Thursday, July 7, 2016

Bonddad Thursday Linkfest

German Industrial Production Drops (BB)

German industrial production dropped the most in 21 months in May in a sign that the headwinds from a global economic slowdown and political uncertainty in Europe damped activity.

Production, adjusted for seasonal swings, fell 1.3 percent from the previous month, when it rose a revised 0.5 percent, data from the Economy Ministry in Berlin showed on Thursday. Economists in a Bloomberg survey had predicted a 0.1 percent rise in the typically volatile gauge. Output fell 0.4 percent from a year earlier.

UK Sentiment Drops Post-Brexit (BB)

U.K. business confidence sank to a 4 1/2-year low in the days after Britons voted to leave the European Union, adding to evidence that the decision is blighting growth.

With investors anxiously awaiting data on the consequences, the gauge compounds signs the referendum has hindered an economy that was already losing momentum. Even reports covering the period before the vote are showing signs of fragility, with Halifax saying house-price growth cooled in June. GfK is due to publish a one-off survey Friday that will assess consumer attitudes in the immediate aftermath.

Will Pension Funds Move Into Treasuries? (BB) and FT

Even with yields at record lows, Shyam Rajan, head of U.S. rates strategy at the primary dealer, says pensions are likely to embrace the lower-for-longer mantra and bolster the $13.4 trillion Treasuries market. With only 6 percent of assets in Treasuries, half the peak seen in the 1980s, the retirement funds are primed to join buyers looking for a selloff to pounce. That demand waiting in the wings may depress yields further. Bank of America forecasts yields on 10-year notes will fall to 1.25 percent by the end of September, from about 1.32 percent as of 8 a.m. in New York on Wednesday.

“As a pension fund, you’ve got to be scared that rates could actually go lower,” Rajan, who’s based in New York, said in an interview. “There’s a perceived permanence to this rate rally. If you were assuming that rates were going to go back to 3 percent, that’s not going to happen anytime soon.”

From FT: Risk aversion is dictating the mood in the market for a third straight day on Wednesday, with equity markets coming under pressure and demand for haven assets pushing yields on US government bonds to fresh record lows.

The yield on the benchmark 10-year Treasury note fell by nearly another six basis points to 1.3180 per cent during early morning trading in the US, breaking the previous intraday low of 1.3549 per cent set just yesterday.

It was a similar story for the 30-year Treasury note, with yield hitting a new low of 2.0984 per cent in early trading, easily beating the record intraday low of 2.1294 per cent set just a day earlier.

3-Year Chart of the IEFs

3-Year Chart of the TLTs

Many countries, like those in Latin America, were not particularly impacted by Brexit,” says Goldman Sachs economist Alberto Ramos. “The Brazilian real offers tremendously high carry and Brexit in terms of the outlook of monetary policy will probably lead to even more monetary accommodation among the [major] central banks.”


Brexit may be taking place in a developed country for reasons far removed from the cut and thrust of global economic shifts, yet here was further evidence of how hard it was becoming to quarantine the knock-on effects of the vote to leave around the UK and the EU.

“In the short term, Brexit is a risk-off event and EM unfortunately is likely to suffer,” says Ousmene Mandeng, of EM investor New Sparta Asset Management.

Yet if Brexit shows anything, it is that EM remains more closely linked to trends in the dollar and the Chinese economy. While the Brazilian real fell 2 per cent against the dollar in the aftermath of Brexit, for example, the currency staged a rally on its opening on the following Monday, strengthening 5 per cent.


Brexit in effect granted vulnerable economies, such as recession-hit Brazil, more time to adjust by ensuring that global monetary policy was likely to stay loose, analysts say. The Federal Reserve, in particular, now has few grounds to raise US rates, while the Bank of England joins the European Central Bank and the Bank of Japan among those central banks expected to ease conditions in the near term.

The report was issued today by Anthony Nieves, CPSM, C.P.M., CFPM, chair of the Institute for Supply Management® (ISM®) Non-Manufacturing Business Survey Committee. "The NMI® registered 56.5 percent in June, 3.6 percentage points higher than the May reading of 52.9 percent. This represents continued growth in the non-manufacturing sector at a faster rate. The Non-Manufacturing Business Activity Index increased to 59.5 percent, 4.4 percentage points higher than the May reading of 55.1 percent, reflecting growth for the 83rd consecutive month, at a faster rate in June. The New Orders Index registered 59.9 percent, 5.7 percentage points higher than the reading of 54.2 percent in May. The Employment Index grew 3 percentage points in June after one month of contraction to 52.7 percent from the May reading of 49.7 percent. The Prices Index decreased 0.1 percentage point from the May reading of 55.6 percent to 55.5 percent, indicating prices increased in June for the third consecutive month. According to the NMI®, 15 non-manufacturing industries reported growth in June. Respondents’ comments are mostly positive about business conditions and the economy. Overall, the report reflects a strong rebound from the 'cooling-off' of the previous month for the non-manufacturing sector."

This sustained decline in safe yields is a non-trivial matter. As I have noted before, at some point these ongoing declines in safe yields will hit an effective lower bound. When that happens something else will have to adjust if there is still demand for more safe assets. That something else will be real economic activity as shown by  Caballero, Fahri, and Gourinchas (2016). Brexit, in other words, has pushed the global economy closer to a recession.