Mark to Make-Up? Fiat Bank!

From today's FT: "The financial sector, down as much as 4.7 per cent soon after the open, rallied as much as 4.1 per cent after speculation swept through trading floors that Washington could suspend mark-to-market accounting requirements for illiquid assets."

If you follow the chain to its logical conclusion, it looks like the SEC is creating fiat money with fiat bank balance sheets.

Bank balance sheets? (That actually balance?) Ya gotta have Faith-a-faith-a-faith-ahhhhhhh!



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Steeper and Narrower

The Man, Julian Robertson (on CNBC w Erin) has been playing the steeper yield curve trade (see y'day), and meanwhile, the TED spread (see right) is narrowing just a leetle bit.




Fresh shorts which held off yesterday seem to be dribbling their way back in today after the inevitable opening surges... and quite a lot of retail investors across the region seem to be saying "phew!thankyouverymuch" and chucking out some very painful names this morning.

And that makes me feel a leetle bit more bullish about this bear rally, too, on top of the thank-goodness-we're-looking-at-a-nasty-recession-not-a-Depression view gaining currency out there.

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Steepening yield curve - impending inflationary holocaust?

Mr Rogers may well have got it right, last Friday.



From 4:50, he discusses an impending "Inflationary Holocaust"...




(And I especially like the bit about getting the G7 to head down to the bar.)

See my posting from last Friday the Recipe for Banks in Trouble. For what it's worth, I think the G7 DOES, finally -kinda- know what it's doing. (Sooooo... when should we start heading into inflation plays? No hurry, but...)

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Recipe for Banks in Trouble

1. Extract cr@p assets - in the process of being done under TARP etc
2. Recap (Temasek, HM Govt, Buffett, MUFG, US Treasury... wherever, whoever) - on the way
3. Force inflation on the economy - coming next, hence steepening, below:



That's basically it.

===========

From William Pesek of Bloomberg on the "United Socialist States of America" on Sept 22nd:

First, here's a memo that the U.S. Treasury team, of which the New York Federal Reserve president was a member, might have written a decade ago.

To: Asian Finance Officials

From: U.S. Treasury

Subject: Worsening Regional Crisis

As economies reel amid instability and as investors flee, it's important that Asian policy makers heed this 10-point plan:

1. Raise interest rates to support currencies;
   
2. Cut government spending and debt;
   
3. Don't blame speculators and hedge funds;
   
4. Let property prices slide. It's a correction, not a crash;
   
5. Don't save those who made bad decisions. Moral hazard is bad;
   
6. Increase transparency in the corporate sector;
   
7. Subsidies of any kind are always and everywhere bad;
   
8. Get banks to write down bad loans immediately;
   
9. Avoid blaming the media for your problems;
   
10. Follow the free-market policies that drive U.S. prosperity.

Now for the message emanating from the U.S. Treasury these days:

1. Disregard all of the above.

Classic.

(And then there's this one from Sept 19th - "Back in the US... Back in the US...")
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$130 oil? Try $30/bbl...

For those who think this time it's different (actually it is, isn't it? Errmmm...) check out this item from Credit Suisse global strategist Jonathan Wilmot, entitled "How Much Demand Destruction" in which he says that oil prices are and remain very sensitive to global economic growth and given inflationary concerns (and central bank cred, what's left of it) we're pretty close to a tipping point... and oil prices could well get to the $30 range.

Here are his front page bullet points (my emphasis):

How Much Demand Destruction?

• Most of the emerging world has a genuine inflation problem while most of the developed world has a rapidly escalating income, profits and credit problem that points to recession or worse.
• But two decades of hard won credibility for G10 central banks is at stake, so they cannot completely ignore the simultaneous shock to inflation expectations.
• Current and near-term global oil supplies are severely constrained: stabilising or reducing oil prices thus seem to require accelerated demand destruction in the OECD.
• By implication, the world’s major central banks may have little choice but to quietly allow the developing recession to unfold, while using other policies to limit damage to the financial system.
• That is essentially what market price action over the last month or so has been telling us, and might even be seen as the real sub-text of Bernanke’s testimony.
• This makes it all the more important to understand what combination of slower global growth and high energy prices will bring global oil demand to a halt. Our analysis suggests we are close to a tipping point towards much lower oil demand, and price.

If you can access CS research, please do so (or you can always ask me.) Otherwise, it's all Wordled here:

Asia - flattened by an Un-Flattening World

Excellent note from MS last night entitled HIGH TRANSPORT COSTS TO 'UN-FLATTEN' THE WORLD in which their economists note, in a glass-half-full sort of way, that with high oil prices driving transportation costs through the roof and the Asian export model under serious threat as a result, the development of domestic and regional consumption is a positive.

"We believe that, with rising transport costs, trade globalisation may slow significantly and the world will 'become more round'. Asia's trade model will be particularly affected. The near-term impact, in our view, is not positive for Asia; however, in the long run, this shock could coerce Asia into moving away from the export-led growth model."

(Maybe India rather than China has it right after all? Just a thought!)

The FT writes this morning, coincidentally, of P&G's rethinking of its supply network in the light of massively higher transport prices:

"Soaring energy prices are forcing Procter & Gamble to rethink how it distributes its products, with the world’s biggest consumer goods company shifting manufacturing sites closer to consumers to cut its transport bill."

===================

I wrote about the effect of transport costs on Asia recently here and here, but obviously didn't think it through quite as far as MS (and P&G)!

Smart $ says 66% chance of n/c FED in September...

... after no change in the Fed rate today, as announced early this morning by Bernanke. (Rather hawkish comments, I thought: "Although downside risks to growth remain, they appear to have diminished somewhat, and the upside risks to inflation and inflation expectations have increased.")

As of yesterday, The Smart Money said there was a 10% chance of no change in FED rates in September, according to the futures markets. A month ago they said there was a 74% chance.


The "Sma-a-a-a-a-art money."

X vs. PKX... and the winnah is...

Here's the ADR of POSCO (ticker PKX in yellow, formerly Pohang Iron & Steel, or something like that) vs US Steel (ticker X in white, formerly known as USX, and before that, Federal Steel + National Tube + American Steel Hoop Co etc and, before that, US Steel.)

The market cap of PKX at USD45bn is (at the moment) almost exactly double that of X - a massive change from the ratio as recently as a year ago:


Both trade in USD, but obviously facing very different operating environments... From an article yesterday in Bloomberg entitled: "Bernanke's Inflation Cure Wanes as Import Costs Rise"

• The surging oil prices that are raising exporters' costs to ship everything from steel to sofas to America are encouragingc ustomers to buy more domestically made goods -- and giving the producers of those goods more room to raise their prices.
• ``Higher freight rates were the final straw in tipping the balance to domestic producers,'' coming, as they did, on top of a weaker dollar
• `` A weak dollar means that domestic producers are better sheltered from competition by foreign suppliers,'' Edmund Phelps, winner of the 2006 Nobel Prize for economics ... ``So the domestic producers here in the United States will have every incentive, therefore, to take advantage of that greater protection from competition by raising their markups.''
• Chinese steelmakers are doubly disadvantaged by higher oil prices. Not only do they face the added cost of shipping products to the U.S., they also must pay more to transport iron ore to their mills from Brazil and Australia.
• Pittsburgh-based U.S. Steel Corp. in contrast, is able to meet the majority of its iron-ore needs in North America from its two mines in Minnesota.

(I've mentioned shipping costs and Asian exports here before - but that didn't address the double-whammy mentioned above!)

=====================

Sure enough, being stuck between a rapidly shrinking lump of iron ore and a hard place, the Chinese steel producers today agreed to cough up to RIO and BHP for basically the same c.i.f. price that they're paying for iron ore from Vale (formerly known as CVRD, which stood for... oh, never mind), ie up to double what they'd previously been paying, and higher than expectations. (So did Nippon Steel & others, I believe.)

OMG! China raises gas, diesel and jet fuel prices!!!!!! OMG OMG OMG!!!!

Off the top of my head (tips of my fingers) here are some houses that I noticed discussing, in published research, just this sort of move over the last 2 weeks alone:

• Credit Suisse
• JP Morgan
• Citibank
• CLSA
• ...
  

So... OMG! OMG! OMG! OMG!

Maybe it's not the hyper-bullish paradigm change and rerating catalyst that they and others are saying it is... that they knew all along, and that nobody else out on the street was onto, and that... (zzzzz...)

Still looking to cover some of my higher beta shorts, but taking my time.


(The FT article on the news here.)
====================

Perfectly timed note yesterday from Lan Xue at Citi... not the earliest on this theme (I am pretty sure that Dong Tao was, a couple of weeks ago) but great timing anyway!

• "Chinese utility and energy prices are just too low — China has not revised electricity prices since 2Q06 and gasoline diesel prices since Oct 2007, although both coal and oil prices have risen sharply.
• At current levels, China’s utility and energy prices are at least 50% below international prices, which clearly are unsustainable in the long run.
• If meaningful adjustments are made to electricity and utility prices, sectors such as airlines, auto and manufacturing in particular would be hurt.
• But we think such a move would be positive for the overall market, as it would signal a more market-oriented policy approach from the government, rather than continued price intervention."

Equally perfect timing from Frank "Bang-A" Gong across the road at Mr Dimon's new shop, JP in a note also released yesterday, prior to the NDRC announcements:

• "We are upgrading China to overweight within our Asian and Emerging Markets portfolios; based on a resumption of Renminbi appreciation, declining headline inflation and a potential switch in policy focus from inflation to growth. As is the case for the balance of North Asia, China would also benefit from a decline in the oil price.
• A fall in Chinese headline inflation to below 6% provides the flexibility to raise controlled fuel and commodity prices; this would benefit IPPs and refiners.
• The property sector should benefit from a change in government rhetoric from inflation to growth concerns."

===================

Interestingly, Dong Tao of CS concludes his own comments from this morning with a warning that: "there will be a bigger risk for the government launching harsh austerity if inflation gets out of control." He notes, rather more bearishly than his peers, that:

• "(it) is our view, that the hike of fuel and power prices... may push inflation toward double digits. This is just one of several possible outcomes, but we do caution that it could trigger aggressive tightening similar to the austerity engineered by then vice premier Zhu Rongji.
  
• Zhu raised interest rates by almost 150 bps in one and a half year and virtually cut off all bank lending through administrative measure. RMB devalued by almost 40% in the beginning of 1995.
  
• We estimate less than 0.3 pp down in GDP for 2008 due to the fuel and electricity price hike, which is minor and manageable. However, this does increase the risk of greater inflationary pressure, as wage growth is already accelerating.

• Beijing has moved toward the right direction by adjusting the increasingly outdated energy prices, but more are needed and will probably be done, in our view. The current price structure between input and output have not only caused heavy losses to the fuel and power suppliers; some of them may even get into cash flow problems soon.
  
• Under tight price control, inflation was transformed into fuel shortages, which has started to affect the operation of the economy through power interruptions and paralysis of truck transportation.
  
• We believe that Beijing will eventually move towards a complete liberalization of fuel and power prices, but the pace of such a process would depend on inflation. This goal may take two to four years to achieve."

The Price of Oil

Some high value added from CNBC today, in pix...

How Crude Stacks Up
"You're in for a surprise if you think crude oil is expensive at today's levels of about $130+ a barrel... a Starbucks latte actually costs much more at $954 a barrel. Here's how oil really stacks up compared to the cost of some of our favorite items."

But how big IS a barrel of crude? 42 US gallons/ 35 Imperial gallons / 159 litres (and comprised of this stuff.)

And how much is that? About 80 large plastic bottles of Coke (...or simply lashings of ginger ale.)

US May inflation at +7.2%! (... at the producer level)

Overnight, the US IP figures were down 0.2% mom in May from down 0.7% the previous month and against expectations of a gain of 0.1%. More worries about growth vs inflation... given that the "core" PPI (ie ex-food and energy) came in at 0.2%, DOWN from April's 0.4% and bang inline with consensus, according to Bloomberg.

But looking at the headline PPI, which includes (as in real life) food and energy it looks a bit less rosy at 1.4%%, up from 0.2% expectations of 1.0%.

THIS wasn't what struck me most - it was the year on year figure... the Brits are whining, as they do, about retail prices up 4.3% yoy... May producer prices (admittedly more volatile than CPI - see chart below) were up

7.2%!
(Expected +6.8%, prev month +6.5%.)

That's A LOT!!! Why is this figure not in big bold type all over the press?!?! And expectations for a rate hike fell???



=================

(China's May PPI came in at 8.2%, as recently reported, not a whole heap higher than what the US is generating... and CPI was +7.7%.)

The Rise (and Rise and Rise) of Rice

Comment from Merrill Lynch (link to a note this morning):

• "There are many tsunamis in the agri world, but this is a big one The floods in Southern China will cause huge damage to China's rice production. There will be extensive damage to a host of other crops but let's focus on Asia's staple : rice.
• "David Cui reckons that up to 13m tonnes may be lost, or over 10% of China's harvest. To put it into context, 13m is equivalent to the total exports out of Thailand and Vietnam combined : the world's top 2 exporters. It's two years' worth of US production. The equivalent in the oil world would be Russia not producing any oil for four months... Where would oil prices be then?
• "And another snippet : if China wants to replace this lost crop by importing, that would soak up 50% of global trade... so where do we think rice prices are going to head in that monopsonistic scenario ?
  
• The point is that China subsidizes rice prices by about 40% vs global prices and these floods have to put pressure on global prices exacerbating the situation. Unless China raises domestic prices, smuggling, already an issue, will escalate."

(What would I buy to play this? Noodles.)

=====================


A word from my distant past that I've not heard in ages:

In economics, a monopsony (from Ancient Greek μόνος (monos) "single" + ὀψωνία (opsōnia) "purchase") is a market form with only one buyer, called "monopsonist," facing many sellers.

(Thank you, Wikipedia!) And yes, the writer's a Brit.

What's worse for Asia than fewer orders from the US?

We get the WSJ in print, but I'm too cheap to also pay for it online (Rupert, are you there? I get FT.com free with my paper...) If you do, you can see the article here.

"Stung by Soaring Transport Costs, Factories Bring Jobs Home Again"

So basically, not only are you seeing inflationary wage pressures in the factories of Asia and the US's "Strong Dollar" so-called "policy" hurting costs on an FOB basis, (though FX translation gains for overseas sales remain the bright spot for US corporates,) NOW you have shipping transport costs driving costs at the CIF level through the roof too.

Net net, not good.


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The Strong Dollar Policy

=================

We already saw a bit of an impact on service jobs (in India) in this post. I thought it was funny at the time.

The PBOC says: "GrrrrRRR..."

Okay, this is a couple of days late, sorta, but I think it's relevant as we digest this morning's PPI figures from China and await the probably more important CPI numbers due out tomorrow. So, in reverse order:

Whisper (Chinese Whisper?) numbers suggest that May CPI will come in at 7.7% YoY (vs 8.0% currently expected, and 8.5% in April.) Whispers in China of this sort generally turn out to be quite accurate.


Meanwhile, this morning we saw the PPI numbers come in better (lighter) than expected. From CLSA:

"China reported 8.2% YoY Producer Price Index (ie the output PPI) for May, which outpacing April's 8.1% although slightly lower than market consensus of 8.3%. Meanwhile, May's Purchasing Price Index (ie the input PPI) reached 11.9%, 10bps higher than April's 11.8%, which may imply input costs are rising and only incompletely being passed on resulting in margin squeeze that we are seeing in company data."

And last Saturday, ahead of a long weekend ("take THAT, markets - hahaha...") we had the PBOC come up with not one, but two consecutive 50bp Reserve Requirement Ratio hikes. From Sherry Lin at Credit Suisse, in a note on the China banks this morning:

"We maintain that the RRR hike per se has limited negative impact on earnings of Hong Kong-listed China banks, which operate with relatively liquid balance sheets. We estimate that every 50 bps increase in RRR will reduce Hong Kong listed China banks’ earnings by less than 1%."

In other words, as I read it, the Chinese banks are not likely to be hit by this 100bp increase in the RRR (partly as the PBOC actually pays interest on it, I believe) as they are liquid - and given that they are liquid, it's unlikely to lead to a serious easing in their absolute capacity to lend. ("In the near term, China banks’ earnings will be more vulnerable to a sustained correction in local stock markets" as Sherry also notes.) The PBOC knows this and seems to be sending a message to the markets that its position continues to be that runaway inflation will not be tolerated...

BUT given softening industrial data (CS economist Dong Tao's comments here) and a massive natural disaster to cope with (and the fast approaching Beijing Olympics too) stamping hard on the brakes and driving economic growth through the floor is also clearly not the aim.

Still cautious on China consumer names, but surprise could be to the upside, especially given the sell-off post RRR/ long weekend/ Friday US tanking.


----------------------------------

The FT's Lex column suggests that the latest RRR move is to stem capital flows, of which a large part may be speculative, and that the next move may be to control capital inflows directly... and implicitly agreeing with my view that the PBOC is NOT trying to drive down China's growth.

Macro Man: The ECB's Vicious Circle

Macro Man: The ECB's Vicious Circle

Jobs for the boys (or not)

So the US cratered on Friday on oil's record rise. Or maybe not. The US cratered on Friday on a US$ collapse after Trichet's Euro-Hawk comments (on... er... Thursday.) Or maybe not. The US cratered on Friday on confirmation of weak US growth given high and rising unemployment rates, and hence limited room to raise rates after all, despite the opposing view from the ECB and hence a weak Dollar leading to a boom in (further) inflationary-spiral stoking energy and commodity prices, despite climbing unemployment... ie stagflation. Eek! Maybe.

• Unemployment: 5.5% vs consensus 5.1%, up from 5.0% in the previous month
• Change in May non-farm payrolls: -49k vs consensus -60k, up from -28k (revised from -20k)
• Change in May manufacturing payrolls: -26k vs consensus -40k, up from -49k (revised from -46k)

Or maybe not!!

Now we have JP Morgan's strategists out with a FLASH! comment that the markets have got it all wrong... Here's their argument, in short:

• The Dow Averages ALWAYS 30% gain in the next 12-months anytime UE rate rises more than 50bp
• Anomaly in the data? A 50bp jump in Unemployment is usually a result of 150k jobs lost…A 50bp rise in UE rate usually results in 150k jobs lost, not 49k. This is shown Our Economics team views the 50bp surge in the UE rate as driven by a rise in teen-age labor force participation (i.e., summer seasonal) and not really due to a decrease in jobs.
  
• While US Economic data is the most reliable globally, we occasionally see statistical aberrations.
  
• The bottom line? The Markets are over-reacting. The big picture, in our view, is that jobs are holding in. The fiscal stimulus is going to boost June data. Oil remains the big overhang, but the US household and US Corporates are reducing fuel consumption. We are buyers of stocks on this sell-off.

OK - sounds reasonable enough on the surface, but aren't there always a bunch of teenagers out there looking for a job this time of year... or have I missed a change in the US academic calendar? Statistical anomaly - sure, it might be... or it might not... a bit hard to make an investment decision on that, though. And as for the payroll numbers coming in less bad than expected , leaving out how a negative figure is still a negative figure, and focusing on expectations:

• Change in May non-farm payrolls was 11k better than expected
• But April was revised 8k worse too
• So net 3k better?
• Big %$#-ing deal.

Knowing how jittery the markets are, it's likely that the market selloff was, indeed, a bit of an overreaction last Friday. However, net net, I remain cautious.


===================

I suspect the original reason for JP coming up with this note is precisely because the markets tanked... everybody gets read when they come up with a note explaining why the markets were wrong in gapping down/ up on volume... Everybody wants to be The Smart Money, after all, not just part of the dumb herd... everybody wants that (all at the same time!)

Playing with your Food plays

Credit "don't call me CSFB" Suisse is out with a glossy mega tome, the like (and weight) of which we rarely see these days, on the theme of food and rural income in Asia. (Never mind about the trees.)

The central thesis is that Asia's need for food self-sufficiency will rival the Western world's need for energy, with demand growing at a faster clip than supply... with inventories in Asia now already at a 30 year low, this problem will take years to fix. Total acreage supply in Asia is growing at only 0.3% per annum since 1990 - the only way Asia can meet its growing demand is through yield enhancement.

In the meantime (during the meanwhilst), rural incomes will likely grow at a rate so far only seen in urban centres. That's 1.7bn people connected to agriculture in Asia, and rising farm investment and rural income is likely very different to how most investment portfolios are focused. Most of the research I see these days focuses on urban wealth creation (BMW-aspiring yuppies and supermarket/ department store shoppers.)

The CS STOCK PICKS with which I currently agree
(one or more of which may be current portfolio positions, either long or short):

- CHINA: China Mobile, Chaoda Modern Agriculture, China Agri-Industries
- INDONESIA: United Tractors, Bisi, Indofood,
- KOREA: CJ Cheiljedang, Namhae Chemical
- MALAYSIA: KL Kepong
- SINGAPORE: Noble, Olam, Indofood Agri,
- TAIWAN: Taiwan Fertilizers, Sesoda
- THAILAND: Big C Supercenter, Thai Union Frozen

(And for those of you who squint at big reports, here are the slides.)

That great sucking sound...

Remember that great sucking sound heard across Asia over the last few years? Of manufacturing jobs flying into China from Asia, and indeed the rest of the world? Well, Dong Tao of Credit Suisse in a short note this morning (will expand on it more later, I expect) is calling "The beginning of the end of an era – troubled export sector" - his key points are that the new labour law will further hurt competitiveness, adding to the existing pressures on exporters such as surging wage costs, currency appreciation, high material/energy prices, and reduced tax rebates. The hit is more likely to be felt in the Pearl River Delta (~ around HK) than in the Yangtze River Delta (~ around Shanghai,) and among Japanese and Korean companies with manufacturing there than by H-shares. Conclusion?

"The rising wage rates and improved labour right is bad for capitalists and export sector, but positive to workers and domestic consumption. We see the economy leaning towards domestic sector over the next decade, perhaps with slightly slower growth but better quality of growth."

So, find China domestic consumption plays for your long term long positions... A bit obvious, actually!

(... but I may try and come up with a short list of possible plays in the coming days/weeks.)




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I think I've sorted how to include links from CS. Here's Dong's April 2nd note on inflationary risks in China - particularly worrying rise input costs, and clearly colouring his view on export competitiveness, above.

Rice shortages, riots and starvation: Not funny

Call me old fashioned, but I don't find food shortages, riots and starvation as amusing as TheStreet.com appears to.






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THIS on the other hand is a very worthwhile diversion from highly whippy markets in this part of the world!

All this via the mysterious Prince of Wall Street, Paul Kedrosky's Infectious Greed and some dude called Nick.

Bush and his legacy: World Hunger

It's all in the NT Times today!

The wonderful Gail "!" Collins of the NY Times writes this morning in "The Fat Bush Theory":

"(W)e sure do have a lot to look forward to in the future, people. There's new federal spending on biofuels. Much of this is for ethanol, which has the unfortunate side effect of creating more greenhouse gases than it eliminates, and, of course, helping to create a planetary crisis over rising food costs."

Meanwhile, "Across Globe, Empty Bellies Bring Rising Anger":

"Saint Louis Meriska’s children ate two spoonfuls of rice apiece as their only meal recently and then went without any food the following day. His eyes downcast, his own stomach empty, the unemployed father said forlornly, “They look at me and say, ‘Papa, I’m hungry,’ and I have to look away. It’s humiliating and it makes you angry.”"

What else can one say?

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Meanwhile... does money buy happiness?