Tao Jaxx

Long/short equity, contrarian
Tao Jaxx
Long/short equity, contrarian
Contributor since: 2012
Funny to see all talking heads gravely opining that, yes, China now lets "market forces play" while 2 weeks ago same China sent their Army and Navy to round up short sellers on the stock market.
So they let "the market" set the rate to devalue their reserve currency wannabe but they make stock prices move upward at gun point?
Best case is the last move is deliberate: they manipulate FX like they did stocks, only in the opposite direction.
Worst case is they don't have a choice: capital outflows drain the economy as they contract money supply so PBOC has no choice but devalue what was touted to be tomorrow's super currency. That's the only way to dampen tightening impact of capital flight.
Market timing, market timing...
So anybody who followed those considerations lost over 1% from being out of the market today.
Statistics (see Taleb's book) show that the bulk of portfolio performance originates in a very limited number of strongly up days. This is one of them.
I may be missing something here. You say "we should expect financially strong businesses to recapitalize when rates are low".
Right. But they're doing the opposite: They're de-capitalizing, or leveraging up by paying back capital and stocking up on debt.
Which the tax system encourages them to do, while the Modigliani Miller theorem works nicely in theory but not at all in practice.
Surprised no one would raise the unequal tax treatment of debt and equity as a reason for this buyback frenzy. True, lack of profitable investment is a driving force behind returning capital to shareholders. But making the tax treatment between debt service and dividends neutral would eliminate a powerful incentive to leverage up to send money back to shareholders à la Apple.
Not to mention this pathetic "financial innovation" of private equity eviscerating companies (and their previous shareholders' wealth) to pay special dividends to the "value unlocking" (yes, yes, that's what they call themselves) new managers.
Modigliani Miller anyone?
Nice article: Fundamentals are bearish but "Flow of Funds reasons" (lack of alternative investments) are bullish.
I'll take the latter over the former any day in China's case: Fundamentals are a side show if the almighty central planners so decide.
May be tempted by the long side. As they say, enjoy the party, but stay close to the door!
Is there a futures contract on the Chinese index one can access from the US?
"Happy to stick with my call"
"Gold Rally Underway"?
So your strategy on mREITs is to have the price risk and no dividend? Plus the tax consequences (wash sales galore on Schedule D...)
Dear author
You seem to focus exclusively on banks deposit rates (liability side). But interest paid by the Fed on reserves is the ultimate risk free rate (ASSET side for the commercial banks). As such, its rise will be transmitted to all bank LENDING rates, which will be the transmission channel for the Fed hike: if a bank gets 50bp from a zero risk asset (its reserve account at the Fed) rather than 25bp, it has no reason to keep its risky lending rates to borrowers unchanged. That's the main tool and it does not rely on any "goodwill" or "cooperative spirit" from the banks, just their profit maximizing goal.
The ON RPP is a technical tool allowing non-banks to reap the "benefit" of higher rates, but certainly not the main transmission mechanism, just a complementary one.
Thank you all for responding.
Last year 10y yields went pretty smoothly from 3% Jan 1st to 2.17 Dec 31. So pretty favorable to gold except twice in the year yields backed up and that had gold tank:
Aug 28th 10Y 2.39 Gold $1286, Sep 12th 10Y 2.62, gold $1231.
Then Oct 15th 10Y 2.15 gold $1237, Nov 6th 10Y 2.39 Gold $1145.
No I don't believe strongly in my thesis, that's why I'm here to learn from others. Sure, dollar correlation is far from 100%, but it's "reasonably reliable" as I said. It sure works...until it doesn't. Thats why I ask. I focus on US 10Y Yields by the way, not on spot dollar.
You rightly mention that "gold has been in an uptrend since Nov", Yup, 10y yields went from 2.36 Nov 1st to 1.68 Feb 2nd.
Then you say "gold has slid in Feb". Fully agree, 10Y yield went from 1.68 to 2.13 yesterday.
-China sells Treasuries because they have capital outflows. So they sell dollars to stem currency depreciation (who would've thunk they'd get to this some day lol?). Somebody else buys the Treasuries with the dollars PBOC sells.
-There's some but not much money flowing from US to euro stocks; most of it is going to come from the ECB trillion euro printing, they don't need anybody's help to inflate the bubble…
So I don't know if I'm right either. Just my $.02. Trying to spot where I may be wrong. I'll change my mind on a dime if need be. As I did early February when I was all gung ho on gold.
Fair enough as an investment thesis. That was mine until early February.
Since then, things have changed markedly due to rising $ interest rates. So two questions for the author (and anybody who cares to listen):
Why would the dollar weaken while the interest rate differential with both euro and yen increases?
Gold has a reasonably reliable inverse correlation with US 10Y yields. These have moved from 1.68% end January to 2.13% yesterday. What would help gold beat that headwind?
Gold yearly production is about 2000 tons. Gold has unique characteristics: it does not get consumed. Never. Gold above ground inventory (so accumulated production since humans roam the planet) is roughly 175,000 tons. Of which about 60 to 70% is held as investment and therefore available for sale anytime real interest rates turn positive. That's an over 110,000 tons hangover.
Given these facts, how can a "peak gold" theory impact prices?
(Not to even mention how credible "peak oil" turned out to be…).
Stick to 5% of your holdings in gold and forget about it. Zero income but great diversifier.
We had the doubters go first on "QE to infinity!". Then they downgraded to "The Fed will not taper". So then they came up with "there will be QE4". Then they downshifted to "The Fed will never hike". Then, "not this year". Now we have "25 bp at most".
So yes. QE is over, job growth returned, Wall Mart hiked wages, the Fed will hike. This year. By 25 basis point. In June. Or September.
Mr.Market finally woke up on that one. Time to fade the deflation trade. Look at the yield curve moves this month: 2y/10y from 120bp to 146bp. 2Y note from .47% to .67%
Nicely drafted response. I am surprised though that in this debate no mention is ever made of what the debt would finance.
The discussion revolves around the absolute level of debt, which is a short sighted "single entry accounting" view. The real issue is what is that debt used for?
Debt is neither bad nor good in itself. It is a tool that can be used smartly, financing productive infrastructure an other high yielding assets, or that can be abused, financing useless wars and welfare benefits for unskilled illegals.
That's the real debate we should have, not the hollow one-liner catchy soundbites.
Clear article. Only thing I would add is that the worse environment for REITs is flattening curve as rates increase: flattening hurts them as described by the author, and rising rates hurt their book value (value of securities they already hold).
That's the traditional environment during Fed tightening. The REITs' management (and their SA fanboys') narrative is "short rates may go up but so do long rates so the spread will remain" and "besides, we're hedged for the existing exposure, so book value will be OK".
That ignores two things: the flattening, so long rates rise less than short rates; and the cost of hedging, as it protects book value but erodes the spread.
On both accounts, the invoice for the apparent free lunch enjoyed by dividend investors is in the mail. So, yup, better stay away from these. Carry trade turning red.
Price effect.
Large holders keep their inventory unchanged. When prices move up, the numeraire ($) value of the share of gold increases, what you're seeing is the reverse effect as prices moved down.
Meanwhile, back at the ranch, gold is dropping like a stone….
Yup, gold is a high yielding asset in a negative interest rate environment. Problem is, so far the US dollar is a higher yielding one...
Nothing wrong with correcting facts, I don't take it personally.
Except in this case I stand by my words, that's 1931. The hike was in fact a reaction to foreign developments: to alleviate pressure on the British pound, in July 1931, the Bank of England raised its base rate by 200 basis points to a level of 4.50%. This did not stop the run on the pound. On September 21, 1931, the Bank of England abandoned the gold standard but, in an attempt to forestall further raids on the pound, raised its base rate another 150 basis points that month to a level of 6.00%. That's when that unfortunate Fed move took place: October 8th and October 16th 1931.
The "Mistake of 1937", which indeed triggered a relapse of the recession, was in fact not linked to interest rate moves but to communication blunders (excessive focus on inflation risks), rise in reserve requirements and fiscal tightening. From late 1932 onwards the short-term interest rate remained close to zero. In the spring of 1937 it rose only slightly and then fell again.
Should you be analytically inclined, you can find a good account of the 1937 episode here:
Very nice article. The Fed capital is economically the present value of all future US dollar seignorage. So the accounting entry that the enlightened audit proponents want to check is meaningless.
My expectation is that once these eminent gentlemen will have had their minute in the sun on network channels, their bankrolling masters will tell them to "Sit!" and that will be it.
But who knows? This can take a life of its own. Better short $ then.
Thanks for a very useful article: factual presentation and nice rundown of fees and tax issues. I'll keep that in my tax papers.
Funny article. Bull run during the 70's was caused by inflation out of control and the McChesney-Martin Fed behind the curve, raising rates AFTER inflation spiked, so constantly negative real rates.
More intriguing is the 2000's episode. I looked at the data, comparing 10y Treasuries and gold:
July 2003 10Y yield 4.49% Gold Price $354.75
October 2007 10Y yield 4.47% Gold fix $780.50
So no yield rising over the period.
The author's correlation is missing for the 10y yield.
I'm somewhat bullish gold, but for none of the funny reasons outlined here. I mean, come on, gold rises when interest rates rise?
I'll stick with the "naive traders" and "asinine Fed" "garbage over the author's enlightenment.
Dear author,
Not sure about your maths when you say " wages should be raising at 2%-4% based on the experience of previous recovery instead of the 0.5% increase as reported by the Department of Labor recently for January"
This is what BLS tells us:
"In January, average hourly earnings for all employees on private nonfarm payrolls increased by 12 cents to $24.75".
12 cents is indeed 0.5%. But that's 0.5% FOR A MONTH. So to annualize that you have to bring 1.005 to the power of 12. You then find that the annual pace of wage growth in January is 6.17%. So indeed if that remains so, there's no doubt the Fed will hike.
Quite frankly, I don't think gold reacts to Lockhart's speeches. Gold is propped up by negative interest rates in Japan, the Euro area, Switzerland etc... but has to compete with US dollar assets as a safe haven from negative rates abroad. It is currently buoyed by negative rates there and capped by dollar strength, so it is essentially going nowhere these last few days.
Indeed, this "OPEC on the offensive" story we were served is a fairy tale.
Shale is now the swing producer and its cost of production is falling as technology advances.
OPEC gets the sour dividends of remaining on their couch collecting a rent. Guess what? Technology and hard work ate their lunch.
Tough luck: their choice is to accept significantly lower prices or significantly lower market share.
Pick your poison.
Had we followed the Austrian liquidationist view advocated by the goldistas and the "Sarcastic experts" school of thought, we would have had something as bad, or worse than 1929.
Didn't happen as we had Bernanke's expertise and familiarity with the 1929 crisis.
But this is now water under the bridge and time is up for 0% rates.
I mean, if the Fed doesn't hike when employment returned to healthy levels, wages start growing again (January average hourly earnings for all employees on private non farm payrolls increased by 12 cents to $24.75, that's 6.01% annualized), and job creation for the past three months was at decade highs, then when would they hike?
Mr.Market finally fell out of bed on that one: check the yield curve move since Friday: +15 bp on 2y, +17bp on 10y.
"Emerging market debt more expensive to service." You plan to have the Fed manage the US economy for the benefit of emerging economies' companies? Indeed, EE based companies went on a borrowing binge mostly to finance commodity related investment. That investment is now experiencing the commodity downturn and runs into problems anyway. Certainly not a decisive factor to run monetary policy stateside.
Finally, advanced economies are net importers from EEs, so we do not depend on them as regards final demand. Only exception is Germany with 7.5% current account surplus. Deflating the German CA surplus will be a good thing for all other players.
I am talking about a 25bp increase from 0%.
You know what happened in the 1931 episode you are referring to?
In two 100 basis point steps - on October 9, 1931 and on October 16, 1931 - the New York Fed increased its discount rate, so BY 100 BP EACH TIME in a single week.
Therefore, the discount rate went from 1-1/2% on October 8, 1931 to 3-1/2% on October 16, 1931 - a two percentage point increase (200BP) in approximately a one-week time span.
Always good to keep a sense of proportion when using historical references.
Once again: The. Fed. Will. Hike.
Simple as that.
Might be the first and last hike for a long time, but they will.
If you want more clicks, just draft a few lines on "Gold to the moon once the banksters quit suppressing the price" or "Short Tesla to zero!" :)
You are making some good points, but they are overshadowed by the use of an outright insulting title for the article.
Furthermore, as you mention yourself, the full paper has not been published yet, so how can you already come to such definitive -and dismissive- conclusions?
Nice article.
But we don't have the counterfactual as far as yields rising during QE (meaning what would have happened had the Fed not being buying?): how high would have yields risen as the budget deficit rose markedly to offset private deleveraging?
In that sense, it is impossible to dismiss the impact of monetary policy. So I'm not sure that "what ails the economy... is not monetary in nature, and is therefore unresponsive to monetary remedy."