Transcripts
Please note this was transcribed to best of the ability of the transcriber and may have minor errors. Please refer to the podcast itself to clarify anything.
Erik: Joining me next on the program is Axel Merk from Merk Funds and Axel, boy talk about a news day for us to be speaking on Thursday morning. There’s so much to talk about, but let’s start with the ECB. A lot of expectations were growing into this morning’s ECB press conference that this might be that policy reversal moment akin to Ben Bernanke’s famous announcement of the tapering of stimulus that might reverse the whole direction of ECB policy. Tell us what actually happened, and let’s probably broaden it from there into what you see in terms of implications for the Eurozone generally.
Axel: Yes, well it’s great to be with you, and I think you set it up right. There was a lot of expectation heading into this meeting, and as a result of that the Euro had had quite a run-up into that meeting and not too surprisingly, at least in the immediate aftermath, there is some profit taking, some selling of the Euro. Now, if you look at the media, they, the media are no smarter or dumber than we are, but they’ve got to their job, and so they look at the immediate reaction. The Euro dips down and so, alright, Draghi was dovish, and that doesn’t even begin to scratch the surface. The most relevant thing, and it was anticipated, the most relevant thing is that Draghi pointed out that they’re not going to lower rates any further, and they used to have that in the statement and that’s dropped, and so you would think that, yes, that means tapering is next, and if you recall when Bernanke thought it was tapering, well the tapering doesn’t stop for years, so it was always this anticipation, and of course in the meantime, the Dollar was rallying, rallying, rallying because the FED is going to be so hawkish, and we’re going to talk about the FED later, I presume.
Now, Draghi succeeded in the impossible in convincing the market that this is actually dovish, and the reason this is dovish is because they’re not yet tapering, they didn’t even, quote on quote discuss normalization. He did point out two on his board talked about it, but then he kind of said, nope, that was not a discussion, just them talking about it, because I presume, he didn’t engage, and he didn’t want to have it, he called it discussion. He did say that the growth in Eurozone is robust. He said he feels deflation is over, the risk is only internationally globally, yet, he’s going to continue to print the same amount of money as he has because he doesn’t have proof yet that we’ll reach 2% inflation, and that statement, that in some form or shape he has brought up in the past has kept folks at bay from further defying the Euro in the short-term anyway. Now that said, the program currently for those that don’t watch ECB every five minutes, the purchase program lasts until December, and everybody expects it to be extended, but at some point, probably in September, they will have to give us indication of what’s going to be next, how long is this going to continue, are they going to reduce the number of purchases…so he’ll have to face reality sooner rather than later, and the current lower rates are just unsustainable for Europe, and so my own view is that the Euro is going to get substantially stronger, especially in the context of a couple of things I presume we’ll be talking about in a few seconds or moment. Back to you.
Please note this was transcribed to best of the ability of the transcriber and may have minor errors. Please refer to the podcast itself to clarify anything.
Erik: Joining me next on the program is petroleum geologist Art Berman. Art, you have a blog post that just came out. We have a link to that in our research roundup email for registered users. It’s basically explaining how it is that OPEC came with its much awaited announcement, now a nine month extension of their 1.8 million barrel per day production cut, which was designed to bump prices up and of course prices has sold off rather dramatically, in fact, took out the 200 day moving average on that news to the downside. We did see a bounce back up to retest it, and as you and I were speaking on Wednesday morning, we’ve given up the 200 day again, and we’re actually just barely trading on a 47 handle as we speak now, high 47’s, just taking out 48 on the last few minutes of Wednesday morning. Art, how’s this possible for people who didn’t read the full blog post? How come it’s doing the opposite of what they predicted it would do?
Art: Erik, I think the issue has to do with fundamental misunderstanding between what the market wants and what OPEC wants. In my view, OPEC is more focused at least for now and has been really since some time, well, early last year on maintaining a floor on prices, and what the market wants is for prices to go up, and so I think the issue is that perhaps you could phrase it as simply, or simplistically, as OPEC is taking the long view, and the market is taking the short view. The other issue that’s important is that markets don’t always pay attention to fundamentals, but fundamentals tell me, and have been telling me for quite some time that the right price for oil based on supply demand of inventory is $45, and basically we’ve been dealing with the, what I call the OPEC expectation premium now for over a year. That sentiment or expectation of what OPEC’s cuts or freezes or extensions or whatever are going to do to prices have been inflating them beyond what fundamentals suggest, so to me what’s happened is the market expected deeper cuts because it wanted higher prices. OPEC was unwilling to give that gift to its competition, was more concerned about a floor, and after all, I mean prices were $26 a barrel a little bit over a year ago, and now they’re, you know, in the upper $40’s, and so from that perspective, if you’re looking at revenues, that kind of looks like success to some people in OPEC looking at revenue, and so I think it’s just a mismatch of expectation, plus the market has been trying to adjust down to $45 several times here in, just since the beginning of 2017, so we’re just going to see more cycles, greater frequency, greater amplitude is my sense.
Please note this was transcribed to best of the ability of the transcriber and may have minor errors. Please refer to the podcast itself to clarify anything.
Erik: Joining me next is one of our most popular MacroVoices guests ever- Alhambra Partners Jeffrey Snider. Jeff prepared a fantastic book of more than 50 graphs and charts for this interview, so I strongly recommend that listeners download it before continuing. Registered users already receive the download link in your research roundup email, and we explained for everyone else how you can register and get the download earlier in the program.
Now Jeff, in your past interviews which have all focused on your work on the Eurodollar market, you've given us some of the best and most advanced content that we've ever aired on MacroVoices as evidenced by your popularity with our listeners. So, I really want to thank you for that excellent content, but quite frankly Jeff, even some of the finance professionals in our audience have felt it a little bit overwhelming because you take such a deep dive straight into what swap spreads are, telling us about the Eurodollar shortage, and so forth. So, what I'd like to do, if you don't mind, is to start today's interview by reviewing the key points that I've taken away from our prior interviews and asking you to correct me if I’ve gotten it wrong as we introduce the basics.
Let's start with the “US dollar Serves as the World Reserve Currency,” and what that means is two things- first, the global trade. For example, France buys crude oil from Saudi Arabia- they're going to pay for it in US dollars. Second, central bank reserve assets, what you could think of as the piggy bank or savings account for an entire country are denominated in US dollars, specifically US treasury bonds and notes are the preferred reserve asset of most central banks around the globe. So, the consequence of all this is that there's an enormous artificial demand globally for US dollars. We don't need Swiss francs of the United States because they're not used in the United States, but the Swiss do need US dollars in Switzerland because they're needed both as a reserve asset and to settle international trade. So, in order for the global financial system to function, there has to be some kind of balance, there has to be enough US dollars to support the global financial system or else everything breaks. By the same token, I suppose you could argue that there can't be too many US dollars.
Now if I understand it correctly Jeff, almost all of the work that you do centers on analyzing the health of the global financial system based on whether or not there's a shortage or excess of US dollars available to meet the requirements of the global financial system. The Eurodollar market, which we’ll talk about in just a minute, is the primary analytical tool that you use to gauge the health and well-being of the overall global financial system with respect to whether or not the need for US dollars can be satisfied by the available supply. But before we move on to Eurodollars, how am I doing with the basic concepts so far?
Please note this was transcribed to best of the ability of the transcriber and may have minor errors. Please refer to the podcast itself to clarify anything.
Erik: Joining me next on the program is financial historian and consultant to institutional investors, Russell Napier, and Russell, I’m so glad to get you on the program. I have long been a big admirer of your work, and I’ve really been looking forward to this interview. I want to start with a subject that’s near and dear to my heart, and I’m sure yours as well, which is the US dollar rally. I’ve been very bullish on the US dollar, I think structurally that this rally is set to continue, but boy, I woke up this morning and looked at the chart – it’s looking awfully ugly. So, did I get it wrong?
Russell: Well, indeed, today is not a good day to be a bull of the dollar, and obviously, there are political issues besetting the dollar exchange rate today. But the challenges for the other major exchanges of the currencies of the world are significantly bigger. A very quick run through the three major ones to show the scale of this: Number one, Japan is running out of savings, and by that, I mean it is insufficient private sector savings to fun its government at least in the domestic marketplace, at least in yen. The Central Bank has stepped in, it’s not doing counter devising, it’s effect will be doing outright financing of the government deficits that has always led to a decline in the exchange rate. It is fairly volatile at the minute, but I would expect a major, further decline copping the yield curve and using Central Bank money. Copping the yield curve effectively puts an unlimited scale of purchase on counter devising or an extension of counter devising, and therefore I think the yen has much further—not structural issues, not a cyclical issue, it’s not a political issue as we have with the dollar today that might pass as, at this point, as structural in nature with us for some considerable time; second, structural prolongs effects the Chinese currency, and that’s a very simple one. It has pursued a policy of mercantilism, managing its currency relative to the dollar and thus to other currencies that has been aimed at taking market shares in exports, but it has a defined and direct impact on monetary policies, and structurally it’s a policy which is unfit for purpose. You can’t be probably the second biggest economy in the world and hope to rely on a mercantilist monetary policy, so that exchange rate target will have to go. I think most people who would pine to the supply and demand in the next international exchanges for the Renminbi and say the lower band have abandoned, that means a lower renminbi; and finally, the Euro, people are getting a bit more optimistic at the moment. It seems the European project is back on course, but ultimately the monetary federal system in Europe, I believe, is still set for failure. We will not be able to create over here a federal system that is necessary to backup the euro, and therefore we have a short-term rally in the euro. But what ever problems America may have with the president or other political problems, these are passing problems, whereas there’s other problems that are far from passing, they’re structural in nature; and finally, there’s the amount of US dollar debt in the world borrowed cross-border. When we get an economical recession, take that economic recession associated with deflation and falling corporate cashflows, there’s usually a rush to pay it back debt. When people pay back debt and aggregate that net buyers of the dollar, so that overlays everything that happens in foreign exchange markets. It’s usually irrelevant for the United States dollar, but very occasionally as we saw in 2007 to 2008, you get one of these events, a deflationary event, where people rush to payback the debt, and it’s bullish for the dollar. So, I can talk for one hour on the dollar alone, but that is the brief summary of the forces that remain very positive for the United States dollar.
Please note this was transcribed to best of the ability of the transcriber and may have minor errors. Please refer to the podcast itself to clarify anything.
Erik: Joining me next on the program is Dr. Lacy Hunt, Chief Economist for the Wasatch-Hoisington Treasury Bond Fund.
Dr. Hunt, I’m so excited to get you in the program because we’ve had so many notable people calling for the end of the 35 year secular bull market in bonds, and a lot of guests we’ve had in the this program haven’t really wanted to take sides on this issue. I think you’re not going to have that problem because you have a very strong view. So, is the secular bull market in bonds really over? And if not, why not? And particularly, I know in the slide deck that you send us, there’s an excellent slide showing the velocity of money that’s been in freefall, not just since the great financial crisis, but really since the late 90’s. So, how does that play into the story, and how does it relate to your expectations for the continuance of this bond market?
Lacy: My view is that the secular low in long treasury bonds is not at hand- doesn’t mean that rates cannot go up, they have gone up quite a number of times since 1990 when this bull run started, but they’re not going to be able to stay up. The economy is too fundamentally weak.
The main consideration for believing that the trough is not at hand, is that nominal GDP growth and also the inflation rate is not yet at its secular low. There have been many transitory swings that will continue to be transitory swings, but the critical factors that determines the nominal GDP of both working lower experiencing considerably slower growth and money supply, and at the same time the velocity of money is in a major downtrend.
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