Houston (Fed), We Have A Problem (Problems) – Part 1/2

15 seconds and counting

12….11…10…9….IGNITION SEQUENCE START….6….5….4….3….2….1….0….ALL ENGINES RUNNING….LIFTOFF….WE HAVE A LIFTOFF!

The Fed finally raised rates after nearly a decade.  On December 16, the Fed decided to raise rates – for the first time since June 2006 – by 0.25%, or 25 basis points. It was widely expected by the markets and I only expected 10bps hike. Well, I was wrong on that.

The Federal Open Market Committee (FOMC) unanimously voted to set the new target range for the federal funds rate at 0.25% to 0.50%, up from 0% to 0.25%. In the statement, the policy makers judged the economy “has been expanding at a moderate pace.” Labor market had shown “further improvement.” Inflation, on the other hand, has continued to “run below Committee’s 2 percent longer-run objective” mainly due to low energy prices.

Remember when the Fed left rates unchanged in September? It was mainly due to low inflation. What’s the difference this time?

In September, the Fed clearly stated “…surveybased measures of longer-term inflation expectations have remained stable.”

Now, the Fed clearly states “…some survey-based measures of longer-term inflation expectations have edged down.”

So…umm…why did they raise rates this time?

Here is a statement comparison from October to December:

Fed Statment Comparation – Oct. to Dec. Source: WSJ
Fed Statement Comparison – Oct. to Dec.
Source: WSJ

On the pace of rate hikes looking forward, the FOMC says:

In determining the timing and size of future adjustments to the target range for the federal funds rate, the Committee will assess realized and expected economic conditions relative to its objectives of maximum employment and 2 percent inflation. This assessment will take into account a wide range of information, including measures of labor market conditions, indicators of inflation pressures and inflation expectations, and readings on financial and international developments. In light of the current shortfall of inflation from 2 percent, the Committee will carefully monitor actual and expected progress toward its inflation goal. The Committee expects that economic conditions will evolve in a manner that will warrant only gradual increases in the federal funds rate; the federal funds rate is likely to remain, for some time, below levels that are expected to prevail in the longer run. However, the actual path of the federal funds rate will depend on the economic outlook as informed by incoming data.

They clearly stated one of the things they look for, which is inflation expectations. But, they also did state that “inflation expectations have edged down.”

It seems to me that the Fed did not decide to raise rates. The markets forced them. Fed Funds Futures predicted about 80% chance of a rate-hike this month. If the Fed did not raise rates, they would have lost their credibility.

I believe the Fed will have to “land” (lower back) rates this year, for the following reasons:

  • Growing Monetary Policy Divergence

On December 3, European Central Bank (ECB) stepped up its stimulus efforts. The central bank decided to lower deposit rates by 0.10% to -0.30%. The purpose of lower deposit rates is to charge banks more to store excess reserves, which stimulates lending. In other words, free money for the people so they can spend more and save less.

ECB also decided to extend Quantitative Easing (QE) program. They will continue to buy 60 billion euros ($65 billion) worth of government bonds and other assets, but until March 2017, six months longer than previously planned, taking the total size to 1.5 trillion euros ($1.6 trillion), from the previous $1.2 trillion euros package size. During the press conference, ECB President Mario Draghi said the asset eligibility would be broadened to include regional and local debt and signaled QE program could be extended further if necessary.

ECB might be running out of ammunition. ECB extending its purchases to regional and local debt raises doubts about its program.

Not only ECB is going the opposite direction of the Fed. Three weeks ago, Bank of Japan (BoJ) announced a fresh round of new stimulus. The move was hardly significant, but it is still a new round of stimulus. The central bank decided to buy more exchange-traded fund (ETF), extend the maturity of bonds it owns to around 7-12 years from previously planned 7-10 years, and increase purchases of risky assets.

I previously stated in “Central Banks Smash: No Growth, No Inflation“,

The extensions of its QE are beginning to become routine or the “new normal”.

Japan's ETF Market - BoJ's holdings Source: Bloomberg
Japan’s ETF Market – BoJ’s holdings
Source: Bloomberg

The move by BoJ exposes the weakness of its past actions. It suggests the bank is also out of ammunition. Already owning 52% or more of the Japan’s ETF market and having a GDP-to-Debt ratio around 245%, it is only a matter of time before Japan’s market crashes. Cracks are already beginning to be shown. I expect the market crash anytime before the end of 2019.

So, what are the side-effects of these growing divergence?

For example, the impact of a US dollar appreciation resulting from a tightening in US monetary policy and the impact of a depreciation in other currencies resulting from easing in its monetary policies. Together, these price changes will shift global demand – away from goods and services produced here in the U.S. and toward those produced abroad. In others words, US goods and services become more expensive abroad, leading to substitution by goods and services in other countries. Thus, it will hurt the sales and profits of U.S. multinationals. To sum up everything that is said in this paragraph, higher U.S. rates relative to rates around the global harms U.S. competitiveness.

  • Emerging Markets

Emerging markets were trouble last year. It is about to get worse.

International Monetary Fund (IMF) decided to include China’s currency, renminbi (RMB) or Yuan, to its Special Drawing Rights (SDR) basket, a basket of reserve currencies. Effective October 1, 2016, the Chinese currency is determined to be “freely usable” and will be included as a fifth currency, along with the U.S. dollar, euro, Japanese yen, and pound sterling, in the SDR basket.

“Freely useable” – not so well defined, is it?

Chinese government or should I say People’s Bank Of China (PBOC), cannot keep its hands off the currency (yuan). It does not want to let market forces take control. They think they can do whatever they want. As time goes on, it is highly unlikely. As market forces take more and more control of its exchange-rate, it will be pushed down, due to weak economic fundamentals and weak outlook.

China, no need to put a wall to keep market forces out. Let the market forces determine the value of your currency. It is only a matter of time before they break down the wall.

In August, China changed the way they value their currency. PBOC, China’s central bank, said it will decide the yuan midpoint rate based on the previous day’s close. In daily trading, the yuan is allowed to move 2% above or below the midpoint rate, which is called the daily fixing. In the past, the central bank used to ignore the daily moves and do whatever they want. Their decision to make the midpoint more market-oriented is a step forward, but they still have a long way to go.

China saw a significant outflows last year. According to Institute of International Finance (IFF), an authoritative tracker of emerging market capital flows, China will post record capital outflows in 2015 of more than $500 billion. The world’s second largest economy is likely to see $150 billion in capital outflow in the fourth quarter of 2015, following the third quarter’s record $225 billion.

Ever since the devaluation in August, PBOC has intervened to prop yuan up. The cost of such intervention is getting expensive. The central bank must spend real money during the trading day to guide the yuan to the level the communists want. Where do they get the cash they need? FX reserves.

China’s foreign-exchange reserves, the world’s largest, declined from a peak of nearly $4 trillion in June 2014 to just below $3.5 trillion now, mainly due to PBOC’s selling of dollars to support yuan. In November, China’s FX (forex) reserves fell $87.2 billion to $3.44 trillion, the lowest since February 2013 and largest since a record monthly drop of $93.9 billion in August. It indicates a pick-up in capital outflows. This justifies increased expectations for yuan depreciation. Since the Fed raised rates last month, I would not be surprised if the capital flight flies higher, leading to a weaker yuan.

China Reserves Source: Capital Economics
China Reserves
Source: Capital Economics

Depreciation of its currency translates into more problems for “outsiders,” including emerging markets (EM). EMs, particularly commodities-linked countries got hit hard last year as China slowed down and commodity prices slumped. EMs will continue to do so this year, 2016.

The anticipation of tightening in the U.S. and straightening dollar put a lot of pressure on EM. EM have seen a lot of significant capital outflows because they carry a lot of dollar denominated debt. According to the October report from IFF, net capital flows to EM was negative last year for the first time in 27 years (1988). Investors are estimated to pull $540 billion from developing markets in 2015. Foreign inflows will fall to $548 billion, about half of 2014 level and lower than levels recorded during the financial crisis in 2008. Foreign investor inflows probably fell to about 2% of GDP in emerging markets last year, down from a record of about 8% in 2007.

Capital Flows to Emerging Markets, Annual Data Source: IFF
Capital Flows to Emerging Markets, Annual Data
Source: IFF, taken from Bloomberg

Also contributing to EM outflows are portfolio flows, “the signs are that outflows are coming from institutional investors as well as retail,” said Charles Collyns, IIF chief economist. Investors in equities and bonds are estimated to have withdrawn $40 billion in the third quarter, the worst quarterly figure since the fourth quarter of 2008.

A weaker yuan will make it harder for its main trading partners, emerging markets and Japan, to be competitive. This will lead to central banks of EM to further weaken their currencies. Japan will have no choice but to keep extending their QE program. And to Europe. And to the U.S.      DOMINO EFFECT

Why are EMs so important? According to RBS Economics, EMs have accounted for 50%-60 of global output and 70% of global economic growth each year since the 2008 crisis.

Emerging Markets Share of Global Economy Source: RBS Economics
Emerging Markets Share of Global Economy
Source: RBS Economics

Some EM investors, if not all, will flee as U.S. rates rise, compounding the economic pain there. Corporate debt in EM economies increased significantly over the past decade. According to IMF’s Global Financial Stability report, the corporate debt of non-financial firms across major EM economies increased from about $4 trillion in 2004 to well over $18 trillion in 2014.

Figure 3.1. Emerging Market Economies Evolving Capital
EM Corporate Debt and Market Cap. Source: IMF – Page 84

When you add China’s debt with EM, the total debt is higher than the market capitalization. The average EM corporate debt-to-GDP ratio has also grown by 26% the same period.

EM Corporate Debt (percent of GDP) - Page 84
EM Corporate Debt (percent of GDP) – Page 84

The speed in the build-up of debt is distressing. According to Standard & Poor’s, corporate defaults in EM last year have hit their highest level since 2009, and are up 40% year-over-year (Y/Y).

Corporate Defaults Source: WSJ
Corporate Defaults
Source: WSJ

According to IFF (article by WSJ), “companies and countries in EMs are due to repay almost $600 billion of debt maturing this year….of which $85 is dollar-denominated. Almost $300 billion of nonfinancial corporate debt will need to be refinanced this year.”

I would not be surprised if EM corporate debt meltdown triggers sovereign defaults. As yuan weakens, Japan will be forced to devalue their currency by introducing me QE which leaves EMs with no choice. EMs will be forced to devalue their currency. Devaluations in EM currencies will make it much harder (it already is) for EM corporate borrowers to service their debt denominated in foreign currencies, due to decline in their income streams. Deterioration of income leads to a capital flight, pushing down the value of the currency even more, which leads to much more capital flight.

Let IMF explain the situation in EM,

“Firms that have borrowed the most stand to endure the sharpest rise in their debt-service costs once interest rates begin to rise in some advanced economies. Furthermore, local currency depreciations associated with rising policy rates in the advanced economies would make it increasingly difficult for emerging market firms to service their foreign currency-denominated debts if they are not hedged adequately. At the same time, lower commodity prices reduce the natural hedge of firms involved in this business.”

According to its Global Financial Stability report, EM companies have an estimated $3 trillion in “overborrowing” loans in the last decade, reflecting a quadrupling of private sector debt between 2004  and 2014.

EM Corporate Bond Composition (Billions of U.S. dollars) - Page 86
EM Corporate Bond Composition
(Billions of U.S. dollars) – Page 86
Private Sector Debt to GDP (Percent - Page 11
Private Sector Debt to GDP
(Percent – Page 11

Rising US rates and a strengthening dollar will make things much worse for EMs. Jose Vinals, financial counsellor and director of the IMF’s Monetary and Capital Markets Department, said in his October article, “Higher leverage of the private sector and greater exposure to global financial conditions have left firms more susceptible to economic downturns, and emerging markets to capital outflows and deteriorating credit quality.”

I believe currency war will only hit “F5” this year and corporate defaults will increase, leading to the early stage of sovereigns’ defaults. I would not be surprised if some companies gets a loan denominated in euros just to pay off the debt denominated in U.S dollars. That’s likely to make things worse.

Those are some of the risks I see that will force the Fed to lower back the rates.  I will address more risks, including lack of liquidity, junk bonds, inventory, etc, in my next article. Thank you.

EXTRA: Market reactions,

EUR/USD:

EUR/USD - Hourly Chart
EUR/USD – Hourly Chart

USD/JPY:

USD/JPY - Hourly
USD/JPY – Hourly

10-Year Treasury Index:

10-Year Treasury Index (TNX on thinkorswim platform) - Hourly
10-Year Treasury Index ( “TNX” on thinkorswim platform) – Hourly

2-Year U.S. Treasury Note Futures:

2-Year U.S. Treasury Note Futures ( "/ZT" on thinkorswim platform) - Hourly
2-Year U.S. Treasury Note Futures ( “/ZT” on thinkorswim platform) – Hourly

Global Markets Crash + Asian Crisis Part 2

Global markets crash. Currency wars. What’s next? Good buying opportunity?

US markets: Markets plunged dramatically on Friday. The Dow Jones Industrial Average fell 530.94 points (3.12%), the worst one-day loss since November 2011 (on a % basis). The index is now down 10.2% (correction territory) below the May 19 closing and all-time high of 18,312, for the first time since 2011. For the week, the index is down 5.8%, the steepest decline since September 2011.

S&P 500 fell 64.84 points (3.19%), the worst one-day loss since November 2011 (on a % basis) and falling below 2,000 level for the first time since February. For the week, the index is also down 5.8%, the steepest decline since September 2011.

NASDAQ fell 171.45 (3.52%). For the week, the index is down 6.8%, the biggest weekly decline since August 2011.

European Markets: European stocks fell into correction territory on Friday. The Stoxx European 600 1.3% to 368.59. The index is down 11% from April 15 closing and all-time high of 414.06. For the week, the index is down 4.6%, the worst weekly performance since December. Other indexes fell into correction territory also. Germany’s DAX Index is down 18% from its highs. So far, 13 out of 18 western-European markets have lost 10% or more from their highs.

US oil prices fell just below $40 for the first time since February 2009, due to demand concerns and increasing supplies. US oil prices fell for their 8th consecutive week, the longest losing streak since 1986.

The CBOE Market Volatility Index (VIX) (also known as “Fear Index”) jumped 46.45% to $28.03 on Friday. For the week, the index rose 118.47% (from $12.83 to $28.03), largest % move ever in a week.


Three factors driving the free-fall of the global markets:

  • Growing concerns (or uncertainty) about China’s economy
  • US rate-hike uncertainty. Uncertainty is the market’s worst foe
  • Plunging oil prices

There are concerns about slowing growth in emerging economies, particularly China. Economic data from China showed manufacturing PMI in China fell to a 77-month low of 47.1 in August, down from July’s final reading of 47.8. A reading below 50 represent a contraction. About two weeks ago, China’s trade data showed that July exports declined by 8.3% year-over-year (Y/Y) due to a strong yuan and lower demand from its trading partners. Exports to the Japan, European Union, and United States fell 13%, 12.3%, and 1.3%, respectively. Exports are China’s strongest growth machine. The weakness in the fundamentals started (still is) putting pressures on policymakers. Then, a surprise move came.

On August 11 (days after the exports data), the People’s Bank of China (PBOC) made a surprising move to devalue its currency (so called “one-time” move), the renminbi (RMB) (or yuan), against the US dollar (greenback) by 1.9%, the biggest devaluation since 1994 and first devaluation since the yuan was de-pegged from the dollar in 2005. PBOC decided to lower daily reference rate – which sets the value of yuan against the greenback – to make yuan more market-oriented exchange rate.

Three reasons behind China’s move:

  • Weak fundamentals, including exports
  • Desire to be included in IMF SDR basket
  • Impending US rate-hike

China’s move increased concerns over the health of its economy (second largest economy in the world) and shocked the global markets which continues today. China’s devaluation signaled that the economy there must be worse than what everybody believes. Continuous slowdown as it shifts from an export-led economy to a consumer-led economy has led Chinese government (or PBOC) to help stimulate economic activity. Over the past year, they cut interest rates four times and cut RRR (Reserve Requirement Ratio) several times. The goal is to combat slowing growth by strengthening liquidity and boosting lending (so far, unsuccessful). The recent devaluation will make imports expensive and help boost exports (reminder: exports fell 8.3% Y/Y in July).

Another reason behind China’s recent move is its desire for the yuan to be included in the International Monetary Fund’s (IMF) Special Drawing Rights (SDR), a basket of reserve currencies, in which the US Dollar, Euro, Japanese Yen, and British Pound are part of. Earlier this week, IMF decided to extend its scheduled revision of SDR basket (revision takes place every five years) by nine months (to September 30, 2016), giving China more time to make yuan (or Renminbi ) “freely usable”, a key requirement join the SDR basket.

Last reason behind China’s recent move is impending rate-hike in the US, which would support the greenback and would have consequences for China. The recent devaluation ended the era of Yuan appreciation which began in 2005 (reminder: yuan was de-pegged from the dollar in 2005). Ever since “Strong Yuan” policy began in 2005, Yuan (CNY) appreciated 28% against the US Dollar (USD), 30% against the Euro (EUR), and 65% against the Japanese Yen (JPY)

Rise of Yuan against most of its trading partners’ currencies has made its trading partners exports attractive. US rate-hike would have made China’s export rivals even more attractive. Now that China devalued its currency in the wake of falling exports (reminder: exports fell 8.3% Y/Y in July), its trading partners would want to protect their exports share. Therefore, China has fired the first shot to start currency wars.

Consequences of China’s actions:

Countries like Australia, Thailand, New Zealand, Malaysia and Canada are likely to suffer from China’s devaluation. These countries are largest exporter to China. Don’t also forget that these countries can affect other countries. Basically, it is “Domino Effect” economically.

Earlier this week, Kazakhstan – whose top trading partners are China and Russia – switch to a free float (which means that the central bank stopped managing the exchange rate), causing its currency, the tenge (KZT), to fall 25%. The move comes due to three reasons; crude prices (Kazakhstan is central Asia’s biggest crude exporter) fell 55% in the past year, Russian has allowed its currency (ruble) to depreciate significantly as commodity prices plummeted, and due to the yuan devaluation. The motivation for the move is to preserve its export competitiveness.

Vietnam has also allowed its currency, the dong, to weaken further due to the recent devaluation by its biggest trading partner, China. Who will be next to devalue their currency in this crisis; Asian Crisis Part 2.

Commodities denominated in US dollars will become more expensive to buyers in China, the world’s largest consumer of raw materials. When China’s economy slows, demand for raw materials, such as copper, Iron-ore, etc decreases and the lower demand puts downward pressure on commodity prices.

China, second-largest oil consumer, is causing oil prices to drop non-stop, which will hurt oil exporters, such as Canada (possibly leading to another rate-cut).

Falling commodity prices mean one other thing; deflationary pressures.

Slow growth and lower commodity prices most likely will lead other central banks, especially large commodity exporters to maintain their easy monetary policies for longer. Countries with large current account deficits and/or corporations with large amount of debt denominated in US dollars could see their economic/financial conditions worsen, causing them to further increase/expand their easy monetary policy (rate-cuts, for example). Not only commodity exporters and emerging countries will suffer, but also US companies.

US companies with significant exposure to China will suffer from China’s devaluation. Such companies are Wynn Resorts, Micron Technology, Yum Brands, and Apple, accounting for China sales exposure of 70%, 55%, 52% and 30%, respectively.


When I noticed China economic getting worse earlier this year, I knew Apple depended on China a lot, so I said that Apple was overvalued as more competitors were emerging and China’s economy was about to get worse. Even though Apple’s earnings came out better than expected, I went ahead on twitter and responded to Carl Icahn’s comments on the Apple and the market. He expected (maybe still expects) Apple’s stock price to double, which I did not (and I still don’t). More competitors are starting to emerge and China’s economic conditions are getting worse (debt bubble coming).

Mr. Icahn believed the market was extremely overheated and expected market bubble. I have to agree with him. I preferred (still prefer) to use the term “correction”. At this time, I believe current market sell-off is temporary and the dust will be settled in a month (good-buying opportunity). I expect “market bubble” after the Fed raises interest rates to the range of 0.70% and 0.80% (early 2017?). That’s when market sell-off will be much worse than the current situation.

I’m calling Mr. Icahn to respond to my questions; how do you think China’s action will affect global economies (or markets)? Do you still think Apple could double in price?


Now, let’s get back to how else China can affect global economies (deflationary pressures). I expect Europe’s economy and Japan’s economy to slow down.

Europe’s economy will slow down due to export demand decreasing and the uncertainty created by Greece (Yes, they did get a bailout deal, but it’s not over). That’s why I believe European Central Bank (ECB) will either lower interest rates even further or they will increase current Quantitative Easing (QE) program, pushing Euro currency lower. Current falling prices in the European markets are a golden opportunity. Lower interest rates and/or increased QE program will send European equity prices higher>>>all-time highs will be made.

Japan, China’s largest trading partner, will also suffer due to export demand decreasing. The devaluation of yuan (or, Renminbi) will make Japanese exports less competitive. Japan’s economy is still suffering despite Abenomics (similar to QE). Recent data showed GDP (Gross Domestic Product) falling at annual pace of 1.6% in 2nd quarter, due to slowing exports and lack of consumer spending. Abenomics has failed. Additional monetary easing coming? If the economy does not get any better in the next several months, I expect additional monetary easing by the Bank of Japan (BoJ).

I don’t believe the Federal Reserve will stop its plan to hike the rates, but it will slow the pace of it. On Wednesday (August 19), Fed minutes of July meeting (leaked earlier) showed that Federal Open Market Committee (FOMC) members “…judged that the conditions for policy firming had not yet been achieved, but they noted that conditions were approaching that point.” They also said that “…the recent decreases in oil prices and the possibility of adverse spillovers from slower economic growth in China raised some concerns.” US dollar has been falling ever since the release of fed minutes, as expectations for September rate-hike decreased.

Now more troubles emerged, I wonder what the Fed will say or do. There are many US economic reports that will come until the Fed’s September meeting. The reports will decide the fate of rate-hike for September. At this time, I expect the Fed to hike the rates in September by 10 basis points (or 0.10%).

If the current China situation (or Asian Crisis Part 2) gets out of control, there will be no rate-hike for the rest of year even if there’s strong US economic reports.

All comments welcomed. Thank you.


Disclaimer: The posts are not a recommendation to buy or sell any stocks, currencies, etc mentioned. They are solely my personal opinions. Every investor/trader must do his/her own due diligence before making any investment/trading decision.

Liar’s Poker Player, Greece, Loses: Falling Further Through The Wreckage In Greece

Greece had a close call to exit from the 19-member euro-zone (Grexit) following months of uncertainty. Alex Tsipras and Yanis Varoufakis were playing creditors for fools and bluffed too much. Now, they have lost “Liar’s Poker”.

Two weeks ago, more than 61% of Greeks rejected a deal in a referendum that included pensions overhauls and sales taxes. Then on Monday morning, Greece finance minister, Yanis Varoufakis, resigned after Eurogroup participants called for his resign because his absence from its meetings. Before the vote, he said he would resign if Greeks voted “Yes”. He is replaced by Euclid Tsakalotos, who has been involved in talks with European and International Monetary Fund (IMF) creditors.

Then, Euro leaders said that July 12 (Sunday) would be “deal or no deal”.  Several days before July 12, Greece Prime Minister Alex Tsipras provided the same type of deal that Greek people voted “No” for, but with little bit tougher austerity. He broke his promise to Greek people.

Over the weekend (July 11-July 12), Euro leaders clashed over the deal. On July 13 morning (Monday), deal was reached. Euro-zone leaders agreed to give Greece three-year bailout up to EUR 86 billion ($93 billion) of aid which Tsipras accepted. This time, he absolutely broke his promise to Greek people.

The deal is much tougher and harsh, for Greece and its people, than the deals in the past few weeks. The deal also includes 30-year, euro-50-billion state privatisation programme. Half of the fund will be used to recapitalise Greek banks, while the remainder will used for debt servicing and other economic needs.

On late July 15 (Wednesday), the Greek parliament approved the deal. In 300-seat chamber, 229 voted to approve the deal and 64 were against it. There was 6 abstentions and 1 absent.

On the morning of July 16 (Thursday), after leaving rates unchanged, European Central Bank (ECB) President, Mario Draghi stated in the press conference that Emergency Liquidity Assistance (ELA) would be increased by 900 million euros ($979 million) over a week. There were reports that Greece asked for $1.5 billion ELA assistance.

On the same day, the Eurogroup finance ministers agreed to the launch of bailout talks and approved 7.2 billion euros ($7.6 billion) in bridge loans for three months. It will allow the Greek government to pay off upcoming payments. On July 20 (Monday), Greece is due to pay 3.5 billion euros ($3.8 billion) to ECB. Greece also has to pay about 2 billion euros ($2.2 billion) of arrears to the IMF. This bridge loan will “buy” time until the bailout is finalized.

Greek banks are scheduled to open on July 20 (Monday) after a 3-week closure. However, capital controls, or restrictions on cash withdrawals will remain in place.  Daily cash withdrawal is limited at 60 euros.

Despite more aid being given to Greece, the country’s debt level is still a major problem. The country has about EUR 320 billion debt ($345 billion), close to 200% of Gross Domestic Product (GDP).

Source can be found here 

There are many calls for a debt haircut (not what you’re thinking). Debt haircut is reducing the amount of money owned. For example, if  someone owns about $10,000, but cannot pay it all. Creditor can try to accept to get paid a fraction of $10,000, say $4,000. After all something is better than nothing.

Some people including Christine Lagarde, managing director of IMF, disagreed on debt haircut. She said debt relief was needed. Extension of Greek debt maturities, extension of grade periods, and reduction of interest rates would be enough, she said.

Even though the deal gets finalized or not, Greece loses. With the deal, life gets harder. Without the deal and exit from euro-zone, life gets much harder.

I learned one important lesson over the past few months. Anything can change anytime. Greece’s current deal might fall through any moment. So much uncertainty has caused EUR (Euro) currency to move around in different directions.

Ever since the deal was announced, EUR/USD has been falling.

EUR/USD - Hourly
EUR/USD – Hourly

I have been short on Euro for some time now and I will continue to be short. Even with deal close, tough challenges remain ahead. ECB might increase or even extend its Quantitative Easing (QE) program, giving support to the European stocks and causing Euro to weaken further. I believe EUR/USD will reach parity level in the next 6 months.

Once the Greece drama settles, more focus will be on the fundamentals in the euro-zone outside of Greece, which accounts for more than 98% of the region’s GDP.

No clear road ahead, still. What’s next?

Jobs Report Surprises To The Upside – IMF Wrong? (You Decide)

Last Friday (May 5, 2015), Bureau of Labor Statistics released non-farm payrolls (jobs report) for May and it was way beyond expectations. 280,000 jobs were added in May (largest since December) vs. expectations around 225,000. It’s a strong sign that the US economy is recovering from the contraction that occurred in first quarter of 2015 (January-March).

Total Non-Farm Payrolls - Monthly Net Change (June 7, 2015)
Total Non-Farm Payrolls – Monthly Net Change – 2014-Present

 

The unemployment rate ticked higher by 0.1% to 5.5% from 5.4%, as more people are entering labor force (because their confidence in the jobs market are increasing). In May, 397,000 people entered labor force, mostly recent college graduates.

Average hourly earnings increased 0.3% on month-to-month basis from 0.1% in April. Over the year, it increased 2.3%, largest rise since August 2013. It’s indication that future consumer spending will increase. When consumers spend more money, companies generate more money and eventually hire more people. Basically, it’s a short-term demand in the economy.

March and April numbers were revised. March was revised from 85,000 to 119,000 (+34,000) and April revised from 223,000 to 221,000 (-2,000).

There were big increases in employment in professional and business services (+63,000), leisure and hospitality (+57,000), and healthcare (+47,000). Meanwhile, employment in mining fell for the fifth month in a row (-17,000) as low energy prices continues to hurt energy companies.

This is the most important US economic report because it shows how first quarter, which contracted 0.7%, are due to transitory factors and guides the Federal Reserve on the path of raising the interest rates. As a result of strong jobs report, June rate-hike door is not closed. Federal Open Market Committee (FOMC) will be meeting on Tuesday, June 16, and Wednesday, June 17. At 2 PM EST, economic projections, statement and federal funds rate will be released followed by 2:30 PM EST press conference. The markets will be extremely violent during the time because it’s highly watched by investors and traders.

After the release of the report, US Dollar (USD) rose. USD against JPY (Yen) soared to a new 13-year high. US markets were mixed as investors/traders differently interpret what the jobs reports means for the future.

 

S&P 500 Index (SPX) - Hourly
S&P 500 Index (SPX) – Hourly
USD/JPY - Hourly
USD/JPY – Hourly

 

The day before the jobs report, the International Monetary Fund (IMF) slashed its forecasts for US economic growth and called for the Fed to hold off its first rate increase until the first half of 2016. The IMF said a series of negative shocks, including unfavorable weather, a sharp contraction in oil sector investment, the West Coast port strike, and the effects of the stronger dollar, hindered the first quarter of 2015. Thus, it promoted a downgrade to its growth expectations to 2.5% for this year, from 3.1% in April.

Economic Forecasts Souce: http://www.imf.org/external/np/ms/2015/060415.htm
Economic Forecasts
Souce: http://www.imf.org/external/np/ms/2015/060415.htm

IMF says that FOMC should remain data dependent and act after signs of a pickup in wages and inflation. Well, the jobs report for May was positive, including wages. So is IMF wrong? Did they talk too early? You decide.

In IMF’s view, “raising rates too soon could trigger a greater-than-expected tightening of financial conditions or a bout of financial instability, causing the economy to stall. This would likely force the Fed to reverse direction, moving rates back down toward zero with potential costs to credibility.” —- “raising rates too late could cause an acceleration of inflation above the Fed’s 2 percent medium-term objective with monetary policy left having to play catch-up. This could require a more rapid path upward for policy rates with unforeseen consequences, including for financial stability.”

So when is the right time to raise rates? I believe it’s in July or September (no meeting in August) only if we continue to see pickup in wages, employment, and Consumer Price Index (CPI). Even through the chance of rate hike in June is very low, I would not be surprised if Fed decides to hike rates. Even if they do, it will be surprising to most people at Wall Street and markets will definitely be violent – I would consider it “mini-SNB” (SNB – Swiss National Bank), because of SNB’s action in January (unscheduled release – removing the cap on euro-franc).

Feel free to contact me by going to “Contact Me” above or leave your comments below. Twitter: @Khojinur30. Thank you.