Understand that China’s total GDP in 1980 was under $90 billion in current dollars. Today, it is over $12 trillion. The world has never seen such enormous economic growth in such a short time.
Dr. Jonathan Ward’s brilliant and well-written analysis of China’s future is in his book, China’s Vision of Victory. Jonathan is the founder of Atlas Organization, a Washington DC and New York based consultancy focused on the rise of India and China and on US-China global competition. He is a frequent guest on numerous TV shows talking about China. A US citizen, Dr. Ward studied philosophy, Russian, and Chinese at Columbia University as an undergraduate. He earned his Master’s in Global and Imperial History and his PhD in China-India relations at the University of Oxford. He speaks Russian, Chinese, Spanish, and Arabic and spent 10 years backpacking and studying throughout China, India, Russia, Latin America, Southeast Asia, Europe, and the Middle East. He makes three points:
1. China’s leaders envision a world in which China becomes the dominant global superpower and breaks apart the US-led rules-based order. In Michael Pillsbury’s The Hundred-Year Marathon, he marshals a lot of evidence showing the Chinese government has a detailed strategy to overtake the US as the world’s dominant power. They want to do this by 2049, the centennial of China’s Communist revolution.
2. The core of China’s global strategy is economic and industrial power. China has become the entire world’s manufacturing base. It has a $14 trillion GDP that some think will surpass the US economy in real terms within a decade. It has already surpassed the US in terms of total global trade volume.
China’s economic plan includes dominance of key regions and industries:
- “The Belt and Road Initiative” envisions the integration of Europe, Africa, Asia, and even Latin America into an economic system with China at its center.
- “Made in China 2025” envisions manufacturing dominance in strategic industries from robotics to shipping and aerospace.
3. If the economic and industrial foundation is laid, global Chinese military power and submission to Chinese interests will follow.
Both the “Belt and Road Initiative” and “Made in China 2025” intertwine with military endeavors:
- The “Belt and Road Initiative” is also the geography of an expanding Chinese military. Chinese naval exercises with Russia and Pakistan take place throughout the geography of the Belt and Road. From the South China Sea to the Mediterranean, China’s expanding military has been tasked with protecting “the ceaseless expansion of national interests.”
- “Made in China 2025” harmonizes with the program of “Civil Military Fusion.” This instructs that innovation in the civilian industrial base must be brought to the Chinese military as it seeks to “close the gap” with the US military and US Allies. China now seeks dominance across fields as diverse as undersea warfare, outer space, artificial intelligence, quantum computing, next generation IT, and joint force war fighting.
Chinese citizens receive a “social credit” score that essentially measures their value to the regime. Facial recognition systems keep track of movement. The government logs who you talk to, what you buy, where you eat, and where you are traveling, not to mention your reading and media habits.
Good News For The Markets
- The Fed did another quarter point rate cut this month. Three rate cuts in one year have, historically, been good for the markets.
- The US presently has the best demographics and the highest debt efficiency so will likely remain the relatively strongest major economy.
- Economists expect the Bank of Japan to ease soon.
- Economists now expect GDP of 1.6% for next year, not a contraction (recession).
- Analysts expect global corporate earnings to rebound next year, driven by Services.
- Pending home sales are strong.
- The third-quarter GDP growth report surprised to the upside, +1.9% vs est of 1.6%. There was some weakness in manufacturing and construction, but services hiring was robust.
Bad News For The Markets
- The 2019 federal budget deficit was the worst since 2012.
- Corporate profit margins continue to shrink. This trend is not supportive of business investment or wage growth.
- Boeing is sitting on a lot of unsold aircraft.
- Germany’s IFO business climate index is near the weakest levels in years.
- Velocity of money fell sharply around the world as global economic growth moderated in concert with the US. When this happened in 2000 and 2008, a global recession was already underway.
- The 3-month/10-year yield curve has been inverted for over 4 months, which has invariably led to recession since 1921.
- Major economies are carrying too much debt and the wrong kind of debt, so GDP (Gross Domestic Product) generated by dollar of debt is falling.
- Auto loan delinquencies are climbing, driven by subprime loans.
- Market Valuations are High
- Share buybacks.
- The S&P 500 is testing resistance.
Gold
Friday’s close did not signal a breakout for gold just yet.
Gold and the dollar both climbed this year, which is quite unusual.
The chart above shows the return on gold miners compared to that for the S&P 500. Against a backdrop of stocks at or near all-time highs, the longest US economic expansion since WWII, the Fed reengaging quantitative easing, and a slew of geopolitical risks, gold miners offer a strong risk/reward trade-off.
The Plunge Protection Team: Conspiracy, Political, or a Necessary Function of Today’s Stock Markets?
I remember reading about the Plunge Protection Team (PPT) in the early 1990s. “No way, impossible, not right,” I thought at the time. But, there were those occasional periods of suspicious trading in the futures markets. The mystery continued for years until more evidence appeared.
What is the PPT? The PPT is the colloquial name given to the Working Group on Financial Markets, which was created by an executive order in 1988. From Investopedia:
“Though not exactly a secret, the Plunge Protection Team isn’t widely covered and doesn’t release the minutes of its meetings or its recommendations, reporting only to the president. This behavior leads some observers to wonder if the government’s most important financial officials are doing more than analyzing and advising—in fact, that are actively intervening in the markets.
Conspiracy theorists have speculated that the group execute [sic] trades on several exchanges when prices are heading downward, collaborating with big banks, such as Goldman Sachs and Morgan Stanley in unrecorded transactions. They often point to a 1989 speech published in The Wall Street Journal by former Federal Reserve Board of Governors member Robert Heller, which suggested the Fed could directly support the stock market by purchasing index futures contracts.”
How the Plunge Protection Team (PPT) Might Work
On Monday February 5, 2018, the Dow Jones Industrial Average (DJIA) experienced a drop that was twice as large as its biggest point decline in history. However, arbitrary and aggressive buying cut the decline in half in one day. On Tuesday and Wednesday of that week, stocks opened lower, and each time aggressive buying buoyed the markets.
That aggressive buying, some say, was being orchestrated by the Plunge Protection Team.
“What the creation of the Plunge Protection Team did was to give the Federal Reserve enormous new powers. The Federal Reserve can now intervene in all financial markets, not merely the bond market. This intervention is never discussed in the financial press,” Roberts concluded.
To be clear, I’m in no way a fan of Paul Craig Roberts. He has a number of personal views I will never like! But I read, digest and in his recent post he is touching on an important narrative that has a growing voice.
Within the global banking system, the Federal Reserve does not exist alone. The Bank of Japan owns 77.5% of Japan’s ETFs (Exchange-Traded Funds). They have bought 23 trillion yen of their ETF market since 2013. The Fed has driven interest rates to zero percent, raised them, and are likely back on the path to zero again. The European Central Bank owns assets equaling 40% of the entire eurozone economy. The Swiss National Bank is a big buyer of US equities.
Maybe the world’s central banks have our backs?
I’m concerned and would feel much better depending on the aggregate decisions of individual businessmen and women exercising individual judgment in a free economy. We are being injected with joy juice, and I feel we may be falling for the “they have our back narrative.”
Hope for the Stock Market?
Here are the big three I see today: China Trade, Fed QE (Quantitative Easing), and MMT (Modern Monetary Theory):
Hope #1: China Trade: A meaningful China deal is not in the cards. We now understand they are playing a different game. See China’s Vision of Victory in today’s email. Trade wars will remain an issue, supply chains will be reoriented, and in the disruption, economies will slow.
Hope #2: Fed QE: The Fed’s recent announcement to inject $60 billion per month into the economy, in addition to $60 billion in Treasury bills, the Fed is buying up to $20 billion every month in a wider range of Treasury securities to replace maturing mortgage securities. QE is happening and will continue.
Hope #3: MMT: Essentially, the Fed prints money, which is used to monetize government debt, bail out student loans, bail out underfunded pensions, bail out consumer credit cards, auto debts… there is no end once you begin. A politician’s dream. We’ll print our way out. The stage is being set for Hope #3.
MMT, in some form, is coming over the next 10 years. It’s part of the Great Reset (debt and pension fixes). I’m not saying I like it, and I’m not saying it’s responsible. I’m saying it’s coming.
Our job, and mine, is to navigate the cycles. In the end, we’ll have inflation. That will be a totally different investment regime. It’s nearing.
For now, the stock market is testing new highs. Fixed income and gold signals are also positive. So, party on…with a plan in place.
Negative Divergence Between Consumer Confidence and CEO Confidence
The latest release of the University of Michigan’s consumer sentiment survey rose to a 3-month high of 96, beat consensus expectations, and remains near record levels. Conversely, CEO confidence in the economy is near record lows.
It’s an interesting dichotomy.
The chart below shows our composite confidence index, which combines both the University of Michigan and Conference Board measures. The chart compares the composite index to the S&P 500 index with the shaded areas representing when the composite index was above a reading of 100.
On the surface, this is bullish for investors. High levels of consumer confidence (above 100) have correlated with positive returns from the S&P 500.
However, high readings are also a warning sign as they then to occur just prior to the onset of a recession. As noted, apparently, consumers did not “get the memo” from CEO’s.
Actually, a quick look at history shows this level of disparity is not unusual. It happens every time prior to the onset of a recession.
Take a closer look at the chart above.
Notice that CEO confidence leads consumer confidence by a wide margin. This lures bullish investors, and the media, into believing that CEOs really don’t know what they are doing. Unfortunately, consumer confidence tends to crash as it catches up with what CEOs were already telling them.
I Found It!
Remember the bizarre Repo actions by the Fed but nobody knew why?
On Thursday, the Fed announced they will nearly double the daily repo liquidity operations to $120 billion. They also said the sizing of the 14-day term repo programs would rise from $30 billion to $45 billion. For the most part, these daily and term repo operations have been oversubscribed, meaning there is more demand than liquidity being offered by the Fed. This growing problem is a reason for the recent announcement of QE (not QE).
As noted by Zerohedge on Thursday morning:
“In a statement published at 1515ET, precisely when the S&P ramp started (on Wednesday), the New York Fed confirmed it would dramatically increase both its overnight and term liquidity provisions beginning tomorrow through November 14th.
The Desk has released an update to the schedule of repurchase agreement (repo) operations for the current monthly period. Consistent with the most recent FOMC directive, to ensure that the supply of reserves remains ample even during periods of sharp increases in non-reserve liabilities, and to mitigate the risk of money market pressures that could adversely affect policy implementation”
This is a massive 60% increase in the overnight repo liquidity availability (from $75 billion to $120 billion) and a 28% jump in the term repo provision (from $35 billion to $45 billion).
The Fed continues to insist this is not “Quantitative Easing,” and this is simply short-term funding for short-term cash needs. (The original excuse were corporate tax payments, which have long since passed.)
This was not about covering unexpected cash draws to pay quarterly taxes, which was one of the initial excuses for the funding shortfalls.
Nope.
This was bailing out a bank that is in serious financial trouble. It started with the ECB (European Central Bank) a month ago loosening requirements on banks, then proceeded to the Fed reducing capital reserve requirements and flooding the system with reserves.
Who was the biggest beneficiary of all of these actions? Deutsche Bank.
Deutsche is about 4 times as large as Lehman was in 2008 and is currently following the same price path as well. Let me repeat: the Fed is terrified of another “Lehman Crisis” as they do not have the tools to deal with it this time.
Clearly, the Fed is concerned about something other than the impact of “Trump’s Trade War” on the economy.
Needless to say, if the funding shortage was getting better, none of this would be happening. Instead, it appears that with every passing day the liquidity shortage is getting worse, even as the Fed’s balance sheet is surging.
The only possible explanation is someone really needed to lock in cash for month end (the maturity of the op is on Nov 7).
The question, as before, remains why? Just what is the source of this unprecedented spike in liquidity needs in a system, which already has $1.5 trillion in excess reserves?
That is the correct question.
But, in the meantime, the injection of liquidity continues to support stock prices as the litany of market buyers respond in “Pavlovian” fashion to more liquidity.
If more QE works, great. We are positioning for it. All three equity managers are long.
Market Data
- Big Money Bears: For the first time in 20 years, the big money is betting against stocks. The latest semi-annual survey of big money managers by Barron’s showed a Bull Ratio below 50% for the first time ever.
- Participation Problem: The S&P 500 broke out to its first all-time high in more than 50 sessions, yet fewer than 8% of its component stocks managed to hit even a 52-week high.
- This month – even with a record high in stocks – more consumers still expect stocks to decline than rally in the months ahead.
- Nasdaq Non-Confirmation: The Nasdaq Composite has been approaching its old highs but hasn’t yet been joined by a solid number of stocks on that exchange.
- Surprises Slipping: The 20-day average of the Citi Economic Surprise Index has rolled over.
- Recession Sentiment: Another survey of insiders at companies in the Midwest shows the kind of sentiment normally seen during and in the latter stages of a recession.
- Black Swan Risk Rising: The risk of a swift, severe volatility event keeps rising. The SKEW index just hit a 150-day high.
- The Nasdaq Composite has broken its previous record high, yet fewer than half of stocks on the Nasdaq exchange are even in uptrends.
- With this week’s breakout in the S&P. As it has moved to record territory, only one of its major sectors has come along for the ride.
- More Extremes: Despite some curious exceptions, nearly 50% of our indicators are now showing excessive optimism.
