BOOM as at 31st May 2020

THE FUTURE IS UNCERTAIN
BUT HOPE IS HERE

The future is always unknown which is why BOOM tries to avoid making predictions without probabilistic qualifiers. Unforeseen events can suddenly transform what we thought was an endless prosperity. Covid-19 is a perfect example. It has arrived seemingly from nowhere and caused massive disruption to our economies.

In the US, there is a predictive model for real GDP growth annualized on a quarterly basis produced by the Federal Reserve Bank of Atlanta called GDPNow.  Real GDP Growth is growth adjusted for CPI inflation. There are no subjective adjustments made to GDPNow—the estimate is based solely on the mathematical results of the model. It does not adjust for any impactful event such as Covid-19. It is dynamic so the model adjusts to data flows as they occur during a calendar quarter and thus the prediction changes. At present, the GDPNow figure for US GDP Growth in the second quarter is – 51 %. Yes, you read that right, the prediction is a large Negative number. It is calculating that real GDP Growth will contract severely in the 3 months from April to end of June.

There is a real economy providing goods and services and there is a financial sector providing credit (fresh new money supply), mainly in the form of bank loans. When an economy contracts severely, it initially impacts the real economy first but eventually the financial sector comes under pressure as bank loan defaults destroy money. When loans are not repaid, the banking sector can corral them for a time on their collective balance sheets as possible defaults. But over time, as loans stand unpaid, banks have to recognize them as losses and either write them off completely or sell them on to another institution. The bigger problem here is that the banks can be forced to take control of collateral assets that are falling in price. So they end up with two problems — bank loans unpaid and assets that are deflating in price. This is called a Debt Deflation event. It is very serious for banks and can destroy them if it continues for any significant length of time.

There are defensive measures that the central bank can implement to slow the impact. They can lower overnight interest rates rapidly, they can ask larger banks (or form “bad banks”) to buy the loans and/or they can start buying assets to prop up asset prices. The latter strategy is what is known as Quantitative Easing. When central banks deploy it, they hope that the boost to asset prices will stabilize the situation and allow the real economy to recover its previous “healthy, normal” state. That is the theory. Unfortunately, theory does not always work out in practice.

The central bank in Japan, known as the Bank of Japan, has been pulling these levers for over 25 years since the Japanese assets collapsed in price in the early 1990’s. That happened after a huge boom in domestic asset prices leading up to the end of 1989. During that boom, house prices reached for the sky and the Japanese stock market index, the Nikkei, almost hit 40,000. The stock market has not regained those levels for 30 years with the index now around 22,000.

So what has happened? Many Japanese banks have become “zombie banks” and the central bank has become a principal provider of fresh new money supply to the moribund economy via its continued purchase of assets. They are now buying government bonds, stocks and ETFs.

BOOM has said for many years that all the advanced economies are slowly becoming Japanese (economically). Unfortunately, BOOM has been proved right. So what about the future?

MARKETS ARE MOVING

BOOM has no crystal ball but we do have financial markets. They are often seen as predictive in nature. People say “oh the stock market is going up so the future is assured” or “the US Yield Curve is positive so everything should return to normal as credit begins to expand”. We seem to have blind faith in these arguments. And, in fact, they are not worthless. Sometimes, they can even appear predictive but unfortunately that is not always the case.

Last week, BOOM suggested that readers watch the Dow Jones US Retail REITs Index closely for signs of investor interest. Well, guess what?  Buyers suddenly started showing interest in the sector and the index rose by 3.78% last week. Actually, in retrospect we can see that buyer interest has been building for 2 weeks now. This is possibly a positive sign for the future of the US economy.

Another positive sign in the US last week was the 9.27% rise in the Regional Banks Index and the 6.8% rise in the Financial Sector SPDR Fund (XLF). Wells Fargo Bank shares rose by 9.52%. All of these rises are a possible sign of increased investor confidence in the future health of the US banking sector. BOOM welcomes these developments.

There have been similar signs of investor interest over the last 2 weeks in the shares of large energy intense US industrial companies. Again, this is a welcome sign. And the US Dollar index has slowly but surely been showing signs of weakening in the same time frame. If this continues slowly but surely, the US economy will see CPI inflation increases going forward. CPI inflation is what the financial sector needs to survive. It causes consumer prices to rise throughout the economy and eventually that should (hopefully) support falling asset prices such as house prices.

So, there appears to be some light at the end of the tunnel as seen through investors’ eyes. These are early days but the flame of hope may have been lit.

GLOBAL STOCK PRICES RISING

Two weeks ago, BOOM wrote a piece about the Argentinian Stock Market Merval Index. In particular, the rise of the index from 22,000 to 40,000 was mentioned. It subsequently reached 42,000 but has since fallen back to 38,000. However, quite a few secondary and emerging market stock markets around the globe have been showing clear signs of continued investor support, many for 2 months now. In that time frame, the stock markets have been steadily rising in Indonesia, Malaysia, Thailand, South Korea, Taiwan, Japan, India, Turkey, Saudi Arabia, Hungary, Russia, Poland, Denmark, The Netherlands, Norway, Sweden, Switzerland, France, London, Germany, Israel, Pakistan, Brazil, Australia and New Zealand.

Spain, Singapore, Hong Kong & China, Chile, Mexico, Egypt,  United Arab Emirates and Austria are hesitating a little recently but they may soon (hopefully) re-join the party.

These developments are some indication that investors all over the globe are seeing a light at the end of the Covid-19 tunnel.

YIELD CURVES REPAIRED

Another good sign of repair are the major sovereign yield curves. The US Yield Curve is clearly positive. France, Germany, Italy, Japan, Poland, South Korea, China, Australia and New Zealand also have the same positive shape. Unfortunately, the Yield Curve of the UK is not so positive with yields dropping from 25 to 50 years but it is positive to 25 years.

Positive yield curves are seen as good precursors for bank performance. That may or may not be true but this is the perception and perceptions are important in financial markets.

COVID DEATHS COLLAPSING

BOOM watches the Deaths per Day and Deaths per Million numbers closely to monitor the progress of the Covid-19 epidemic nation by nation. BOOM does not regard the case numbers as worthy of close attention because most cases are either mildly symptomatic or non-symptomatic and, thus, do not end in death. Serious epidemics of infection cause morbidity and mortality. But mortality figures are the ultimate measure of how an epidemic is progressing over time.

With the exception of Russia and Brazil, the Deaths per Day patterns in the major advanced economy nations have all shown a collapse pattern for some time now. For example, Spain’s deaths peaked on 2nd April. Italy’s peaked on March 27th. They are not showing any signs of recurrence, the so-called “second wave”.

This is also a very hopeful development.  Let’s hope that this steady improvement continues.

An article worth reading:-  Focus on the Covid-19 Death Rate

ENERGY AND COMMODITIES

The next place to look for signs  of economic recovery is in the energy and commodity markets. After over 2 years of decline, base metal prices including Copper have been recently rising along with global stock markets. Agricultural commodities that form the basis of our food supply seem to be stabilising after many years of decline.

In the energy markets, the oil prices are rising with West Texas Light Crude rising from $ 10 per barrel to $ 35 over the last month . The Van Eck coal ETF  traded in New York called KOL has been steadily rising in unison with the stock markets since late March. Natural Gas Futures prices are showing signs  of stabilization.

IS THIS THE BOTTOM?

Is this the bottom? Are we returning to normal (whatever that is)?

We can only climb the wall of worry as we head into the unknown future.

In economics, things work until they don’t. Until next week …………  Make your own conclusions, do your own research.  BOOM does not offer investment advice.


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EMAIL: gerry {at} boomfinanceandeconomics.com

 

Return to the BOOM Main Website –  BOOM Finance and Economics at  http://boomfinanceandeconomics.com/

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HOW MOST MONEY IS CREATED

BANKS CREATE FRESH NEW MONEY OUT OF THIN AIR (but they always need a Borrower to do so)

THERE IS NO SUCH THING AS A DEPOSIT
BANKS PURCHASE SECURITIES, THEY DON’T MAKE LOANS

BANKS DON’T TAKE DEPOSITS, THEY BORROW YOUR MONEY
Watch this short 15 minutes video and learn as Professor Richard Werner brilliantly explains how the banking system and financial sector really work.

https://www.youtube.com/watch?v=EC0G7pY4wREhttp://

How is Most New Money Created ?

LOANS CREATE DEPOSITS — that is how almost all new money is created in the economy (by commercial banks making loans).

From the Bank of England Quarterly Bulletin Q1 2014    —
“Whenever a bank makes a loan, it simultaneously creates a matching deposit in the borrower’s bank account, thereby creating new money.

“Most money in the modern economy is in the form of bank deposits, which are created by commercial banks themselves”.

Most economists are unaware of this and even ignore the banking & finance sectors in their econometric models.

On 25th April 2017, the central bank of Germany, the Bundesbank, released a statement on this matter —

“In terms of volume, the majority of the money supply is made up of book money, which is created through transactions between banks and domestic customers. Sight deposits are an example of book money: sight deposits are created when a bank settles transactions with a customer, ie it grants a credit, say, or purchases an asset and credits the corresponding amount to the customer’s bank account in return. This means that banks can create book money just by making an accounting entry: according to the Bundesbank’s economists, “this refutes a popular misconception that banks act simply as intermediaries at the time of lending – i.e. that banks can only grant credit using funds placed with them previously as deposits by other customers”. By the same token, excess central bank reserves are not a necessary precondition for a bank to grant credit (and thus create money).”

The Reserve Bank of Australia (Australia’s central bank) has also contributed to the issue in a speech by Christopher Kent, the Assistant Governor on September 19th 2018.
“…… the vast bulk of broad money consists of bank deposits”
“Money can be created …….. when financial intermediaries make loans
“In the first instance, the process of money creation requires a willing borrower.”
“It’s also worth emphasizing that the process of money creation is not the result of the actions of any single bank – rather, the banking system as a whole acts to create money.”
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MOLS Denmark

 

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