Sive Morten
Special Consultant to the FPA
- Messages
- 18,644
Fundamentals
In recent few months we week by week were building the fundamental background of crisis to explain you why it is not a common recession but structural crisis. We've explained why interest rate hike will not help to stabilize situation and reduce inflation. Now we have in-depth explanation of major processes, good knowledge background for understanding current crisis in all spheres- interest rates, real estate, employment, commodities, stocks that we've explained in all nuances.
Recent drop has made a lot of noise in media as becomes surprising for many people. But - this is just the visible effect of crisis processes. We have talked as about possible Japan intervention, as about GBP drop below 1.12 area, as of 113 level by Dollar Index and about many other things. All of them are achieved now. Since the background of our fundamental view is set already, we could just monitor and update of different driving factors.
J. Powell benefit performance
Here, guys, I'm speaking not about Fed rate decision and following press conference, although it is also very important. I'm talking about most recent J.Powell's comments on Friday. In some our previous report we've said that liberal system of financial government doesn't understand the nature of structural crisis, they do not recognize the reasons and solutions. So, they try to resolve the problem in "classic" way - just rise rates, thinking that it has to help. Now J. Powell publicly acknowledge that Fed doesn't understand what is going on:
Federal Reserve Chair Jerome Powell said -
Fed gradually is starting to understand that classic approach doesn't work, interest rates impact only on a monetary component of inflation, reducing money amount in the economy, making them more expensive. But, additionally it increases the structural component, as expenses are increasing in all spheres, exposing disbalances and pushing prices higher. So, they see it, but do not know what to do, as they have not studied this in the universities and haven't seen it in practice for the half of the century or even longer. Currently it is quite different generation of managers, living in environment of low-rate economy for decades. The whole system is adopted for low rates and now system is stunned with the new reality. Partially Powell talked about this as well, although in relation to Real Estate market. But it relates to all spheres of the US economy now:
We can't agree more. Take a look at this:
It is obvious that current situation can't last forever and very unstable. Significant growth is visible everywhere and absolutely doesn't match to households' wealth dynamic. We present the graph for the city of Austin (the capital of Texas) so that it can be seen that this growth does not correspond to the previous trend:
And it is not a surprise why existed home sales drops seven weeks in a row. The Federal Reserve's aggressive monetary policy tightening, marked by oversized interest rate increases, has weakened the housing market considerably.
The outlook for the housing market remains dark. Housing finance giant Fannie Mae on Wednesday lowered its forecast for total home sales this year to 5.71 million units from 5.78 million units previously. It now expects home sales to come in at 4.98 million units in 2023, revised down from the previously estimated 5.18 million units. Since March, the Fed has raised its policy rate from near zero to its current range of 3.0% to 3.25%.
The 30-year fixed mortgage rate averaged 6.02% last week, from 5.89% in the prior week, breaking above 6% for the first time since November 2008, according to data from mortgage finance agency Freddie Mac.
Though house price growth has slowed as demand weakened, tight supply is keeping prices elevated. The median existing-house price increased 7.7% from a year earlier to $389,500 in August. That was the smallest year-on-year rise since early in the pandemic. The median house price hit a record high of $413,800 in June.
Rising mortgage rates and home prices since the start of the year have boosted monthly mortgage payments more than 50%. There were 1.28 million previously owned homes on the market, unchanged from a year ago as the higher borrowing costs discourage homeowners who locked in lower rates years ago from selling their properties.
Other points of Fed meeting mostly were expected. In particular, the Fed's latest quarterly summary of policymaker projections shows U.S. central bankers expect to raise the policy rate, now in the 3%-3.25% range after Wednesday's 75-basis-point increase, to 4.4% by the end of this year and to 4.6% by the end of next year, according to the median estimate of all 19 Fed policymakers.
Fed Chair Jerome Powell is hopeful that the projected rate path will do the job, allowing him to avoid the high costs imposed by Volcker's actions, including 10.8% unemployment. Meanwhile policymakers expect their interest-rate hikes to push the unemployment rate, now at 3.7%, to 3.8% next quarter and 4.4% in the final quarter of 2023. The median projection was for GDP growth to slow to 0.2% this year, compared with June's expectation for 1.7% growth.
Goldman Sachs tells that inflation has become more stubborn and suggest the following change:
He said that the dollar has become significantly overvalued. Since the beginning of the year, the dollar index has soared nearly 16%, the largest yearly percentage gain since at least 1972, when Refinitiv started the data series. Osborne also said higher U.S. rate expectations have already been priced in the dollar, with the peak fed funds rate, or the U.S. central bank's policy rate, having advanced by more than 100 bps since August.
Thus, setting the bottom line under recent Fed meeting, we could say that they are more talking rather than doing. In March 2022, the forecast for the rate for 2022 was 1.9%, at the meeting in June - 3.4%, and now Fed members expect 4.4-4.5%. Thus, an increase in rates over 4% by the end of 2022 is inevitable.
Powell once again launched a psychotherapy session, trying to instill confidence in the market in the success of the Fed's approach to fighting inflation and the conviction that the Fed will win, and in the medium term inflation drops to the target range of 2%. This is a typical Powell behavior, so you should not pay attention to it, Despite the market traditionally pumps every Powell speech - the optimism charge is usually enough for 1-2 days only (this time for half an hour).
At the same time, there is no certainty about the main thing – what the Fed will do if something goes wrong as planned, and everything is really bad with their plans. None of the Fed's plans and forecasts have come true. They don't even fulfill their obligations to reduce the balance sheet.
We must understand that they will definitely get out of control. It's not even about the market. We are talking about debt markets that will not withstand such tension with rates. Already at the end of 2022, the dollar system will be covered by a wave of defaults among companies with junk debts and near-zero cash flow.
According to the Fed's expectations, the main rate growth momentum will end in 2022, and next year, no iterations of rate increases above 0.25% are expected at meetings. The resulting rates are no higher than 4.6%, although some of those voting in the Fed are going to go to 5%. It seems that Fed is frustrated and undecided. The Fed's forecasts now and the market consensus suggest rates increase of 75 points in November and another 50 points in December to 4.5%!
To be clear, Fed officials aren’t explicitly projecting a recession. But Powell’s rhetoric about the rate hikes likely causing pain for workers and businesses has gotten progressively sharper in recent months. On Wednesday, in his post-meeting press conference, Powell said a soft landing with only a small increase in joblessness would be “very challenging.”
Since Fed changes rates with highest tempo in history, the loses on the bond market are at 22-year maximum, according to BofA:
And what is in Europe?
Well, guys, EU situation is difficult to call as "better". Inflation in Germany has hit all time high at 45% level.
Real Estate market is not in better conditions as well. This graph below shows that the housing boom in Germany is over. Shares of real estate lender Hypoport fell 34%, the most ever, after the group suspended its full-year forecast, saying that residential mortgage customers are refraining from buying real estate.
The debt of residents of the Netherlands on mortgages exceeded 800 billion euros in the second quarter, according to data from the Central Statistical Bureau.
The mortgage debt increased by 10.6 billion euros compared to the first quarter. That is a big increase, according to Peter Boelhouwer, the senior housing market lecturer at TU Delft.
The risk of a euro-area recession has reached its highest level since July 2020 as concerns grow that a winter energy squeeze will cause a slump in economic activity. Economists polled by Bloomberg now put the probability of two straight quarters of contraction at 80% in the next 12 months, up from 60% in a previous survey. Germany, the bloc’s largest economy and among the most exposed to cutbacks in gas supplies, is likely to shrink from as early as this quarter. Here are just few links ( I do not want to put the quotes here) that indicate situation in general
Bloomberg: The Global Race to Hike Rates Tilts Economies Toward Recession
NY Times: Crippling’ Energy Bills Force Europe’s Factories to Go Dark
WSJ: High Natural-Gas Prices Push European Manufacturers to Shift to the U.S.
This is most interesting article. Battered by skyrocketing gas prices, companies in Europe that make steel, fertilizer and other feedstocks of economic activity are shifting operations to the U.S., attracted by more stable energy prices and muscular government support. It appears to be VW, Pandora thinking of moving business to the US, which already have prepared support stimulus for foreign companies.
As we've said - EU will lose everything, and US will squeeze all financial juices out of it. This is the result of blind following to third side interests for the country that has no independence. US meantime, is preparing to long-term confrontation with China, and they need to accumulate as more production powers as possible on their territory to minimize supply sanction effect.
In the United States, they publicly tell that Europe is paying for the support of Ukraine with its own economy. In the United States, this does not bother anyone — it's "just business, nothing personal", but two long-term trends are visible behind this news at once:
Firstly, Washington accumulates modern industrial production and highly qualified employees from EU countries on its territory. Why this is being done is clear: in the near future, the conflict with China will enter an acute phase, the US authorities want to enter this crisis as prepared as possible and with minimal dependence on the Chinese industry. Secondly, Europe, as an industrial and scientific center in the United States, has been given up — the Old World is destined to become a supplier of hands, brains and technology for the New World, the rest is not interesting to anyone.
Conclusion
So, there is a rapid strengthening of the dollar up to the maximum in 21 years. The pound sterling has collapsed to its lowest since 1985, the euro has collapsed to its lowest in almost 20 years. This trend is associated with the differential of interest rates between currency zones, where the Fed's policy is currently the toughest among all the world's central banks of the largest developed countries.
This contributes to the flow of capital into the dollar zone, compensating for the critical need of the United States for an influx of foreign investment against the background of a record current account deficit, which requires an influx of foreign investment to cover. Additionally, the need to cover the federal budget deficit after the Fed leaves the treasuries market in March 2022 and the activation of sales of treasuries since June, which further increases the need for external investment.
In this regard, nothing changes and the United States works within the old paradigm, creating a pronounced competitive advantage of the dollar zone, all other things being equal, narrowing the space for maneuver of international capital. Conditions when it's bad for everyone, but in relative terms, the US positions look better than others.
That's why the pound and the euro collapsed, because the monetary policy in Europe is incomparably softer, the economic problems are much larger, and the prospects are gloomy. It's bad for everyone, but the USA is better than the rest.
These trends will continue as long as disproportions and imbalances of monetary policy among major central banks remain. The United States is trying to masterfully maneuver in conditions of a critical shortage of global liquidity, plugging holes in its own financial system. So far, this supports the stability of the system, as Fed has reserves to keep policy tough. At the same time, the safety margin of US financial system is limited. We suggest that 4.5% Fed interest rate could trigger unreversable process of collapse. With exhausting 2.2Trln of Fed reserves and deep starvation of liquidity, as real estate market, as debt market couldn't hold this burden any more, dragging down employment and households' wealth. Crushing of the stock market and high political risks, accelerating to November could become a catalysts of this process.
We suggest that all markets now are hostages of US Dollar dominance and the structure of world financial system. Currently we see technical issues of capital re-distribution, that have no fundamental background. It just a rising interest rates makes dollar more expensive, and to serve the debts everybody have to buy it. This is the "deadly loop". For example, AUD and CHF have excellent fundamentals but they are also dropping. This is the process that we have to wait out, that's it. This is the "endurance contests", how particular asset could resist to external pressure. What comes earlier - the US collapse and Fed easing, or breaking of major levels on other markets, such as Gold, AUD and investors' capitulation. This is the reasons why we suggest that potential lows on such an assets like Gold, AUD, CHF might become all time best entry points, because reversal will be fast and furious, when investors understand that US interest rate rising is a negative sign that reflects dollar devaluation and default risk, but not the positive one, as majority thinks now, suggesting that it increases the yield of investment. Venezuela bonds has two digits yield, but nobody hurry up to buy it. The same should happen with the US Dollar assets. This will be reversal moment that comes slightly before the final crush.
Meantime, as we're still in the beginning of this process, real estate market is already involved in turmoil, while job market is not yet, we keep our mid term targets of 0.9 by EUR and 0.95 by GBP valid.
In recent few months we week by week were building the fundamental background of crisis to explain you why it is not a common recession but structural crisis. We've explained why interest rate hike will not help to stabilize situation and reduce inflation. Now we have in-depth explanation of major processes, good knowledge background for understanding current crisis in all spheres- interest rates, real estate, employment, commodities, stocks that we've explained in all nuances.
Recent drop has made a lot of noise in media as becomes surprising for many people. But - this is just the visible effect of crisis processes. We have talked as about possible Japan intervention, as about GBP drop below 1.12 area, as of 113 level by Dollar Index and about many other things. All of them are achieved now. Since the background of our fundamental view is set already, we could just monitor and update of different driving factors.
J. Powell benefit performance
Here, guys, I'm speaking not about Fed rate decision and following press conference, although it is also very important. I'm talking about most recent J.Powell's comments on Friday. In some our previous report we've said that liberal system of financial government doesn't understand the nature of structural crisis, they do not recognize the reasons and solutions. So, they try to resolve the problem in "classic" way - just rise rates, thinking that it has to help. Now J. Powell publicly acknowledge that Fed doesn't understand what is going on:
Federal Reserve Chair Jerome Powell said -
Fed gradually is starting to understand that classic approach doesn't work, interest rates impact only on a monetary component of inflation, reducing money amount in the economy, making them more expensive. But, additionally it increases the structural component, as expenses are increasing in all spheres, exposing disbalances and pushing prices higher. So, they see it, but do not know what to do, as they have not studied this in the universities and haven't seen it in practice for the half of the century or even longer. Currently it is quite different generation of managers, living in environment of low-rate economy for decades. The whole system is adopted for low rates and now system is stunned with the new reality. Partially Powell talked about this as well, although in relation to Real Estate market. But it relates to all spheres of the US economy now:
We can't agree more. Take a look at this:
It is obvious that current situation can't last forever and very unstable. Significant growth is visible everywhere and absolutely doesn't match to households' wealth dynamic. We present the graph for the city of Austin (the capital of Texas) so that it can be seen that this growth does not correspond to the previous trend:
And it is not a surprise why existed home sales drops seven weeks in a row. The Federal Reserve's aggressive monetary policy tightening, marked by oversized interest rate increases, has weakened the housing market considerably.
The outlook for the housing market remains dark. Housing finance giant Fannie Mae on Wednesday lowered its forecast for total home sales this year to 5.71 million units from 5.78 million units previously. It now expects home sales to come in at 4.98 million units in 2023, revised down from the previously estimated 5.18 million units. Since March, the Fed has raised its policy rate from near zero to its current range of 3.0% to 3.25%.
The 30-year fixed mortgage rate averaged 6.02% last week, from 5.89% in the prior week, breaking above 6% for the first time since November 2008, according to data from mortgage finance agency Freddie Mac.
Though house price growth has slowed as demand weakened, tight supply is keeping prices elevated. The median existing-house price increased 7.7% from a year earlier to $389,500 in August. That was the smallest year-on-year rise since early in the pandemic. The median house price hit a record high of $413,800 in June.
Rising mortgage rates and home prices since the start of the year have boosted monthly mortgage payments more than 50%. There were 1.28 million previously owned homes on the market, unchanged from a year ago as the higher borrowing costs discourage homeowners who locked in lower rates years ago from selling their properties.
Other points of Fed meeting mostly were expected. In particular, the Fed's latest quarterly summary of policymaker projections shows U.S. central bankers expect to raise the policy rate, now in the 3%-3.25% range after Wednesday's 75-basis-point increase, to 4.4% by the end of this year and to 4.6% by the end of next year, according to the median estimate of all 19 Fed policymakers.
Fed Chair Jerome Powell is hopeful that the projected rate path will do the job, allowing him to avoid the high costs imposed by Volcker's actions, including 10.8% unemployment. Meanwhile policymakers expect their interest-rate hikes to push the unemployment rate, now at 3.7%, to 3.8% next quarter and 4.4% in the final quarter of 2023. The median projection was for GDP growth to slow to 0.2% this year, compared with June's expectation for 1.7% growth.
Goldman Sachs tells that inflation has become more stubborn and suggest the following change:
He said that the dollar has become significantly overvalued. Since the beginning of the year, the dollar index has soared nearly 16%, the largest yearly percentage gain since at least 1972, when Refinitiv started the data series. Osborne also said higher U.S. rate expectations have already been priced in the dollar, with the peak fed funds rate, or the U.S. central bank's policy rate, having advanced by more than 100 bps since August.
Thus, setting the bottom line under recent Fed meeting, we could say that they are more talking rather than doing. In March 2022, the forecast for the rate for 2022 was 1.9%, at the meeting in June - 3.4%, and now Fed members expect 4.4-4.5%. Thus, an increase in rates over 4% by the end of 2022 is inevitable.
Powell once again launched a psychotherapy session, trying to instill confidence in the market in the success of the Fed's approach to fighting inflation and the conviction that the Fed will win, and in the medium term inflation drops to the target range of 2%. This is a typical Powell behavior, so you should not pay attention to it, Despite the market traditionally pumps every Powell speech - the optimism charge is usually enough for 1-2 days only (this time for half an hour).
At the same time, there is no certainty about the main thing – what the Fed will do if something goes wrong as planned, and everything is really bad with their plans. None of the Fed's plans and forecasts have come true. They don't even fulfill their obligations to reduce the balance sheet.
We must understand that they will definitely get out of control. It's not even about the market. We are talking about debt markets that will not withstand such tension with rates. Already at the end of 2022, the dollar system will be covered by a wave of defaults among companies with junk debts and near-zero cash flow.
According to the Fed's expectations, the main rate growth momentum will end in 2022, and next year, no iterations of rate increases above 0.25% are expected at meetings. The resulting rates are no higher than 4.6%, although some of those voting in the Fed are going to go to 5%. It seems that Fed is frustrated and undecided. The Fed's forecasts now and the market consensus suggest rates increase of 75 points in November and another 50 points in December to 4.5%!
To be clear, Fed officials aren’t explicitly projecting a recession. But Powell’s rhetoric about the rate hikes likely causing pain for workers and businesses has gotten progressively sharper in recent months. On Wednesday, in his post-meeting press conference, Powell said a soft landing with only a small increase in joblessness would be “very challenging.”
Since Fed changes rates with highest tempo in history, the loses on the bond market are at 22-year maximum, according to BofA:
And what is in Europe?
Well, guys, EU situation is difficult to call as "better". Inflation in Germany has hit all time high at 45% level.
Real Estate market is not in better conditions as well. This graph below shows that the housing boom in Germany is over. Shares of real estate lender Hypoport fell 34%, the most ever, after the group suspended its full-year forecast, saying that residential mortgage customers are refraining from buying real estate.
The debt of residents of the Netherlands on mortgages exceeded 800 billion euros in the second quarter, according to data from the Central Statistical Bureau.
The mortgage debt increased by 10.6 billion euros compared to the first quarter. That is a big increase, according to Peter Boelhouwer, the senior housing market lecturer at TU Delft.
The risk of a euro-area recession has reached its highest level since July 2020 as concerns grow that a winter energy squeeze will cause a slump in economic activity. Economists polled by Bloomberg now put the probability of two straight quarters of contraction at 80% in the next 12 months, up from 60% in a previous survey. Germany, the bloc’s largest economy and among the most exposed to cutbacks in gas supplies, is likely to shrink from as early as this quarter. Here are just few links ( I do not want to put the quotes here) that indicate situation in general
Bloomberg: The Global Race to Hike Rates Tilts Economies Toward Recession
NY Times: Crippling’ Energy Bills Force Europe’s Factories to Go Dark
WSJ: High Natural-Gas Prices Push European Manufacturers to Shift to the U.S.
This is most interesting article. Battered by skyrocketing gas prices, companies in Europe that make steel, fertilizer and other feedstocks of economic activity are shifting operations to the U.S., attracted by more stable energy prices and muscular government support. It appears to be VW, Pandora thinking of moving business to the US, which already have prepared support stimulus for foreign companies.
As we've said - EU will lose everything, and US will squeeze all financial juices out of it. This is the result of blind following to third side interests for the country that has no independence. US meantime, is preparing to long-term confrontation with China, and they need to accumulate as more production powers as possible on their territory to minimize supply sanction effect.
In the United States, they publicly tell that Europe is paying for the support of Ukraine with its own economy. In the United States, this does not bother anyone — it's "just business, nothing personal", but two long-term trends are visible behind this news at once:
Firstly, Washington accumulates modern industrial production and highly qualified employees from EU countries on its territory. Why this is being done is clear: in the near future, the conflict with China will enter an acute phase, the US authorities want to enter this crisis as prepared as possible and with minimal dependence on the Chinese industry. Secondly, Europe, as an industrial and scientific center in the United States, has been given up — the Old World is destined to become a supplier of hands, brains and technology for the New World, the rest is not interesting to anyone.
Conclusion
So, there is a rapid strengthening of the dollar up to the maximum in 21 years. The pound sterling has collapsed to its lowest since 1985, the euro has collapsed to its lowest in almost 20 years. This trend is associated with the differential of interest rates between currency zones, where the Fed's policy is currently the toughest among all the world's central banks of the largest developed countries.
This contributes to the flow of capital into the dollar zone, compensating for the critical need of the United States for an influx of foreign investment against the background of a record current account deficit, which requires an influx of foreign investment to cover. Additionally, the need to cover the federal budget deficit after the Fed leaves the treasuries market in March 2022 and the activation of sales of treasuries since June, which further increases the need for external investment.
In this regard, nothing changes and the United States works within the old paradigm, creating a pronounced competitive advantage of the dollar zone, all other things being equal, narrowing the space for maneuver of international capital. Conditions when it's bad for everyone, but in relative terms, the US positions look better than others.
That's why the pound and the euro collapsed, because the monetary policy in Europe is incomparably softer, the economic problems are much larger, and the prospects are gloomy. It's bad for everyone, but the USA is better than the rest.
These trends will continue as long as disproportions and imbalances of monetary policy among major central banks remain. The United States is trying to masterfully maneuver in conditions of a critical shortage of global liquidity, plugging holes in its own financial system. So far, this supports the stability of the system, as Fed has reserves to keep policy tough. At the same time, the safety margin of US financial system is limited. We suggest that 4.5% Fed interest rate could trigger unreversable process of collapse. With exhausting 2.2Trln of Fed reserves and deep starvation of liquidity, as real estate market, as debt market couldn't hold this burden any more, dragging down employment and households' wealth. Crushing of the stock market and high political risks, accelerating to November could become a catalysts of this process.
We suggest that all markets now are hostages of US Dollar dominance and the structure of world financial system. Currently we see technical issues of capital re-distribution, that have no fundamental background. It just a rising interest rates makes dollar more expensive, and to serve the debts everybody have to buy it. This is the "deadly loop". For example, AUD and CHF have excellent fundamentals but they are also dropping. This is the process that we have to wait out, that's it. This is the "endurance contests", how particular asset could resist to external pressure. What comes earlier - the US collapse and Fed easing, or breaking of major levels on other markets, such as Gold, AUD and investors' capitulation. This is the reasons why we suggest that potential lows on such an assets like Gold, AUD, CHF might become all time best entry points, because reversal will be fast and furious, when investors understand that US interest rate rising is a negative sign that reflects dollar devaluation and default risk, but not the positive one, as majority thinks now, suggesting that it increases the yield of investment. Venezuela bonds has two digits yield, but nobody hurry up to buy it. The same should happen with the US Dollar assets. This will be reversal moment that comes slightly before the final crush.
Meantime, as we're still in the beginning of this process, real estate market is already involved in turmoil, while job market is not yet, we keep our mid term targets of 0.9 by EUR and 0.95 by GBP valid.
