Archive for August, 2011

State Of The Sovereigns

Sovereign ratings downgrades have been making headlines for some time this year, but Moody’s downgrade of Japan on Wednesday caused hardly a ripple. This was not a surprise: Japan has been on “negative outlook” with the ratings company since May, the downgrade was small in magnitude (only one notch), and the sovereign remains highly rated at Aa3 (Moody’s equivalent of AA-, where S&P has rated the country since the beginning of the year).

Despite the high level of public debt in Japan – about 200% of GDP and rising – the high rating is arguably justified. Public debt is locally held, interest rates are low, and Japan is a highly developed and prosperous economy with over $1trn in reserves.

Nonetheless, readers might find it interesting for purposes of comparison to take a short tour of sovereign debt ratings around the world.

Starting with Europe, an especially high profile area, the range is all-encompassing, from AAA-rated sovereigns (large, such as Germany and France, or small, such as Austria and Finland), to Greece, standing on the brink of default at CC and famously the lowest-rated sovereign borrower in the world. In the middle are grouped the central and eastern countries, with Slovenia at the top (and at AA more highly rated than Italy), through Poland (single A), Russia (BBB), Turkey (BB) and others to Soviet throwback Belarus (B-).

The Americas also cover a full range of ratings. After S&P’s downgrade of the US, Canada is the only pure AAA. The other significant north American economy is of course Mexico (BBB). South and central America and the islands are mostly borderline or sub-investment grade apart from more strongly rated Chile (AA- / A+) and the offshore havens Bermuda (AA) and the Caymans (AA-).

Skipping west to the Pacific Rim, the only unequivocal AAA is Singapore (Australia is rated AA+ at Fitch and S&P has its AAA under review). China, Hong Kong, Taiwan and South Korea are all strongly rated in the AA / A range. Malaysia (single A) and Thailand (BBB+) get investment grade ratings, but the other tigers don’t do quite so well: Indonesia (BB+), the Philippines (BB) and Vietnam (BB- / B+) all fall into speculative territory.

Continuing the journey into Asia there are no very highly rated sovereigns at all. Kazakhstan leads the pack at BBB, beating India (BBB-) into second place. Mongolia, Bangladesh, Pakistan and Sri Lanka are all sub investment grade.

Which leaves Africa and the Middle East. Again, there are no AAAs, but Saudi Arabia and a few of the other Gulf states sit in secure AA territory. The north African countries are rated pretty closely together in the BBB / BB area. Of the others, key economy South Africa is solidly investment grade at A- / BBB+, whereas the few other states that are rated mostly come in at single B (even regional giant Nigeria).

The extent to which the world’s richer countries have put their economic security at risk has attracted much attention of late, and rightly so. But at the same time, these ratings show how some poorer countries have been closing the gap on their developed peers.

The continuing challenge to traditional perceptions of developed vs. emerging market risk will present opportunities as well as threats.

26/08/2011 at 4:35 pm 1 comment

Meltdown – Cont. …

As equity markets revisit their recent lows, bonds yields hold at record levels and gold rises ever higher, one refrain has predominated: the US is re-entering recession. The developed world’s growth motor is stalling, so the story goes, and will take the global economy and corporate profits with it.

Given constraints of space, this blog will confine itself to addressing the first link in that logical chain. Are we to expect a US double dip?

Here’s what Warren Buffett had to say on the subject a little over a month ago:

“I would bet very heavily against that,” Buffett told Bloomberg Television … “How fast the recovery will come, I don’t know. I see nothing that indicates any kind of a double dip.”

Mr Buffett was speaking as a significant employer in his own right, as well of course as an investor of unparalleled repute. So has there been anything in the data to change the Sage’s mind?

A casual observer of markets and market commentary this month would be forgiven for imagining that US economic news has been universally and dramatically poor. But looking at the actual releases for August so far, the worst that can reasonably be said is that they have been mixed.

Let’s take employment first. US payroll data for July showed 117,000 nonfarm jobs created – many more than for June (even allowing for an upward revision to the June data), and more than expected by economists. This was consistent with the slight fall in the unemployment rate for July (9.1% from 9.2%), another positive surprise for the market. Another widely-followed measure, the numbers of new and existing claims for unemployment insurance, has seen three weekly releases so far. One (11/08) showed two positive surprises, one (18/08) two negative surprises and the other (04/08) a positive surprise on new claims and a negative one on continuing claims. In aggregate, these measures have been broadly unchanged.

Various more minor employment indicators have come out too: job cut announcements rose on the year to July, yet July ADP payrolls grew more strongly than expected; similarly, job openings for June rose (and those for May were revised higher), while BLS survey data showed falls in total employment for both months.

Employment growth in the US has certainly been slow (though as growth has recovered its pre-recession level this implies a major improvement in productivity – something which, under fairer skies, would be cause for celebration). But there is nothing in recent data to suggest a deterioration. On balance, in fact, there has been more positive than negative news on this front so far.

Turning to growth, the numbers have actually been positive on the whole. Seasonally adjusted vehicle sales rose in July, as did retail sales more broadly (and data for June was revised up in the latter case). Most significantly there was a big positive surprise from July industrial production this week (up to 0.9% on the month from an upwardly-revised 0.4% in June). Construction spending for June came in a little stronger than expected and again was revised higher for the previous month. Offset against this, GDP data on household spending came in 0.1% below expectations (at 1.3% on the year to June) and June data on inventory building was also weaker than expected.

Conversely, there was more negative news on the survey side. The widely-watched University of Michigan consumer confidence indicator dropped suddenly to a 30-year low, and the “Philly Fed” regional manufacturing index posted a steep decline to a level last seen in the teeth of the recession. The key ISM purchasing manager indices for July both fell too, and both came in lower than expected (though both remain in positive territory, indicating continued expansion). Half a dozen or so more minor confidence indicators all fell, though most did not do so dramatically.

Elsewhere, there was mixed data out on housing. Two measures of activity, building permits and existing home sales, fell on the month and disappointed expectations, whereas the NAHB market index was unchanged as expected. And at the other end of the spectrum, weekly data on mortgage applications have risen solidly as existing borrowers have been taking advantage of recent falls in rates to refinance their deals and save a bit of money.

Lastly, producer and consumer price inflation for July surprised to the upside on both core and headline measures as commodities had a bounce (which has not survived into August!) Price behaviour has certainly been a brake on US consumption this year, and annual inflation has settled at 3.6% for the last three months – above 10-, 20- and 30-year averages. But it is not – yet? – at levels which are likely to send consumption into reverse, and the Fed has accordingly continued to leave its target rate at 0.25%.

To conclude, then: while it’s not all roses in the US right now, it’s not all thorns either. And Mr Buffett’s view?

“I like buying on sale … Last Monday [8 August, when the S&P 500 closed the day down 6.66%], we spent more money in the stock market buying than any day this year.”

19/08/2011 at 1:22 pm 1 comment


It wasn’t supposed to happen like this.

Equity markets had a bad week of it at the end of last month: downward revisions to US growth and brinkmanship over the government’s borrowing authority saw the S&P fall by 3.9%.

Then there was an eleventh hour deal on the deficit that saw the government avoid shutdown. Ratings companies Moody’s and Fitch promptly affirmed the country’s AAA (though S&P has yet to opine).

And with crisis averted and the previous week’s economic news already absorbed by markets in that efficient way of theirs – they fell again. The S&P closed last night 7% below where it ended July and 4.8% down in yesterday’s trading alone.

At the same time, bond markets went bananas. Ten year gilt yields made a new record low. Ten year yields in the US have fallen 40bp.

All of which makes for a pretty interesting valuation picture. As a dollar investor, you have the opportunity to buy treasuries at 2.4%, cash at 0.25% or an equity market with an earnings yield of 7.6%. The picture is even more extreme here in the UK – you can own ten year gilts at 2.7%, cash at 0.5% or an equity market yielding 9%. In Europe it’s almost embarrassing: the dividend yield on the Euro Stoxx 50 index is 5%, more than twice what your euros would return were you to invest in ten year German bonds.

This is pricing for Armageddon. Many investors have clearly discerned the hoofbeats of apocalyptic horsemen in the air.

So much, once again, for the “summer lull“.

05/08/2011 at 12:43 pm 1 comment

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