US Q4 GDP -0.1% Lower – a Rogue Number

Ms Gillard, the Australian PM, has announced that the next general elections will be held on 14th September. The announcement of the elections, so early on is a huge surprise – PM’s normally announce such decisions about 1 month ahead. Ms Gillard’s Labour Party is trailing the opposition, the Liberal-National Party coalition, though the gap has narrowed to around 3 or so points. This is going to be one long election campaign unfortunately, with policies introduced to gain votes. Ms Gillard announced that she would cut tax breaks for the wealthy;

Japanese December retail sales rose by just +0.1% M/M (+0.4% Y/Y), much lower than the +0.4% forecast. With employment prospects fragile and income flat to slightly lower, consumption is unlikely to rise. Mr Abe’s 2013 budget, in terms of revenue forecasts, seems optimistic in those circumstances;

Japan’s overall defence budget rose by +0.8 to US$52bn, the 1st increase in 11 years. The amount allocated to the coastguard rose by +1.9%, reflecting the ongoing tensions with China over claims to territories in the South China Seas. Chinese authorities criticised the additional spending plans;

The Chinese authorities have rolled over some 75% of loans incurred by the regional governments. Apparently Chinese banks have extended Yuan 3 trn (US$482 bn) of loans (out of the Yuan 4 trn outstanding), that were due to mature at the end of 2012 to avoid massive defaults. Chinese regulators state that Yuan 9.2 trn of loans taken out by regional governments are outstanding – the actual number is likely to well above this figure. Banks have refused to finance additional loans and local governments are being forced to turn to Trust Companies (trust?) to finance their capex programmes. China has used this trick before, creating Asset Management Companies to take on bad loans – the problem is that loans to finance these assets are provided by banks and (you guessed it) rolled over as they come to maturity. The buildup of bad loans cannot be fixed with these smoke and mirror games. At some stage, the Chinese banking system will have to be refinanced and that means by the Central government. (Source FT);

Interesting comments by the head of the Indian Central Bank, the RBI. He stated that future interest rate policy would be influenced by not just inflation, but by the current a/c deficit as well;

The EU is pressing ahead with a proposal to impose surcharges on imports of Chinese telecoms equipment. The EU alleges that China subsidises its manufacturers. In addition, the EU is demanding a 30% market share of China’s telecoms market. China has reacted angrily to the potential sanctions. The investigation by the EU is unique in that no individual EU telecoms manufacturer complained- the investigation was conducted by the EU itself, who report that they have clear evidence that China subsidises its telecoms manufacturers. This issue, deemed by China to be illegal, is highly contentious. The EU is reviewing possible subsidies for Chinese solar manufacturers – a report is due out in May and will, once again be a contentious issue;

Cypriot authorities advise that the Russian government will provide assistance. Normally, I would not believe a word of what the current Cypriot government says, but some kind of Russian involvement certainly looks likely. Senior German officials state that they have not decided as to whether to bailout Cyprus, though seem towards agreeing that they will not block a deal. Interestingly, Cypriot authorities have reduced the size of the funds required to E15bn, from E17.5bn previously – oh yeah;

Spanish Q4 GDP declined by -0.7% Q/Q, or -1.8% Y/Y, slightly lower than the forecast of -0.6% M/M and -1.7% Y/Y respectively, though much worse than the -0.3% in Q3. GDP declined by -1.4% in 2012. A corruption scandal (which could well escalate into something much bigger) involving the ruling party is not helping either.

The Spanish PM announced that he would introduce some stimulus measures this year. Whilst they are going to prove meaningless, I believe that the peripheral countries of the EZ will no longer push the policy of austerity at all costs.

Sorry to bang on, but the bottom line is that Spain cannot repay its outstanding debts;

EZ economic sentiment index rose sharply to 89.2 in January, up from 87.8 in December and slightly above forecasts. The largest rise was in Germany (as usual), Holland and (surprisingly) Spain. Services and construction were the major sector gainers;

Inspite of the bleak UK economic data, December mortgage approvals rose to 55.8k, up from 54k in November and better than the 54.5k forecast. Its the highest level of approvals since September 2012;

The Case-Shiller index reports that US residential property value rose by +5.5% in November Y/Y, the largest rise since August 2006.

However, US consumer confidence fell to 58.6 in January, down from 66.7 in December, the weakest reading since November 2011. The decline in January was the largest since August 2011. Higher payroll taxes and the political wrangling in Washington hurt sentiment;

Employment according to ADP came in at +192k, much better than the +165k expected. ADP reported that smaller firms, construction and services increased employment, whilst larger companies shed labour. However, the ADP data has been way off the NFP data;

US GDP declined by -0.1 Q/Q in Q4, the first decline since 2009. Whilst the headline number is a massive disappointment, defense spending collapsed and inventories were materially lower. Lower inventories suggest that GDP will improve in Q1, as inventories are rebuilt. GDP grew by +2.2% for the full year. Core PCE was up +0.9% as expected. These numbers will get revised – likely materially, but they do not conform with other recent data and are very likely to be a one off. Indeed, the market (US$) having initially declined, for example against the Yen, is reversing materially;


The Nikkei closed up +2.3%, above 11,000, for the 1st time since April 2010 today on positive earnings announcements and expectations that earnings will rebound as a result of the weaker Yen.

Chinese markets also closed higher (up by +1.0%), as property developers benefited from expectations that home sales will continue.The Shanghai Composite is up +22%, since the start of the rally on 3rd December. However, the note above on the rolling over of ¾ of regional debt should send out a very large warning signal. I will look to dispose of my ETF shortly. Stephen Roach, formerly at Morgan Stanley has been a long term cheerleader for China – he is one of the very few China watchers I follow. However, he seems to have become far more cautious. Mr Roach is extremely well plugged into China – if he starts becoming cautious, well……….

On the other hand, the Indian market closed -0.6% lower, inspite of the interest rate cut by the RBI yesterday, though it did reduce its GDP forecast to just +5.5%, for the fiscal year ending 31st March 2013, down from +5.8% previously.

European markets are flat to lower. US futures suggest a flat open.

I had reduced by equity exposure by around 30% some weeks ago – clearly too early. However, I will sell another 10 points in the next few days. I continue to believe that equity market are overbought, with gains reflecting momentum trading, rather than fundamentals. Risk/reward is not in my favour and retail investors are piling into the market – normally a good contrarian indicator. Furthermore, I intend to put on a few shorts in the next week or so.

US equity markets closed higher yesterday, with the DOW just 1.4% lower than its all time high.

In terms of currencies the Euro continues to strengthen – currently US$1.3544, with the Yen weakening – currently Yen 91.23 against the US$ – the US$ took a real beating once the GDP data came out, but has recovered. German 2 year yields (0.28%) marginally exceed comparable US yields (0.27%), which is supporting the Euro. The comparable 10 year yields are 1.70% (Germany) and 1.98% (US) however. The US 10 year was trading at 2.02% ahead of the GDP data release, though declined to 1.98% thereafter. If the Euro continues to strengthen, I would not be surprised if the ECB cuts interest rates in coming months, in particular if EZ inflation falls to 2.0%, indeed likely below, as I expect. The EZ cannot afford, in effect, monetary tightening.

Spot gold is trading around US$1676, with March Brent at US$114.54- oil continues to rise – bad news, but is being ignored, by the markets

Kiron Sarkar

30th January 2013

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