repo rates – that’s going to be tough. I continue to believe that Indian markets will under perform, as will the Rupee – for full disclosure purposes, I’m short India;

Russia may raise US$7bn in bond markets (if US$7bn, it will be the largest EM bond sale), as yields decline and the market remains on “risk on” mode. The recent significant rise in spending, as part of President Putin’s Presidential election campaign will have to be financed. Russia’s fiscal position is declining, though the high oil price offers significant support. However, if oil prices decline,…..;

Poorish government bond sales in Spain (Italy was better, and its borrowing costs continue to decline) are impacting European markets. However, Italian 10 years rose by some 7bps to 5.10% (Italy did not sell all E4bn of bonds today) following the auction, whilst Spanish 10 year yields rose 3bps to 5.36%. Spain also failed to raise the full amount of E3bn. However, to date, Spain has raised some 43% of its yearly requirement, with Italy just about half that;

The weekend elections in Andalusia (Spain’s 3rd largest regional economy, though with the highest unemployment rate) is going to make Mr Rajoy’s task of reining in the spendthrift semi autonomous regions much more difficult. Mr Rajoy’s PP controls 11 (out of 17) semi autonomous regions though and Rajoy maintains a large majority in the National Parliament. However, Andalusia has rejected Mr Rojoy’s fiscal proposals (expenditure cuts) in the past. The Spanish regional administrations are responsible for approx 36% of Spain’s budget. Mr Rajoy’s party had thought that they could win and had postponed the Federal budget till after the regional election. The ruling Socialists (through a coalition) will have 59 out of the 109 seat assembly in Andalusia. I continue to believe that Spain remains THE SERIOUS THREAT to the EZ. For full disclosure purposes, I remain short Spain;

Spanish authorities have confirmed that they will stick to the revised -5.3% budget deficit for the current year, up from the -4.4% previously agreed with the EU, though not as high as the 5.8% they had announced, unilaterally recently. However, the GDP contraction of -1.7% forecast by the IMF for this year looks difficult to achieve and with questions as to the real level of debt to GDP, rising unemployment and a weak financial sector, amongst other major economic problems, Spain will continue to pose a serious threat to the EZ. Mr Rojoy has inherited an unenviable task from, in my humble opinion, the grossly irresponsible former regime and I, for one, feel sorry for him – it looks like he’s taken on an impossible task. Mr Rajoy pledged to continue with the economic reforms today – his administration is set to release the 2012 budget shortly. He stated that there would be reforms to the energy and public services, though VAT would not be raised. However, the recent elections in Andalusia just shows the push back from the public with just austerity measures, without growth – impossible to sustain;

Portuguese 10 year bonds yielded less than 1000bps as compared with equivalent German bunds today, for the 1st time since September. I remain of the view that Portugal can and will be rescued – as will Ireland. Expect a number of favourable “deals” in due course;

Mr Monti’s reforms are making him unpopular in Italy, as you would expect. An Italian newspaper shows that his support has slipped to 44%, from 62% in early March. 44% of respondents have a negative view of Mr Monti, with 2/3rds opposing his labour reforms, which have resulted in strikes. Not a good sign (Source Bloomberg);

Germany (Mrs Merkel) has signalled that she will increase the size of the EZ bail out funds, by allowing the temporary bail out fund (the EFSF) to run in parallel with the permanent fund (the ESM). EZ finance ministers meet in Copenhagen on the 30th of this month. I continue to believe that Germany will, kicking and screaming, increase the size of the bail out funds and that the IMF will also contribute, with resources provided from a number of emerging market countries, in particular (China, Brazil, middle eastern countries);

Whilst the German IFO numbers were good, consumer confidence declined marginally to 5.9 from 6.0 in March and slightly below the forecast of 6.1. Consumption and construction in Germany has been strong of late, but I for one am not convinced as to its sustainability. Whilst early, I am concerned that a decline in German exports (to Europe and Asia, in particular), a continuing EZ debt crisis and the need for Germany to pump more money into the EZ, will erode consumer confidence further (numerous analysts disagree with my views – they believe that German domestic consumption will continue to rise robustly) and, in addition, negatively impact their economy which, to date, has been the stand out in the EZ;

French polls still reveal that Mr Hollande will beat Mr Sarkozy by some 10 points in the second round of the French Presidential elections – they have roughly similar numbers in respect of the first round (22nd April), though recent polls suggest that Sarkozy leads Hollande by 2 percentage points in the 10 candidate 1st round race to select the leading 2 to fight it out in the 2nd round in May. The French Presidential elections and fears ahead of it (in case Hollande wins) will impact markets, as Mr Hollande has stated that he would renegotiate the terms of the EU 25 (out of 27 EU countries) fiscal compact – some hope, but the uncertainty will weigh on markets. My clued up French friends remain of the view that Sarkozy may just make it – interesting;

Following Mr Junker leaving, Mr Schaeuble, the German Finance Minister and Mrs Merkel’s choice, looks set to become the head of the EuroGroup, the EZ’s committee of Finance Ministers;

Mr Bernanke expressed caution as to the improving employment data in the US. He warned that the improvement in jobless data may be temporary and that more people who had previously given up looking for a job, may reenter the employment markets, as the situation improves – clearly negatively impacting the underemployment rate, at least. The markets took the more cautious remarks as suggesting that QE3 remains on, which is a bit of a stretch. However, the markets still believes that the FED will raise rates in early 2014 and not late 2014 (contradicts the QR3 view), as suggested by the FED. I remain (just) of the view that a sterilised QE3 programme remains likely (55/45 – much less than a few months ago and I suspect the FED will need evidence of a slowdown/deterioration of the employment market), in spite of conflicting comments by FED officials. Essentially, the FED will want to ensure that any recovery is embedded and will continue with its easy monetary policy until it is. However, Bernanke will have to act pretty soon if QE3 is to be introduced, as he will not want to run the risk of being accused of interfering in the November Presidential elections;

The Case Schiller home price index was down by -3.8% YoY, in line with expectations. MoM readings were slightly better than forecasts;

Outlook

Asian markets (ex China) rose today – the Nikkei was up +2.36%. European markets open strong, but have drifted following weakish Italian and Spanish bond sales and flat US futures. The Case Schiller home price index was marginally better. I must admit that last weeks US residential data, whilst OK, did not show the clear improvement that I thought they would. However, weather related issues may well have impacted and I will give it a little more time.

The news that the EZ bail out funds would be enlarged has helped the Euro – currently US$1.3343, though off its morning high. The Euro is likely to pick up a bit more if the IMF contributes to the EZ bail out fund, as I expect, though I will look to short (against the US$) some time thereafter.

Window dressing ahead of the end of the1st Q, with a likely follow through thereafter, combined with soothing comments by Bernanke suggests to me that this market has a little bit left to go, but thereafter….

Getting back into the swing of things following my trip to Paris – really is a beautiful city and indeed, buzzing far more than I would have expected.

Best

Kiron

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