Thursday, September 22, 2011
Fed's twisted logic sends 'sell' signals
So, down we go. The last impediment to lower … well … everything (except the US dollar) has been removed.
There's no QE3. Markets didn't muck around. Everything risk and $US-sensitive took an instant pounding and the greenback jumped. The US equity markets got smashed into the close and our market will join in the slide at the open.
What we got from the FOMC was Operation Twist, as advertised. The FT showed some deference in reporting the outcome:
MBA Purchase Applications Index
The US Federal Reserve launched “Operation Twist” on Wednesday in a bold attempt to drive down long-term interest rates and reinvigorate the faltering economy.
The central bank said that it would buy $US400bn of Treasuries with remaining maturities of six to 30 years and finance that by selling an equal amount of Treasuries with three years or less to run.
“This programme should put downward pressure on longer-term interest rates and help make broader financial conditions more accommodative,” said the Fed. The policy is named after a similar attempt to “twist” the shape of the yield curve in the early 1960s.
The Fed also sprung a surprise by pledging to reinvest any early repayments from mortgage securities back into debt issued by mortgage agencies such as Fannie Mae and with a strong focus on buying 30-year Treasuries. “We got a double twist,” said Diane Swonk, chief economist at Mesirow Financial in Chicago.
Such a large move suggests that Ben Bernanke, Fed chairman, is deeply alarmed by the slowdown in the economy and decided to override opposition on the rate-setting Federal Open Market Committee and provide as much stimulus as easily practical. The purchases will run until June 2012, setting the course of Fed policy for the next nine months.
The FT is wrong, this is not big, nor a rabbit out of the hat.
As your columnist has argued before, at the zero bound, where the only price signal is the signal of policy-maker intentions to deflate or inflate the system, you can't feed a market rich desserts with thick topping then offer them a dry donut and still expect the system to inflate. Only a bigger dessert with more topping will serve.
I see no reason why both stocks and commodities shouldn't revert to the prices we saw pre-QE2, roughly 20 per cent-plus down for commodities and maybe 15 per cent on the S&P. And that's before we factor in any recession.
So, what might the “Twist” achieve?
Ironically, it may have some effect on the real economy. I can see it achieving two ends. The first is that pancaking the long bond potentially lowers a huge swath of mortgage rates in the US. That may, in turn, fire off a new round of refinancing activity. The above chart from Calculated Risk shows what the Twist is seeking to reverse:
Any such success would free up some more equity in US housing for spending money. Perhaps not a great idea long term but in a world of limited options we shouldn't quibble.
The second effect of flattening the yield curve for banks may be to disrupt their very easy carry trade of borrowing short-term funds at zero and dumping them into long bonds for an easy margin. By flattening the curve, banks may be forced to lend that money instead.
The deflation in commodity markets (especially oil) should also work to boost demand.
So, we now have a struggle set up between deflation in global market pricing and (assuming it works) inflation of lending targeted at demand. There'll be some new equilibrium struck between these two.
In theory this looks OK, but the fly in the ointment for me is the US dollar. With Europe burning and the Fed being seen to be backing off debasement of its currency, the greenback must rise. That will slowly choke off the US export recovery and, making matters worse, will exaggerate the downswings in equities and commodities.
Read more: http://www.smh.com.au/business/feds-twisted-logic-sends-sell-signals-20110922-1klz4.html#ixzz1YiNkGoap
Sydney morning herald
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Disasters See Lloyd's Of London Pay Out £6.7bn
A surge of natural disasters around the world meant insurance market Lloyd's of London suffered its most costly six-month period in its 323-year history.
It has announced a pre-tax loss of £697m for the first half of the year compared to a profit of £628m in the same period during 2010.
Between January and June, Lloyd's customers made claims worth £6.7bn, up 24%.
Lloyd's paid out £1.2bn as a result of the earthquake and tsunami in Japan in March.
The earthquake in New Zealand a month earlier triggered claims of £865m - most of these made by the country's government.
The Christchurch earthquake in February killed 182 people
At the start of the year flooding in Australia - the worst in decades - led to claims in excess of £200m.
Lloyd's said the predicted claims from Japan would make it the fourth-largest event to hit the market.
The biggest was Hurricane Katrina in the US in 2005, which produced £2.4bn in claims.
Out-going Lloyd's chairman, Lord Levene, said: "The claims seen so far in 2011 arising from major events have already exceeded the total for 2010 and we have not yet reached the end of the Atlantic hurricane season."
Hurricane Katrina, which hit New Orleans, was Lloyd's biggest single event
He added that historically low investment yields in many classes of business have added to the challenge.
Lloyd's is a society of corporate underwriters and wealthy individuals that make insurance transactions through 88 syndicates.
It is the world's fifth-largest insurer measured by premium income.
Sky News
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IMF urges Europe's banks to raise capital
EUROPEAN banks face about 300 billion euros ($405bn) in potential losses from the euro-zone debt crisis, the International Monetary Fund said as it urged banks to raise capital to protect the global economy from more turmoil.
The fund said fiscal strains emanating from weaker euro-zone members have had a direct impact of about 200bn euros on banks in the European Union since its debt crisis started last year. In addition to the holdings of government debt, lower bank asset prices raised credit risks between banks for an overall hit of 300bn euros.
The IMF cautioned that the figure -- based on recent market measures -- doesn't necessarily represent the size of a capital hole at European banks, saying such an assessment would require a closer examination of bank balance sheets. But in a report ahead of its annual meeting, it used the calculation to stress the importance of increasing bank capital buffers.
The IMF said the global credit crisis "has moved into a new, more political phase" as governments struggle to get their finances in order and larger European nations debate how to rescue their neighbours.
The latest turmoil in the euro zone, the US debt-rating downgrade and capital shortfalls at banks have renewed threats to financial stability around the world as global growth slows, the fund said.
"Time is running out to address existing vulnerabilities," the IMF said in its Global Financial Stability Report.
"The set of policy choices that are both economically viable and politically feasible is shrinking as the crisis shifts into a new, more political phase."
The IMF urged euro-zone policymakers to ratify an agreement to expand the flexibility of Europe's rescue fund. But it also acknowledged that markets remain sceptical of the rescue facility's ability to relieve pressure on debt from Belgium, Italy and Spain -- three countries that came under pressure more recently.
Nearly half of the 6.5 trillion euros total of government debt issued by euro-zone nations shows signs of heightened credit risk, the fund said.
With the weakening debt sitting on bank balance sheets, the IMF said banks need to raise capital privately if possible and that governments may need to inject capital into their banks in some cases.
The report comes weeks after new IMF managing director Christine Lagarde called for "urgent recapitalisation" of European banks, drawing fierce objections from some European policymakers.
The IMF is the sounding the alarms partly because of worries that banks may respond to capital shortfalls by raising interest rates on their loans and restricting credit, hurting already weak economies. In one scenario, the IMF estimated that weaker credit conditions could reduce growth in the euro zone by 3.5 percentage points and in the US by 2.2 percentage points -- enough to push the economies into recession.
"Banks must be made stronger, not only to increase bank lending, which is essential to the recovery, but also to reduce the risks of vicious feedback loops," IMF chief economist Olivier Blanchard said on Tuesday.
The IMF called on the US to implement a credible plan for addressing its deficit in the medium term, saying that financial markets have taken a sanguine view of the US debt-rating downgrade that "potentially creates a false sense of security" and increases the potential for a sharp market reaction later.
It also said the US needs measures to reduce household debt to boost overall demand in the economy. In particular, the fund called for moves to support the housing market, such as mortgage modifications involving principal write-downs or a program to convert unsold foreclosed homes into rental units.
Emerging markets have fared far better than advanced economies in recent years. But the IMF warned that emerging economies face the risk of "sharp reversals" due to weaker global growth, sudden capital outflows or a rise in funding costs that could weaken their banks at home.
"Emerging markets must limit the build-up of financial imbalances while laying the foundations of a more robust financial framework," the IMF said.
THE AUSTRALIAN
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