All posts by Daniel Lacalle

About Daniel Lacalle

Daniel Lacalle (Madrid, 1967). PhD Economist and Fund Manager. Author of bestsellers "Life In The Financial Markets" and "The Energy World Is Flat" as well as "Escape From the Central Bank Trap". Daniel Lacalle (Madrid, 1967). PhD Economist and Fund Manager. Frequent collaborator with CNBC, Bloomberg, CNN, Hedgeye, Epoch Times, Mises Institute, BBN Times, Wall Street Journal, El Español, A3 Media and 13TV. Holds the CIIA (Certified International Investment Analyst) and masters in Economic Investigation and IESE.

The End Of Earnings Recession in Europe?

Europe, Global Economy, On the cover, Sin categoría

It seems that the earnings season in Europe is showing us its kind face after more than six years of disappointments and constant downward revisions (read). The earnings recession has been evident in domestic turnover, tax bases and the ability to repay debt, which did not improve in Europe despite the low interest rates – because cash generation was deteriorating more quickly.

According to Morgan Stanley, out of the 75 companies that have reported – although it is only a small part, 15% of the market capitalization – 43% have beaten estimates by 5% or more, while only 29% have disappointed. The rest were”in line” with expectations. So far, these have been the best results of the past 6 years.

Faith in earnings recovery is centered on four pillars:

. Better commodity prices – which helps oil companies and electricity generators -,

. improvement in the performance of banks with more inflation and less provisions,

. upward revisions of global growth

. …and widespread margin improvement.

There are still many results to analyze, but it is worth noting that this recent improvement is promising, albeit not without risks.

– It is true that a little inflation would help the financial sector to get their head above water and breathe a little. Banks are trying their own medicine. They spent years demanding monetary expansion and now they suffer the collapse of margins due to negative real interests. But the European banks’ writedown trend is far from over, and the burden of NPLs (non-performing loans), which exceeds €200 billion, still require a large number of capital increases. The recent results by Deutsche Bank show that the pain is far from over.

– The recent increase in commodities has not generated the positive results that consensus expected in energy. The results of the large European conglomerates are, so far, quite poor, with only one exception, Total, that has been doing its homework for many years.

– We have to pay attention to the negative surprise in the earnings of Consumer Staples, a 7% negative surprise and 5% overall decline, as European growth expectations come mainly from the hope of higher consumption.

Of course, analysts and investment banks are encouraged by the increase in inflation. However, we have to pay more attention to core inflation, since we may encounter a stagflation problem if prices rise due to food and energy while the economy remains anemic.

In any case, we must highlight the good news. If the positive surprise in earnings is maintained until the end of the results season and extended to 2017 guidance, we could be facing the end of the earnings recession, which is an essential factor to believe in a true recovery.

If this profits recession is not reversed in 2017, we could face a much greater problem. Why?

If profits do not start to grow in Europe in 2017, the “tailwind” effect of low interest rates and cheap commodities will dissipate before companies have improved their ability to reduce debt.

European companies can be the positive surprise of 2017 despite the political turmoil and the likely ECB tapering.

Many investors tell me all this does not matter, because European stocks are cheaper than the US market. Let me give a warning. It’s almost always the same. Apart from the fact that the composition of the indices is very different -technology and high added value in the US compared to low-growth banks and conglomerates in Europe-, investors must remember that when US companies have excess cash and liquidity, they buy back shares and increase dividends. European companies, the vast majority, don’t.

We have to follow the earnings trend. It’s tedious and less sexy than talking about political conspiracies, but without an obvious and unquestionable improvement in corporate profits, the European rebound will be nothing but a mirage… again.

Daniel Lacalle. PhD in Economics and author of “Life In The Financial Markets”, “The Energy World Is Flat” (Wiley) and forthcoming “Escape from the Central Bank Trap”.

Graph courtesy Morgan Stanley

Oil and Frexit: Two Concerns in a Complacent Environment

Energy, Europe, Global Economy, On the cover, Sin categoría

We cannot deny that we are in an environment where global growth and leading indicators show more positive prospects than expected. We have gone from fear to hope – as we explained here – and the US data once again shows strength after the declines seen before the elections. Add to that an increase in expectations of oil demand and the improvement in manufacturing index in Europe.

However, there are two risks. Inflation is mostly coming from energy import costs, and the risk of default from France is rising in the face of the threat to “leave the Euro”

The report of the IEA (International Energy Agency) published yesterday shows us positive and negative data.

Demand growth revised upwards to +1.6 mb/d

  • OPEC production is down 1 mb/d y/y
  • Non-OPEC output is down 0.4 mb/d y/y
  • OECD stocks fall at a rate of 800 kb/d in 4Q.
  • This is balanced by high absolute level of stocks.
  • and US supply growth revised up by 0.1 mbd, now forecast to grow 520 kb/d Dec ’17 vs Dec ’16

Oil demand has been revised upwards to 1.6 million barrels a day by 2017, which indicates that after years of anaemic economic growth and poor demand, it can be a signal a global of improvement. But we must be cautious, given the high level of inventories and the likely seasonal effect. At the moment, OPEC production cuts may seem like a “success”, but as it happens, US production continues to pick up. In addition, the response from consumers happens faster, with substitution and technology accelerating. The world cannot afford an oil shock because of a short-term policy of producers.

It has always been said that the world goes into crisis when the oil burden – the cost of importing oil over total GDP – exceeds 5%. It is rather the opposite, energy overpricing is triggered by the inflationary effect of stimulus policies, and overcapacity and debt remain, triggering a crisis.

At the moment the rise in oil prices comes because producers cut supply, but the impact of these incorrect decisions always generates a response from consumers that accelerates the substitution and diversification of non-cartel producers.

What is the problem? For consumer economies it will have an impact on growth. Imports soar, competitiveness is eroded… but there is some hope. Just as the 2016 oil price recovery did not reduce Spain or Europe’s growth – in fact, it was better than expected – it should not be a recession-leading factor in 2017 as prices remain low. The fact that oil is below $ 57 a barrel (Brent) and is anchored in a very narrow trading range despite the production cuts, shows us that the marklet is very well supplied.

Frexit. The biggest bankruptcy in history?

A couple of days ago, David Rachline of the National Front in France, decided to go to the manual of unicorns ‘Made In Varoufakis and Podemos‘ and state that “the debt of France is about 2 trillion euros, about 1.7 are issued under French law, which means that they can be re-denominated.” Easy, isn’t it?. Your loans in euros can be returned in French Francs … and he thinks – he says – that nothing will happen.

Nothing. Only the collapse of France’s pension and social security system, which is mostly invested in sovereign debt, the destruction of the savings of millions of citizens, and the bankruptcy domino of the French banks. Let us remember that more than 40% of France’s Government Debt is held by the French savers, pensions and institutions.

No amount of money printing would mitigate the impact of an effective default in France, and the contagion on the rest of the Eurozone.

The magic idea of ​​thinking that sinking the currency and defaulting is going to improve the economy is based on three lies:

  • That a default will not affect new credit and access to future financing. To think that they are going to default and investors will lend France more, and cheaper, is so ridiculous it can only be defended by a politician with a straight face.
  • That defaulting does not affect citizens. Not only are their savings and pensions destroyed, so are their deposits – by devaluation and the inevitable bank run -, but access to credit from SMEs and families disappears, even if they want to invent a thousand public banks printing papers.
  • That they can “contain” the brutal impact (which the National Front themselves expect) with a fictitious second currency that will be “closely pegged” to the euro while the transition takes place. A trainwreck in slow motion. It would collapse the Euro and the “closely pegged” currency as well.

If France were to carry out this atrocity, it would be the biggest credit event seen in recent history and, considering that the assets of the French banking system exceed the country’s GDP by more than three times, it would be an implosion that no serious person would think would go away printing French Francs.

Banks’ outstanding home sovereign and sub-sovereign securities represented 6.4 per cent of total assets in the EU as of February 2016, according to Standard & Poor’s… A credit event of the magnitude of France re-denominating its debt, and the subsequent contagion risk throughout the Eurozone, would lead French and European banks to collapse.

Someone should tell LePen that her plan has already been carried out. By Argentina. And its currency lost 13 zeros in 40 years.

It is terrifying to see that citizens are led to believe in these fake magical proposals to which the totalitarian populists have accustomed us. But it is even scarier to see that the European populists believe these ideas have not worked in the past because they were not implemented by them. The idea that economic imbalances caused by printing money without control is solved by printing even more money with much less control. Brilliant.

The good news is that crisis after crisis, each credit event after another, it becomes increasingly clear that the populists’ technical capacity to destroy the economy and plunge their citizens’ wealth with magical “solutions” is diminishing.

French candidates must warn of the devastating effect of these pyromaniac ideas.

It is sad to see that there is still someone out there who believes that sinking the currency and defaulting will make us richer and borrow at lower costs. It shows us that we did not explain currently our past generations that Santa Claus does not exist.

 

Daniel Lacalle is PhD in Economics and author of “Life In The Financial Markets”, “The Energy World Is Flat” (Wiley) and forthcoming “Escape from the Central Bank Trap”.

 

LePen’s Economic Program. No Trump, Very Syriza

Global Economy, On the cover, Sin categoría

The “super secret” economic program of Le Pen  for the French elections is now available. Yet there is nothing new about it, it is the same collection of unicorns that populates the economic proposals of the European populists, left or right. From Syriza to the National Front or Podemos, their economic proposals are always the most outdated and stale interventionism. All those economic programs can be summarized in one sentence: Two plus two does not equal four, it equals 22. Massive devaluations, believing in the unicorn of printing money to solve structural imbalances and nationalizing every sector possible. Venezuela without oil.

LePen demands full State control of companies in strategic sectors, printing currency without limit, eliminating the independence of the central bank to fund the State without control (the “people’s QE“, or Argentina without soya)  and interfering in all economic aspects with more bureaucracy and political control in every economic decisions. The assault on the citizen, on behalf of the ‘hyper state’, voted and approved by a relevant percentage who believe in magic as long as it’s more government.

Marine LePen says her program ia already being implemented by Trump and May. Really? There is nothing remotely similar. May wants companies to thrive and make the UK the next Singapore, cutting taxes and reducing bureaucracy. Trump is adopting the same measures. LePen wants companies surrendered to the State and aims to increase hyper regulation. LePen’s tax cuts are a mirage as revenues and earnings will be destroyed by devaluation and interventionism. Trump and May defend “America first” or “UK first” without destroying capitalism, closer to Roosevelt in protectionism and Reagan in liberalization. LePen defends “French State first”, completely obliterating free enterprise and capital investment, and closer in her view of protectionism to fascist and communist regimes.

The National Front’s program has no resemblance with the US and UK proposals. It has all to do with pre-war Germany or Soviet Russia. No reduction of bureaucracy. In fact, LePen promises a lot more, with many more public servants hired. No real cut in taxes, in fact LePen promises to penalize companies that use tax optimization schemes. No respect for shareholders, in fact a total war against capital investment and shareholders that they call “vulture funds”. LePen aims to deepen the imbalances of what is already a “sclerotic” economy, in the words of candidate Macron, a socialist system of inefficient directed economy, by adopting even more socialist anti-market measures.

There is nothing in this program that looks remotely similar to the proposals of Trump or May. And a lot that looks frighteningly similar to the magic ideas of Corbyn, Syriza and Podemos.

The “star” proposal is -of course- to leave the Euro. The National Front already voted in January 2016, a resolution to dissolve the euro “in an orderly way”. This vote was made along with the extreme right and left of Italy, the Northern League and Five Stars, and Spain, Podemos.

Orderly disolution of the Euro is an oxymoron. There is nothing orderly. Ignoring the massive impact on businesses and families of  leaving the Euro is dangerous. Capital controls would asfixiate the economy, devaluation and inflation would destroy savings and purchasing power of citizens, and the domino of bankrupcies of SMEs and families would be devastating. In an economy with high private debt, it would be -as we have seen in many cases- an absolute disaster.

LePen and the National Front know it. They love the idea of ​​confiscating the vast majority of the savings of families, which are in bank deposits, and surrendering the leftovers of the economic wreck to the omnipresent State. Capital controls, bank runs and confiscation of savings are not unforeseen collateral damages, they are part of the strategy of sinking and nationalizating the economy. It is not about improving, but absorbing 100% of the crumbs left from the debacle. The “orderly exit” of the Euro is an oxymoron, something like “democratic fascism.”

It is, at the very least, a joke that the National Front, in a program full of unequivocal proofs of the domino of bankruptcies it will create,  promises to “lower interest rates to companies and families.” First, bond yields would soar, the collapse of banks with capital controls and massive devaluations would destroy access to credit for those same companies and families, and the cost of borrowing -if available at all- would skyrocket … Yet they “promise” to lower it.

France, today, borrows at historically low rates and its companies and families at the lowest interest rates in history. To think that out of the Euro all this would remain is not being a nationalist, but being a fool.

Another oxymoron is “intelligent protectionism”, something like the “kind Leninism” that Podemos promised. The battery of measures aimed at closing access to capital and assets while demanding that the central bank finances “unlimitedly” the government is nothing more than to repeat the disaster of Kirchner in Argentina and Chavez in Venezuela, but in France. And, moreover, with the same result as what Varoufakis and Tsipras achieved in Greece. Deepening the recession.

It is endearing to read that the National Front thinks, like other populists, that putting capital controls and eliminating the open financial market will multiply access to credit and financing. It is the same as thinking that putting barriers to trade and eliminating bilateral treaties will help you export a lot… Nonsense.

Because LePen is not asking to renegotiate trade deals. The National Front is simply talking of eliminating every trade agreement existent in the past.

The whole program of the National Front starts, like all European populists, with the premises that the world is wrong and two plus two does not equal four. That the reason why the French interventionist economy does not work is because it is not interventionist enough. That the reason why it does not grow and delves deeper into debt is because they don’t print money. There is no measure about productivity, competitiveness. No. More public servants will solve all the problems.

The program permeates the view that private economic agents have no clue, but a group of bureaucrats is going to solve it all, and that everything is sorted devaluing, impoverishing and printing useless paper. It is repeating the same economic folly perpetrated in the French Revolution with the Assignats and, as it happened then, when the economy collapses, the government will blame shop owners for the lack of supply, merchants for not wanting to accept worthless pieces of paper, and the foreign enemy that attacks such beautiful plan. Blaming anyone except the ones that sink the economy, themselves.

No, the National Front program is nothing like Trump’s. It is Soviet-Fascist interventionism seen many times before, closer – in economic policy – to Mussolini, Kirchner, Allende or Maduro.

It will not work, and they know it. But the goal is not to make it work. The goal is that, when the economy collapses, all economic agents will be hostages of the omnipresent State.

Unlike the UK and US recent movements, this is not a program that promotes freedom from the system to incentivize private iniciative outside of bureaucracy, it is the glorification of slavery to the bureaucrat system.

Daniel Lacalle is PhD in Economics and author of “Life In The Financial Markets”, “The Energy World Is Flat” (Wiley) and forthcoming “Escape from the Central Bank Trap”.

Graph courtesy Bloomberg, cartoon courtesy Dave Simonds.

Who Owns the US debt? No, not China. Not even close

Global Economy, On the cover, Sin categoría

US total debt is $19.9 trillion. China owns c$1.1 trillion. Nowhere close to being “the largest holder of Treasuries”, not even the largest foreign holder -that would be Japan-, and far from being “a threat”.

In fact, the US and foreign mutual funds would absorb the entire Chinese holdings in three days. China has reduced its holdings by $41.3 billion in 2016, the lowest level since 2010, with no discernible impact on the market and demand for Treasuries.

Here’s the detailed breakdown (source, as of December 31, 2016).

  • Social Security (Social Security Trust Fund and Federal Disability Insurance Trust Fund) – $2.801 trillion
  • Office of Personnel Management Retirement – $888 billion
  • Military Retirement Fund – $670 billion
  • Medicare (Federal Hospital Insurance Trust Fund, Federal Supplementary Medical Insurance Trust Fund) – $294 billion
  • All Other Retirement Funds – $304 billion
  • Cash on Hand to Fund Federal Government Operations – $580 billion. (Source: Treasury Bulletin, Monthly Treasury Statement, Table 6. Schedule D-Investments of Federal Government Accounts in Federal Securities, December 2016)
  • Foreign – $6.281 trillion (of which Japan, $1.13 trillion, and China, $1.1 trillion)
  • Federal Reserve – $2.463 trillion
  • Mutual Funds – $1.379 trillion
  • State and Local Government, including their pension funds – $874 billion
  • Private Pension Funds – $544 billion
  • Banks – $570 billion
  • Insurance Companies – $304 billion
  • U.S. Savings Bonds – $169 billion
  • Other (individuals, government-sponsored enterprises, brokers and dealers, bank personal trusts and estates, corporate and non-corporate businesses, and other investors) – $1.349 trillion. (Sources: Federal Reserve, Factors Affecting Reserve Balance, January 18, 2017. Treasury Bulletin, Ownership of Federal Securities, Table OFS-2, as of June 2016.)

 

China is NOT the largest holder of US debt, not even by a mile. It is not even the largest foreign holder (read).

Meanwhile, foreign institutions’ holdings of China government bonds fell 1.9bn yuan in January to 421.75bn, according to data from China Central Depository & Clearing Co. The first drop since October 2015. However, foreign investors had increased their stakes in China’s government bonds by 70 percent in 2016, bringing the total to the current 421.7 billion yuan.

Daniel Lacalle is PhD in Economics and author of “Life In The Financial Markets”, “The Energy World Is Flat” (Wiley) and forthcoming “Escape from the Central Bank Trap”.

Graph courtesy Bloomberg. Sources thebalance.com, Bloomberg