The start of 2016 hasn’t been good for investors’ nerves, as stock markets have mostly gone in one direction – down.
The old mantra of “buy the dip” seems to have turned into a money loser. The new mantra looks more like “sell the rip.”
I’ve seen this type of global turmoil before, starting with the 1987 crash. I believe it’ll continue for the foreseeable future. Here are seven things Wall Street Daily readers will need to pay attention to for the rest of 2016, in order of importance.
Number 1: Central Bank Policies
We’re in an age where financial markets are highly reliant on central bankers. It’s unfortunate then that the bankers have gone bonkers in their efforts to stimulate both economies and markets.
On January 29, Japan joined their European brethren in going through the “looking glass.” In other words – negative interest rates. The trek into this land is being led by Sweden, which recently pushed its rate down to negative 0.5%. And this despite Sweden’s economy being relatively strong –GDP growth in 2016 was forecast at 3.5%.
There is now more than $6 trillion worth of government sovereign debt globally that trades with a negative yield. And German Bunds are hovering close to zero.
The only question now is whether Janet Yellen will follow suit.
If not, don’t be shocked by other “unconventional” methods. For example, the Swiss National Bank’s balance sheet already looks like one for a hedge fund – by owning a bunch of stocks such as Apple.
Central bankers seem to have turned into Doctor Frankensteins, experimenting on both the global economy and markets.
Number 2: Currency Wars
The current global currency war is a direct result of central bank policies. Lower rates often turn into lower currencies, forcing other countries to react in kind in a race to the bottom.
The good news here is that, at times like these, central banks illicit the opposite reaction from the one they intended.
The Bank of Japan’s move was aimed at lowering the value of the yen. Instead, it so scared global market participants that the yen and euro carry trades are being unwound. A carry trade involves borrowing money at zero interest and putting the money to work elsewhere, as in the U.S.
Unwinding means people are closing their positions and paying back what they borrowed – in effect buying yen and euro, strengthening those currencies. Also at play are fund managers in Japan and Europe, who are bringing their money home until the “storm” blows over, once again strengthening their respective currencies.
Number 3: European Banks
More fallout of negative interest rates is that it’s lousy for banks’ bottom lines – not to mention other institutions, including insurance companies and pension funds.
Part of the recent carnage in European banks stems from the fact that these banks now have to live in a world of negative rates. Keep in mind that the vast majority of Europe’s 6,000 banks are like savings and loans departments. They simply take in deposits and lend the money out. Now their entire business model needs to be re-worked.
A problem specific to the mega European banks though, is that many are highly leveraged.
The poster child here is Deutsche Bank (DB), which has the world’s largest derivatives book. Deutsche also has lots of loans given to energy companies, mining firms (including Glencore), and loans to Volkswagen (which has its share of problems).
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Deutsche is “too big to fail.” So, if necessary, it will be bailed out.
Number 4: Oil
Next on my list is oil.
The vast oversupply of crude will continue for the foreseeable future. The glut may continue for longer than most think as the Saudis seem determined to stay the course. Even if a sudden agreement materializes to lower output, vast inventories (including fracklog) will keep prices under $40 a barrel.
This is not good news for North American producers, many of which are losing $350 million a day, according to AlixPartners.
It’s also not good for their bankers or the funds that bought their debt. According to the Bank for International Settlements – the central banks’ banker – the industry is drowning in debt.
Between 2006 and 2014, the amount of energy bonds grew from $455 billion to $1.3 trillion. And syndicated loans to the sector soared from $600 billion to $1.6 trillion!
I suspect lots of defaults and bankruptcies are in the future for U.S. energy firms.
Number 5: China
China has slipped down the list of concerns since the start of 2016.
The strengthening of the yen and euro has eased the pressure on China. The major devaluation Kyle Bass and other U.S. hedge funds are betting on won’t likely happen. In fact, the renminbi recently saw its biggest one day gain in over a decade.
And China’s consumer and services sector continues booming. Retail sales are still humming along at a double-digit rate. The latest Nielsen global survey on consumer confidence shows Chinese consumer confidence remaining stable and at high levels. That may fall somewhat though, as the restructuring pace in China’s industrial sector – plagued by overcapacity – continues.
Number 6: U.S. Elections
As the year progresses, more attention on Wall Street will turn to the presidential election.
At the moment, non-mainstream candidates Donald Trump, Bernie Sanders, and Ted Cruz are doing well. But a match-up between any of these non-Establishment candidates is still unlikely.
The Establishment will fight tooth and nail to have their candidates as the choices. That means Hillary Clinton will face Rubio. I hear Wall Street loves Rubio. But his robotic campaign may put a damper on that enthusiasm.
Number 7: Reversion to the Mean
Finally, I continue to hold that 2016 will be a year known for its reversion to the mean.
That means trades that were winners are now losers. And now losing trades are turning positive.
For the past several years, Wall Street was all on the same side of the boat. Everyone was long tech and financial stocks. Everyone was long the dollar and short the yen. Everyone hated emerging markets – and considered gold to be a joke.
Now, the bite has gone out of FANG-type stocks. And financials are in a world of hurt.
Gold is up 15% so far this year. And discarded emerging markets such as Indonesia and Thailand are up so far in 2016. Slovakia is up 35% in the past 52 weeks.
I look for counter-trend rallies in this reversion to the mean, where old favorites rally sharply. But those rallies will be short.
Welcome the new financial world of 2016.