INSIGHTS

Stefano Sciacca

Fri, Sep 27


The “Everything” Bubble Doesn’t Burst…Yet!

We are living in exciting times. The Federal Reserve has created what is probably the largest and longest-lasting financial bubble in the history of the US. It doesn’t matter if frustrated traders continue to yell bearish sentences on why the market should collapse any time soon. The reality is that we could easily mention a thousand reasons, but the bubble continues to get grow.

 

 

The central banks (i.e. Bank of Japan, European Central Bank, and US Federal Reserve) have market participants “addicted” to “free” money, while savers (and middle-class millennials) have been struggling for more than a decade to simply cumulate enough wealth for a first house down payment. The domino effect is very simple: the cheaper and the easier is to borrow, the higher the demand for investments is ( i.e real estate, stocks, bonds…). Rents get higher, inflation spikes (thanks also to the trade negotiations) and wages are not catching up, meaning the social trap just becomes even tighter.

 

 

Now, we might believe that central banks have the situation under control, at the end of the day they are experts with decades of experience. So why do they keep stimulating the economy despite saying it isn’t showing any sign of weakness in the near future? Despite that fact the market certainly seems to like it, corporates (especially those with an elevated amount of outstanding debt) are enjoying their free refinancing and instead of boosting their earnings-per-share (EPS) by producing better goods/services, implementing new pricing policies, increasing their sale volumes or organically acquiring market share, they either repurchase their own shares (making sure the stock price continues to rally) or they can extinguish their “expensive” outstanding debt by issuing new “cheaper” options. In doing this, they save tens of millions per quarter in interest expenses, lifting their net profit. If we also take into account the tax boost post Trump’s election…you do the maths!

We must also remember that high-level management typically receive stock options and cash incentives based on the “corporate profit” growth.  The charts below show how the SP500 has become 44% more expensive than 10 years ago (in terms of enterprise value vs operating profit), while the US GDP has grown by a more “moderate” 22% over the same period. How could we explain such a sharp growth, especially the last few months bounce back, if every “active” investor claims to be either short or underweight on stocks? Answer: ETFs, Passive Investments, Algo-Trading and more importantly Corporates shares buybacks ($1tn this year).

 

The REPO market scandal (10x higher overnight rate in only few hours, came due to a sudden liquidity shock) , the Trump-Ukraine impeachment, the German recession (historically lower consumer confidence and PMI), the endless Brexit (UK Parlament shut down recently declared unlawful)…all warning factors!

 

Monday:

  • NBS China Manufacturing PMI (previous, 49.5)
  • UK GDP (previous, 0.5%/1.8% QoQ/YoY)

Tuesday:

  • Canada Manufacturing PMI (previous, 47.2)
  • Italy Markit Manufacturing PMI (previous, 48.7)
  • Germany Markit Manufacturing PMI (previous, 43.5)
  • Canada GDP (previous, 0.2%)
  • US ISM Manufacturing PMI (consensus/previous, 50.4/49.1

 

Wednesday:

  • UK Consumer PMI (previous, 45)
  • US ADP National Employment (consensus/previous, 153K/195K)

 

Thursday:

  • US ISM Non-Manufactruing PMI (consensus/previous, 55.8/56.4)
  • UK Service PMI (previous, 50.6)
  • US All Car Sales (previous, 4.6mn units)

 

Friday:

  • Australia Retail Sales (previous, -0.1%)
  • US Non-Farm Payrolls (consensus/previous, 162K/130K)
  • US Unemployment Rate (consensus/previous, 3.7%/3.7%)

 

Chart of the week

 

Quote of the week

"You have stolen my dreams and my childhood...We are in the beginning of a mass extinction and all you can talk about is money and fairytales of economic growth. How dare you!” Greta Thunberg on the climate change effects at the UN Conference last week

 

Fact of the week

A brave trader from Mitsubishi Corp. has just been sacked after losing as much as $320 million. The trader, who was employed by Petro-Diamond Singapore Pte Ltd, a subsidiary of Mitsubishi Corporation, incurred significant losses when a "premature" settlement of derivatives positions had to be closed out, according to his lawyer Joseph Chen. The losses are expected to be about 6% of Mitsubishi's projected profit for the fiscal year, although the right figure has still to be publicly announced.


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