Keep an eye on these government bond auctions, especially for Spain and Portugal, as a bad auction can provide the catalyst for further risk aversion:
June 9th:
09:00 GMT Germany: 2y Schatz Auction €6bn
09:30 GMT Portugal: 3y and 10y auctions €1.5bn
09:30 GMT UK: New 2020 Gilt £3.75bn
17:00 GMT US: 10y Note Auction $21bn
June 10th:
02:00 GMT Japan: 5y JGB Auction ¥2400bn
08:30 GMT Spain: New 3y SPGB Auction €4.5bn
17:00 GMT US: 30y Bond Auction $13bn
June 11th:
09:00 GMT Italy: 5y and long end BTP Auctions €7bn
*Data compiled by Barclays
Spain has a signiifcant amount of debt coming due in July, which won’t go unnoticed by investors, especially if their upcoming auctions fair worse than expected:
The aggregated spreads of Europe’s weakest peripheries plus Belgium are on track to test their pre-bailout levels, as investors question whether or not a default will become necessary and what contagion effects it might have. The biggest concern is that a default could lead to a Lehman like effect halting liquidity as banks and investors question each other’s exposure to the defaulted debt potentially leading to a significant funding issue for seemingly non-effected nations. On this note, the German backed-bailout was not just a rescue of its profligate neighbors, but also its domestic banks, which are said to have significant exposure to the bonds in question. In any case, trader sentiment toward the Euro is likely to remain weak as spreads drift higher for economically weak nations as the fine balance between effective fiscal austerity and growth is hopefully discovered.
Aggregate 10Y Government Bond Spreads Over Germany:
Source: Bloomberg
As an aside, over the past week Belgium yields have experienced the largest increment of the 20 European nations I track, which should continue to be monitored. Belgium has one of the largest debt to GDP ratios in the region, a relatively weak fiscal deficit, and regional and political strife. As the situation in Europe deteriorates, investors will likely continue focusing on Belgium, a trend that can already be seen through the past week’s spike in yields. Prior to now investors had given the credit a pass partially due to a history of positive primary surpluses and its historical precedent of reining in wavering finances. Belgium’s debt to GDP ratio is expected to climb to over 100% of GDP by the end of this year.
Nearly 28% of all income received in the U.S. comes in one form or another from the U.S. government. As of April 2010, government wages combined with government transfer payments total 27.8% of total income in the US. Breaking it down further, government wages plus transfers equals nearly 67% of total private sector wages. These statistics highlight the impact of expansionary fiscal policy and the country’s increased reliance on the government for economic growth. Eventually government transfer payments will need to be scaled back to converge with its historical norm to reduce swelling deficits, which could reduce national income by nearly $500 billion on an annual basis. This of course would be a negative for the nascent economy recovery turning fiscal stimulus into fiscal drag, and this could occur sooner rather than later.
Food stamp usage has climbed to new highs in the U.S. with over 40mn subscribers–roughly 15% of the total population–as of this morning’s release for March. The rise in volumes coincided with an explosion in costs for the program to $5.4bn/month from $3.6bn/month at the start of 2009. Surging food stamp use or what is referred to by the USDA as Supplemental Nutrition Assistance Program (SNAP), is another indicator highlighting challenges still facing consumers in the midst of exceptionally high unemployment and relatively stagnant wages, which have increased by just 0.3% over the past year. Such a large percentage of the population on food stamps also likely has an adverse effect on consumer confidence, which remains well below its pre-recession levels; albeit well off its post Lehman lows.
Source: USDA
The state with the fewest subscribers in 2009 was Wyoming with 26,762 participants, while Texas had the most with 3.0mn.
A precipitous decline in money supply could be choking the U.S.’s economic recovery, while supporting deflationary fears. While the Fed no longer tracks M3, one of the broadest measures of the U.S. money supply, professional forecasters estimate the index has fallen 9.6% on an annualized basis from February through April; matching what was last seen during the Great Depression. Looking at another broad measure of U.S. money supply, referred to as the St. Louis Fed’s MZM, which measures assets redeemable at par on demand, money supply has fallen 1.5% since the end of last year. M2, a more popular measure of money supply, has remained positive, but diminished to a growth rate of 1.6% y/y from a peak of 10.1% in 2009.
Professor Tim Congdon from International Monetary Research has called the trend in the M3 data ‘frightening’. He also said, “The plunge in M3 has no precedent since the Great Depression. The dominant reason for this is that regulators across the world are pressing banks to raise capital asset ratios and to shrink their risk assets. This is why the US is not recovering properly.” To put it simply, as long as banks remain hesitant or unable to lend inflation should remain tame in an environment of stunted economic growth.
NOAA announced its 2010 Hurricane forecast today catching markets off-guard with an expectation of 8 to 14 Hurricanes during this year’s season–much higher than average. The forecast caused natural gas futures to close higher after falling earlier in the day due to inventory data. While the implication of this forecast can’t be ignored, NOAA has a surprisingly checkered past in predicting Hurricane seasons. Historical data shows that NOAA’s forecast has been accurate in just 2 of the past 9 years. According to NOAA’s website, “The seasonal activity is expected to fall within these ranges in 7 out of 10 seasons.” This is clearly not the case (see chart):
Not since June 2008 has the housing sector been completely devoid of some form of tax incentive to help bolster sales, until now that is and it shows. MBA purchase applications have taken a precipitous drop over the past two weeks falling to levels not seen since the end of 1997. The government’s approach of bolstering current sales by borrowing from the future sales appears to have worked, and now it’s time to pay the piper. Headwinds for the sector remain strong generated by stiff credit conditions, high unemployment, increasing foreclosures, large inventories of vacant homes, and a lack of tax credits; while tailwinds are slowing to a breeze. A robust recovery in housing during 2010 is extremely unlikely.
Rumors have been spreading across trading floors that the Fed may lower the penalty for using its dollar liquidity swap line to reduce stress in the interbank market. As I mentioned in a previous note, a 100bp ‘penalty’ over the overnight indexed swap (OIS) rate for the Fed’s dollar liquidity swap line is preventing the tool from impacting interbank borrowing risks as LIBOR continues to climb. The OIS rate currently stands at 0.22%, which means anyone utilizing the Fed’s swap program would be paying 1.22%, well above the current 3M USD LIBOR rate of 0.54%, leading to the programs ineffectiveness. In fact, the ECB’s most recent offering for the program on May 19th lacked even a single taker. If market speculation pans out and the Fed reduces the penalty spread to 50bps from 100bps, then the borrowing cost would fall to 0.72%–below the Fed’s discount rate of 0.75%–, but still remain well above current LIBOR levels meaning the impact could be minimal.
After stabilizing from 5/20 to 5/24 AUDJPY’s decline has returned with a vengeance falling to 72.88 from 74.63 a day prior. The currency pairs stability over the last few days led some to believe the market could be approaching a bottom. Other notable risk indicators moving this morning include the TED spread, now up to 38.6bps (from 18.6 at the beginning of the month), and US breakeven rates. 1Y breakeven rates fell below zero this morning, with rates on the long end of the curve beginning to see more significant declines. Investors in Europe continue to flock to the safety of Germany with German 10Y yields reaching a record low 2.56%. Other than a quick peaceful resolution to the geopolitical risks building in the Korean peninsula, there doesn’t appear to be any near-term positive catalysts in the pipeline to shift investors sentiment.
