Lay Down, Roll Over and Be Dead


Adverse market conditions.

The final season of a long-running zombie drama treats the undead as little more than scary scenery. Alarming, but hardly a real threat. That could be a big mistake. The Walking Whatnow? No, no. I’m talking about the corporate bond market.

November was arguably the worst month for bonds since 1994. Volatility was up, junk and investment grade sectors sold off, and the yield curve flattened to a bearish extent not seen since 2007. The (once) market-darling investment-grade bond ETF, LQD, is now down 5.3 percent year to date. The TLT long-term Treasury ETF is down 3.2 percent on the month.  

Yes, Jay Powell is reportedly getting the vapors about taking away Donald Trump’s punchbowl, but the market is sure rates will rise on the 19th nonetheless, and the Fed boss has cannily announced that he will give a press briefing after every FOMC meeting going forward – meaning that the committee will have a lot more flexibility about when it changes rates. (Now it does so only at the meetings that feature press conferences.)

Well, so what. Rates are still low, employment and inflation numbers look good. But take a look at the massive increase in business debt in recent years – it is now $32 trillion, over three times the size of the mortgage debt that almost sank the global economy in 2007-08.

As rates rise, and a lot of that debt needs to be refinanced, some of those zombie companies that have survived on the “accommodative” nature of the junk markets in recent years are going to be in trouble. Suddenly, cash flow negative starlets like Tesla and Netflix, which have to borrow to keep the lights on, might lose their luster. And market leaders that have done really, really stupid things, like Apple, which borrowed $150 billion to buy back stock, could rue their fates when it comes time to refinance.

That may be soonish. Most fixed rate corporate debt has a maturity around five years; companies have been on a debt binge for five or more years, hence talk today of the coming fearsome “wall of maturities”. In May, Bloomberg estimated that $4 trillion would have to be refinanced in the next five years. More recently, BNP said S&P 500 companies alone have $1.6 trillion to refinance over the next three years – nearly 4.5 times as much as they had to refinance going into the financial crisis in 2007.

As market watchers shriek in horror as GE, with its $135 billion in debt, makes its shambolic way down the credit curve, other zombies are queuing up at the door. Time for investors to keep their, uh, brains about them.

This is Worse than Before the Last Three Crashes | Wolf Street

How long will “magical thinking” sustain the rally? No way to say. But when the gears are reversed, it could get ugly…. From Wolf Street:

“There are a million reasons why multiple compression hasn’t started yet, including the scorched-earth monetary policies by central banks around the world and the hope for miracles during the Trump administration.”

via This is Worse than Before the Last Three Crashes | Wolf Street

Watchdog’s MetLife Blunder Boosts Systemic Risk

If MetLife’s escape from too-big-to-fail scrutiny leads to a rush for the exits by more obvious financial time bombs, regulators only have themselves to blame.

The country’s largest insurer just convinced a Federal court that the Financial Stability Oversight Council’s designation of it as a “systemically important financial institution” under the post-Crisis Dodd-Frank rules was arbitrary and capricious.

The details of the ruling, handed down on March 30, are sealed until April 6, but other non-bank SIFIs are already straining at the leash.

GE filed an application with the FSOC today to have its SIFI status removed. It and MetLife are two of four non-bank SIFIs – the other two are Prudential and AIG. Prudential has kept mum on its plans; AIG – the near-death experience of which was one of the most painful pain points of the Crisis – hasn’t a prayer. Its $180 billion government bailout and de facto nationalization saw to that.

In 2013 and 2014 the FSOC, a panel of financial regulators set up under Dodd-Frank in large part to oversee potential basket cases, lumped these four in with more straightforward financial time bombs – investment banks and commercial banks like Goldman, JP Morgan, Citi and others. From the FSOC’s statement at the time:

Under Section 113 of the Dodd-Frank Act, the Council is authorized to determine that a nonbank financial company’s material financial distress—or the nature, scope, size, scale, concentration, interconnectedness, or mix of its activities—could pose a threat to U.S. financial stability. Such companies will be subject to consolidated supervision by the Federal Reserve and enhanced prudential standards.

GE boss Jeff Immelt never claimed that GE Capital – once the biggest commercial paper issuer and the entity that generated over half the financial-industrial behemoth’s sales at its height – wasn’t systematically important. He has spent the last couple of years slashing GE Capital assets by some $160 billion, reducing its contributions to revenues from half to just under 10 percent.

The MetLife court case is the real problem for FSOC. It seems from MetLife’s complaint, and the bits and pieces reporters have gleaned from the court ruling, that FSOC failed to make a convincing argument that the insurance business model was subject to capital pressure due to customers’ “running for the exits” – akin to a run on a bank – and that this vulnerability threatened the financial system due to the firm’s size and interconnectedness. Bloomberg View’s Matt Levine has a run-down on the argument here. MetLife also claims the FSOC never did a vulnerability analysis. If so, that’s at best sloppy and at worst terribly arrogant regulatory behavior.

Step back for a second. MetLife says its business model is not subject to runs because it issues long-term liabilities (insurance policies) that customers cannot cash in at will. But FSOC, if anyone’s awake there, knows the trouble isn’t with the firm’s liabilities, it’s with its assets.

This is an industry wide problem. Insurance margins have been crushed by low rates; the need to shimmy further and further down the credit spectrum in search of yield has been tempting. Like banks making mortgages, insurers are in the maturity transformation business – borrow short, lend (or insure) long, and hope to the gods things add up in the end.

That’s where the risk in an institution like MetLife lurks. But it’s not a contagious risk. If assets fall short of liabilities, shareholders get screwed first, then, perhaps, policyholders, although that would be almost unthinkable with a firm of MetLife’s size.

So by designating MetLife a non-bank SIFI, regulators did two things. First, they stretched the rationale for such a designation to the point where the firm was able to blow it up in court (against expectations – MetLife was so sure of losing it had begun to execute plans to spin off many of its business lines). And as a result, they gave the anti-regulation camp a shot in the arm – and that could lead to more systemic risk, not less.

Yellen’s Fearful Asymmetry

So Fed boss Janet Yellen rolled out her ongoing take on the “Greenspan Put” today, giving the markets a tickle, if not the bracing slap they deserve. She can’t match the “Maestro” in his lexical exertions, but she did try. Check this out (from Bloomberg):

“I consider it appropriate for the committee to proceed cautiously in adjusting policy,” Yellen said in the text of prepared remarks Tuesday. “This caution is especially warranted because, with the federal funds rate so low, the FOMC’s ability to use conventional monetary policy to respond to economic disturbances is asymmetric.”

“Asymmetric.” Nice one. As if Blake’s Tyger were just sneezing – you know, a brief distortion before the balance of power between the Fed and the markets reverts to its shepherd-and-sheep concordance.

Sneezing tigerIt didn’t sound like an admission that the Fed’s disastrous rate policy – which has caused massive socioeconomic dislocation, been an utter failure in boosting retail wealth and consumption, and hardened Wall Street’s carapace – had left it no room for maneuver.

Yellen must realize this, or she wouldn’t have threatened another go at quantitative easing. The Fed, she said, could increase the “size or duration of our holdings of long-term securities.” That’s simply appalling.

After three servings, the Fed finally closed that $4.5 trillion slop trough for banks in 2014 in an unexpected show of backbone, and is now trumpeting a “recovering” housing market. So it’ll be interesting to see what tongue-tying Greenspanner she uses to justify a retread of that mistake.

Okay, so with the rest of the advanced economies merrily screwing their savers by dabbling in the untested and already suspect alchemy of negative interest rates (which Yves Smith takes a typically insightful squint at here), Yellen doesn’t want to blow up the “reviving” manufacturing sector in an election year by pushing the dollar through the roof. Understandable. The Fed’s (unreconcilable) “dual mandate” and all that. We get it.

But individuals are still not spending, even in countries with negative interest rates. The Fed and its overseas counterparts might have underestimated the average Joe’s insight that he has been losing money on an inflation-adjusted basis for years anyway, so negative interest rates represent merely more spray, rather than the ongoing, underlying noxious public policy gob.

So who wins? Well, a glance at Bloomberg today reveals at least some of those who benefit from the Fed’s faux inflation alarm. There are unctuous marketing factotums at places like PIMCO and Blackrock, who make their sorry livings churning out dreck about TIPS and other pump-and-dump fare to fill CNBC airtime and space on Bloomberg, peddling products that have lost their clients bazillions. There are the value-destroying (“Where Are the Customers’ Yachts?”) wealth managers, economists, strategists and commentators. Yup, there are the bloggers. And there are countless other remora fish, all just looking for a ride.