Binary Thoughts: Man Imitates Machine


Maybe it’s ironic or maybe it’s just plain logical that as computers invaded our lives, they also invaded our thoughts. Human brains are incredibly complex systems, capable of producing an unlimited array of emotions, thoughts and opinions across complex fluid spectra. Computers on the other hand use the cold logic of mathematics to process and relay information. To a computer a problem is broken down into ones and zeros, for humanity that’s increasingly becoming the case.

Today we live in a world of extremes. All or nothing. My way or the highway. The world is deeply divided on virtually every issue. But why?

Extreme monetary and unresponsive fiscal policy have led humanity into an unknown territory. Each side’s mistakes only amplified the other’s, building on each other and taking us to a radical new place not seen in living memory. In essence, we are off the edge of the map, but if history is our guide we know things only get worse from here before they get better.

And as we head off into the unknown, people are growing with fear uncertainty and most importantly desperation. There’s a palpable tension in the air. One wrong step, and we could fall off the edge of the world. As Ray Dalio puts it “risk is asymmetric to the downside”.

The stakes are so high and the margins of error are so thin that only one side in an argument can be correct, which leads a piling up on opposite sides of the fence with nobody in the middle. No side is willing to compromise. Hence the binary thinking.

The danger of the trend towards this binary thinking is incredibly dangerous and once again echoes the darkest times in history. If we give in to this belief that there is only one way out then we are doomed, because to be perfectly honest, there is no “good” option. There are varying degrees of bad.

Humanity has failed to deliver on its promises over the last 40+ years. We don’t have universal “free” healthcare, we don’t have funded pensions and we don’t even have flying cars. The time to pay for our mistakes is not in some distant future, that time is now. We have pushed everything beyond their normal limits and the bands are so stretched that when they snap back things will break. Things that people depended on. Things that people based their whole life around. Things that people cannot live with out.

Once again, irony plays a role, as the very things people cannot live without were based on a very unique society living in the aftermath of the very road map that we are closely following today.

Unbeknownst to many WWII, which is perhaps the most powerful dislocation since the black plague wiped out 1/3 of Europe’s population in the 14th century, still affects us to this day. Tens of millions of people were killed. Entire nations leveled to nothing. And when it  was over the US held half the wealth of the entire world.

The society that grew out of the ashes of WWII was built on the a once in a 600 year dislocation. So it’s no surprise that the dollar reserve currency, social programs, and demographics, the very pillars of our post WWII society, have become obstacles standing in the way of future growth and prosperity.

These pillars are outdated, and have been for decades as the increasing bipartisan nature of politics paralyzed democratic governments. This inaction has led to the steady deterioration of society. Politicians have noticed this deterioration, which is why the only policies they can agree on, is to give themselves even more power so that when the social fabric breaks, they can step in and take control. Think about that for a second.

So the rise of extreme right and left wing parties shouldn’t be a surprise. The citizens have been so marginalized during this whole cycle, that they are willing to support almost any change without any thought to the cost.

When it comes to volatility, politics is giving the financial markets a run for its money.  Like a phoenix reborn new and improved, the death of one extreme party will give rise to its polar opposite. Like people on a boat, running from one side to the other hoping to find safety on the other sides. As the pro EU movements fail across Europe we’ll see a rise of anti-EU ones, and most likely, the break up of the EU as we know it.

Americans should be more concerned with who they elect for president, I’m not sure any of our current candidates are capable of such a tough job, but then again they do say that time makes the man, I can only hope that is true. And remember, if you are all in one camp remember the following:



China: The $10T Question


I’ve noticed a trend in my recent articles, where I start on one topic and usually end up talking about three other things instead. Using the it’s not me, it’s you argument, I’m going to blame this on the global economy for being so damn fragile and interconnected. With that said let’s get on with not answering the $10T question.

Anyone who saw The Big Short or were contrarian enough to have actually read the book, will know that the men who lead the charge against the US housing bubble opened themselves up to a vast swath of criticism and ridicule.

So it’s not surprising that the mainstream, other investors and least surprisingly of all China are all criticizing and ridiculing the likes of Kyle Bass, George Soros and Mark Hart for their positions against the Yuan and indirectly, China’s economy.

PBOC governor Zhou came out with a very solid interview the other day. It was so good, that the market actually believed him, and maybe it was to be expected. The PBOC hasn’t given the market enough to doubt its omnipotence.

The biggest bubble of them all is the one in central banking competence. Maybe I gave the market too much credit (the CCP certainly does (get it?)), or maybe Zhou’s speech really was that good, perhaps we are looking out the makings of a Draghi 2.0.

Unfortunately, Draghi has shown to be quite limited. The Euro is strengthening, the economy is imploding, and the stock market is crashing, all whilst embarking on QE and negative interest rates with a threat of future cuts.

But back to Zhou, what did the market expect him to say? “Please don’t speculate”? He pretty much told the world in a very calm and commanding manner that #everythingisawesome.

And if #everythingisawesome, and China’s banking sector is fine, then capital will stop fleeing the country in record amounts once people realize that everything going on outside of China is actually relatively even worse.

We live in relative world, and maybe China stands up longer than Europe or Japan do, but if their struggling, what does that mean for the US?  The US’s recent struggles have been well documented and suggests an even further slow down, which will be an even further drag on global dollar liquidity. Given the shrinking dollar liquidity that will result from a slowing US economy coupled with a tightening of Fed monetary policy, EMs will be under even more pressure to tighten their economies to prevent even further capital flight.

Which then comes back to China and their ridiculous credit bubble that seems to have taken the game to another level as of late. How long will that last? And that’s the $10T question isn’t it. Because a bet against the Yuan is essentially an attempt at picking the top in a multi decade bubble. So if Mark Hart, Kyle Bass, and George Soros are met with resistance, some of it must be attributed to the belief that “who are you to be able to call such a peak”?

Many have come and gone before claiming China’s over-investment is unsustainable. Many have noticed China’s excess and ghost cities way back in the early 2000’s. And Many have been wrong. It’s 2016 and China is still churning out record amounts of credit.

This isn’t the first time Kyle Bass has tried to call the top in a multi decade trend when he shorted JGBs back in 2012. He looked at the problem logically and saw a confluence of negative factors that no central planner could solve. Japan at the time had and in most of these cases still has the following: declining demographics, declining or stagnant GDP growth, rising debt growth, zero inflation, and a trade deficit due to Fukushima.

The fact that Japan has limped on for 4 years since then is sign of just how hard it can be to call the turning points in multi-decade trends. Kyle’s short JGB thesis was built around the idea that Abe would be able to push inflation to 2%. As the world, Yen carry traders and Kyle Bass have now learned that central bankers actually cannot get inflation up with their current set of tools.

The idea was based on the belief that lower interest rates would spur people to lend more money to get a better return. Theoretically as the risk free rate reached zero, there should be no incentive to hold it. But we live in relative world. And at this point in the game, people would rather pay for safety ie. negative rates, or sit on the sidelines rather than go any further out on the risk curve. In essence, investors for the time being, are tapped out.

And this is why Kyle Bass was wrong on Japan. Central banks cannot create inflation with QE or NIRP. Because what are those tools doing? Front loading demand. And when you front load demand, you get a quick spark on inflation but nothing that is sustainable, because once you get to the future and realize that there’s no demand there, you get deflation. Well we are living in that future, so what do we do now? Continue to borrow demand from even further out?

We are witnessing the limits of the current monetary policy tools. As debt levels rise, it takes even more debt to generate growth. Which is why we come back to China, where judging by the chart below, no nation understands this better.


Over the five years immediately following the GFC, China’s banking system went from $9T to $24T, an average of $3T a year. In the last 2.5 years, China has added over $12T to the banking system bringing it to $36T, an average of $4.8T a year,


If January is any indication, China is set to continue with its massive credit growth. For the month, Chinese banks generated a whopping $500B in new loans. To put that to scale, China’s banking sector added more debt than the GDP of the entire country of Norway.china-jan-new-debt-480x299

China has known for a long time that in order to keep the game going they have to issue exponentially greater amounts of debt to keep the economy afloat, which to be quite honest may be possible for a little while longer. It is a little difficult to say when. Akin to Japan, this has been going on for decades. To call a top after 20 years is quite difficult as Kyle Bass well knows.

However, that doesn’t mean there aren’t visible catalysts out there. The most obvious is the capital flight. China has lost  $1T of FX reserves at an accelerating rate. But with $3.1T remaining, China does have some time before it burns through all those reserves.

Now the most common argument is that $1T of those reserves are in illiquid assets, which if you can believe China is not true. If those FX reserves were illiquid they would not be able to qualify as FX reserves according to the rules of the IMF. So if we assume that China has a $4T in funds left, then they can maintain capital outflows for at the very least a year, if not two.

Two years is probably more than the EU has before their next banking crisis. Right now Italy like China is having its own NPL problems. The Italian government would love to clear that debt off the balance sheets through a devaluation of the Euro and other such measures but they don’t control the ECB. Germany runs the show.

It’s not just Italy that’s having trouble, the whole EU is doing quite awful. Negative rates and poor regulations have strangled their banking sector. European banks are getting squeezed at the short end with negative rates and have to make up for it on the long end with higher interest rates. So actually lending in the EU is declining even though rates are falling. In essence, NIRP may depreciate your currency but at the cost of your banking system.

Japan is also learning this lesson. Not to be out done, the BoJ nuked themselves and have been paying the price. However, the Yen is a “safe haven” asset and when the BoJ nuked the Japanese banks they signaled a crisis which forced a lot of capital back into the Yen which strengthened as a result. So NIRP in Japan strengthened the Yen and hurt the already vulnerable banking system.

At the moment, neither the BoJ or the ECB is willing to increase their current QE programs and are only threatening further NIRP! It’s pure insanity but their banking sectors are going to implode as a result of this misguided policy.

So to say, China, who is actively working to prop up it’s banking system, will crash before Japan or the EU, who seem to be actively working to destroy their banking systems, is a hard call to make.

I think it is more important to focus on the forces at work and what they mean for other asset classes. In a sense, I’m attempting to be agnostic when it comes to time, and just benefit by the overall trend rather than a specific move. The overall trend here is lower interest rates, more debt, more deflation, more instability, more volatility, and less growth. The last one to me is key. The whole world is obsessed with GDP growth, so whether you think it’s a good statistic or not you have to follow it, and right now, growth especially coming out of Asia is falling dramatically. China, Singapore, Korea, Japan all reporting negative trade growth over the past quarter.

So I’m not saying that China won’t devalue it’s currency, a month ago I actually wrote an article comparing 2016 Yuan to US housing in 2008, but it’s important to realize that it is not the only possibility and there are perhaps less risky ways to make a smaller but strong return off asset classes that benefit from the same trends affecting China and the rest of the world.

Once again, I’ll bring up that the Chinese economy is incredibly fragile but there are still active participants doing everything they can to prop up the status quo, which makes it harder to predict as opposed to the Fed, ECB, and BoJ who are almost standing idly by as their respective economies burn to the ground. Remember, as long as the central bankers are involved, the global economy remains a confidence game, and the current capital flight certainly doesn’t bode well for the Chinese people’s confidence in the PBOC and CCP’s ability to manage it.



2016: Major Turning Point


Mainstream thought suffers from the illogical belief that humanity has some how tamed economic cycles. The ancient Greeks had a word for this belief that humans are masters of their own fate – hubris.

This isn’t the first time the mainstream has fallen victim to this belief and it won’t be the last. Like all things, mainstream thought is affected by the very cycles it refuses to acknowledge.

The congressional budget office, is currently predicting +1.5% annual GDP growth for the next 4 years and +2.0% annual GDP growth for the following six years. In essence, the CBO thinks the US will go the next 10 years without hitting a recession. That 10 year stretch would be the longest in history without a recession, throw in the current 7 year run, and you get a ridiculous prediction of 17 years without a US recession!  This kind of thinking isn’t just stupid, it’s dangerous.

The same mainstream group think that has failed to understand the rise of Trump and Sanders will be unprepared for what comes next. It doesn’t matter whether you agree with their platforms or not but that you understand why their platforms are gaining popularity.

Back in 2014,  I detailed how the world’s poor leadership would only increase the desperation of the global population which would then lead to the election of radical leaders. This is based on the simple but logical belief that an unhappy and desperate population would be willing to do almost anything to change the status quo.

If you open your eyes you can see these tectonic shifts happening all around you. But in order to do so, you have to question everything, and come to the conclusions on your own.

For example, for the first time in decades college students in America prefer socialism to “capitalism”.  Ironically, the same people that don’t trust the current system still fall victim to its beliefs. The truth is, young college students don’t hate capitalism, they hate the current system, which mainstream thought tells them is capitalism. And this is exactly why these young college students come out in droves for Bernie Sanders for he is promising them a new system, and they “hope” that it will be better than their current one.

The same argument can be made for Trump’s supporters and the tea party before them. The common man on both sides of the aisle is greatly displeased with the way things are run and wants radical change, at any cost, almost irregardless of the platform they are voting for.

So here we find ourselves, one giant interconnected society unaware that we are on the verge a major turning point. The ground beneath our feet has turned, and the permanently high plateau of constant growth is quickly eroding. Unfortunately people continue to underestimate the speed at which plateaus change into cliffs.

Arguments can be made that a previous year was a turning point in this post crisis era, but in 2016 I believe the linear mainstream thought will crash head first into the reality of cycles.

And so far that’s exactly what has happened. The cracks in the world economies can no longer be ignored or kicked down the road by any one central bank.

The immediate response to this situation has been a one of rejection and denial. Obama would qualify this article as a work of pure fiction. Central banks have fought and clawed and screamed at the top of their lungs that the recent market moves are pure madness.

And this sort of behavior is to be expected. I remember when I was a young boy and discovered Hogwarts wasn’t real. That was a tough time, indeed. I had long dreamed of being chosen to play quidditch for Hufflepuff, duel against dark witches and wizards, and even chase Dragons.

But whether it is a life or an idea, death is difficult for the mind to reconcile. So in some ways I empathize with the current mainstream thought, but at the same time admit that unicorns and something out of nothing alchemy remain firmly trapped in the fictional worlds of Harry Potter.


Panic Has Entered a Bull market


Panic has entered a bull market, and in a bull market, you want to buy early and reap the rewards. It is no longer good enough to be standing near the exits. It’s time to get out of the theater. Go outside and sell people some safety. The show is over…

And central bankers know it.

The market is under this false narrative that the market is not tight enough to force Yellen to ease. Read the excerpt from her statement yesterday and tell me she doesn’t believe financial conditions warrant further easing.

As is always the case, the economic outlook is uncertain. Foreign economic developments, in particular, pose risks to U.S. economic growth. Most notably, although recent economic indicators do not suggest a sharp slowdown in Chinese growth, declines in the foreign exchange value of the renminbi have intensified uncertainty about China’s exchange rate policy and the prospects for its economy. This uncertainty led to increased volatility in global financial markets and, against the background of persistent weakness abroad, exacerbated concerns about the outlook for global growth. These growth concerns, along with strong supply conditions and high inventories, contributed to the recent fall in the prices of oil and other commodities. In turn,low commodity prices could trigger financial stresses in commodity-exporting economies, particularly in vulnerable emerging market economies, and for commodity-producing firms in many countries. Should any of these downside risks materialize, foreign activity and demand for U.S. exports could weaken and financial market conditions could tighten further.” ~ Janet Yellen

As head of the Federal Reserve, Janet Yellen has immense and diverse powers that most people aren’t factoring into their interpretations of her speeches. If Yellen were to tell the Chinese that their banking system is insolvent and their economy is going to collapse, what do you think would happen?  There would be a bank run, China’s economy would collapse, and the CCP would blame the US and declare Yellen’s speech an act of economic warfare.

The truth doesn’t just hurt, it brings the world’s second largest economy to its knees. And it could do that to almost any other major economy as well. So if you were expecting Yellen to spell out in plain English that the world economy is on the verge of a depression, then I’d take the top out of your pocket and watch it spin for eternity. Come back to reality where what should happen and what actually happens are two very different things. Yellen speaks in what is commonly known as Fed speak. And in Fed speak, Yellen is telling you that she knows the world is in serious trouble.

To make matters worse, she knows they are out of ammo. So what is the Fed doing? They are out making bullets for the next battle.

Unfortunately, the Fed is learning hard way that you can’t make something for nothing. Those bullets have a cost. Each rate hike sucks the global economy of dollar liquidity that it is so desperately hooked on. In essence, Janet Yellen is destabilizing the global economy so that the Fed has more tools to help the US. If that doesn’t tell you every central banker for him or herself, than I don’t know what does.

If the Fed could ease they would, but a 25 basis point cut will not help the economy and only signal to the world that the Fed doesn’t know what it’s doing. Now I’m not saying they won’t cut, but I am saying that any rate cut won’t have the same effect that the market hopes it will.

Even a negative interest rate cut would have profound implications that I don’t think people are taking into account. We’ve seen what gold does in a falling rate and dollar environment. If the Fed goes NIRP, gold will shoot through the roof and the Fed will lose credibility that way. So if the Fed does cut, the market may be happy at first, but that elation will turn to panic when the market realizes the implications of the Fed reversing course.

That leaves QE, which to me isn’t an option in an election year. The Fed knows that QE has very little effectiveness but even less without increased fiscal spending in tandem. In an election year, in the final year of his reign, the odds of Obama passing a huge fiscal spending bill are slim to none. So the Fed if they choose to launch QE will have to be without the aid of fiscal policy, knowing full well that QE4 will not be effective. Which leads me to believe that they will not openly launch QE4 this year in the absence of a serious stock market crash >35% and a US recession.

The Fed isn’t the only one under the gun, for now I’ll just talk about the BoJ, who have proved quite inept and keeping their carry traders alive. The BoJ cut rates to negative and the Yen strengthened over 7% in 7 trading days. USDJPY at the time of this article is trading with 111 handle. The carry traders are getting killed right now, and this trade will only get worse as it unwinds. The BoJ may be forced to print Yen and sell them on the spot market to devalue the currency and delay the inevitable.

I doubt the BoJ will be going any further negative especially considering the negative rate cut was a vote that was barely passed at 5-4. Once again though, I could be wrong, but even if I am, I think at this stage, any further rate cuts only further destabilize the Japanese banks and its economy.

If you hadn’t noticed yet, central banks are impotent, and the market is very slowly discovering that fact. When the market does, all hell will break lose. Take advantage of its blindness.


Would You Like to Know More: Yellen forced to make her own bullets

It seems like forever ago, when central bankers were at the height of their powers. Back when Draghi could save the EU from the depths of destruction with a single phrase and Kuroda could devalue the Yen at will. But alas, those days are over.

The truth is, since 2011, the primary force in the world has been deflation not inflation. The central banks of the world were fighting not just a losing battle but a losing war of attrition. In essence, they were doomed to fail, and now that the BoJ and the ECB are out of ammo, the deflationary forces will crash their respective economies.

To make matters worse, people actually believed the BoJ and the ECB would actually win. Which is why there are such large short positions in the Euro and Yen. But now these short positions are blowing up as the currencies rally on top of a crashing economy.

Over the coming months the word “contained” will be thrown around a lot. Despite what central bankers would have you believe, nothing is contained. The markets are all connected and levered up more times than anyone can possibly conceive. Never in history have our markets been so interconnected and at the same time so fragile.

It’s why a sell off in US equities can lead to a fall in the dollar, a rise in the yen and a drop in the Nikkei, which leads to further a rise in the Yen and another drop in US equities. There are deadly feedback loops in place to guarantee the shock waves are NOT contained.


I’m not saying the game is over just yet, but we are moving to the final stage. Draghi and Kuroda are not likely to go down without a fight. Which means, more NIRP and maybe threats of more QE, but the world doesn’t need Yen or Euros. It needs dollars. Any of the BoJ’s or ECB’s attempts to stabilize their economies without the Fed’s help is a moot point.

Which brings me to Janet Yellen. Before the Fed’s last meeting in January, I discussed the market’s dire need for more dollar liquidity (QE4), but the Fed didn’t listen. They kept their hawkish bias and betrayed their ignorance all at once.

For whatever reason, the Fed wants to keep tightening. Now I will bring up the fact that a strong dollar is good for  Europe and Japan, our two allies, and bad for China, our enemy.

Maybe it’s not that simple, but I think Yellen is missing the point that, as bad as the ECB and the BoJ need a stronger dollar, the rest of the world needs a much weaker dollar. In order to accomplish that, we’d need to see massive additional easing programs from the BoJ, ECB, and Fed simultaneously. That way, the EURO and YEN still fall or maintain their current position against the dollar at the same time the global markets are flooded with cheap dollars to artificially inflate demand.

I don’t know if that’s going to happen. I don’t think Yellen and the Fed truly understand the magnitude of the situation. And even if they wanted to launch QE4, the US government is in no shape to run a massive deficit in Obama’s last term. Politically that is a very ugly situation, which leads me to believe, barring a 50% draw down in the US stock market and or a systemic global banking system collapse we won’t see QE4 till 2017.

Which means the Fed is left with negative rates. But as some people have pointed out, negative rates may not be possible, with the addition of the reverse repo facility and the Fed’s own laws. Perhaps the Fed is aware of how little ammunition they have left and that is exactly why they are hiking.

Which leaves the Fed pretty empty on ammo for the rest of the year as well. The only way they get more ammo is to make it themselves via rate hikes. With the Euro and the Yen much stronger the Fed has the leeway to continue with its hiking cycle and build itself some more ammunition. Thus the market may get a rather rude surprise tomorrow when Yellen comes out on the hawkish side.


The Market Discovers Gravity


Just like the Wiley Coyote, the equity markets have behaved by the same rule. Since the great financial crisis of 08, the equity markets have done everything they could but look down. They flapped their wings. Swam their arms back and forth. They even took on debt to buy back their own shares! And everyone was so calm about it too.

The record low volatility, which the most hated bull market in history road on the back of to record highs, is now over. We are left with low conviction passive investors in an increasingly more volatile liquidity draining environment. What I mean is that, the same people who didn’t believe in the bull market on the way up during INCREDIBLY PLEASANT CONDITIONS will not suddenly find their faith now that the markets are being ripped to pieces by global economic forces.

Now it’s time for gravity to do it’s job. It won’t be pleasant, but that’s the situation we made for ourselves. There will be a lot of panic and as such oversold conditions will now last much longer than they did in the up cycle.

Selling begets selling. Especially now that the incredibly overvalued blue chip stocks have turned over. There’s almost nowhere left to hide. Except treasuries and gold.

The gold rally so far this year has been quite substantial. Further improved by the dollar’s drop over the past week. I believe a lot of this downward pressure on the dollar is due to the Yen and Euro carry trades. What is most interesting, is how quickly the Yen reversed course after the BoJ introduced negative rates.

I counter-intuitively predicted the Yen would actually rally as a result of this easing, in my article the very day the BoJ eased but the speed of this turn around has surprised even myself, which speaks volumes about how levered these carry traders are.

Now that the Yen is appreciating so rapidly, and given how limited the BoJ’s toolkit is, I find it very hard to believe that the Yen will depreciate in a meaningful way in the next few months. The stronger Yen should destroy Japan’s economy and send it into deflation. Only after the Yen kills the economy, do I expect it to reverse course and depreciate in the way Kyle Bass first imagined it would back in 2010.

Europe is in a very similar situation and now is reeling from the sudden realization that it never fixed it’s banks. Once again, I will remind you that both of these countries are involved in QE, and yet their currencies are rallying and their economies are dying. The ECB and the BoJ have reached their limits and now their economies will finally reap the whirlwind.

In case you hadn’t noticed, I am incredibly bearish on developed market equities. The banking sectors in some of these countries look particularly weak. I highly doubt that Europe’s banking problems will be contained just to Europe. Now that Japan has entered the negative interest twilight zone, their banking sector should also get walloped. Australia’s  and Canada’s banking sectors are on life support, barely being kept alive via Chinese hot money flows, but even that might be losing its effectiveness soon.

US banks will get sold off despite the US economy’s actual health and also make for a good short. From a relative stand point, I think Canadian banks offer the greatest downside.

I reiterate my love for long term US bonds. No way are we anywhere near the bottom in yields. I continue to think we will hit record lows on the 10 year bond later this year.

Gold is a strong buy, but I caution that gold’s current rally may not last. The dollar will turn much higher as the $9 trillion carry trade unwinds and that will have quite negative consequences for gold. I think it’s safe to say gold will be much higher over the next few years than it is today, so on a long term perspective gold is a great buy but in the short term, gold’s rally could prove temporary.


Oil Ramblings: US Nat Gas Setting Up For A Rebound

US shale and oil producers shocked OPEC with their tenacity, ingenuity and toughness through all of 2015. Everyone, myself included, thought a lot of these guys would fold in the first half of 2015. That wasn’t the case. Lower production costs, and effective hedges kept them above water. But no longer. Their hedges are rolling over at the worst possible time. Credit spreads are widening to heights not seen since the depths of the crisis. Oil has fallen way below 2015 levels which were once thought intolerable to these high cost producers. BP and Exxonmobil reported profit reductions of 90% and 50% respectively. If the majors are hurting, the small fish must be frying in a pan of bacon grease.

Make no mistake, this will only get worse before it gets better. As I have stated many times over, US shale companies have to die, for oil to actually bottom. With no more hedges to save them from the blistering low oil price, US shale companies will drop like flies. This will weigh HEAVILY on the corporate bond sector whose yields have been rising like it’s 2008.

Since the crisis, corporations have added record amounts of debt onto their balance sheets, and I fully expect the widening spreads to crush future growth expectations. Once again, ignoring the probability of a US recession or any global macro factors, widening US corporate spreads + record high debt loads at the very least spell a bear market in US equities. I am not touching these stocks with a barge pole.

However, there is a silver lining here. US shale wells are notorious for their depletion rates. Combined with a drastic reduction in capex, I fully expect a sharp drop off in shale oil and gas production over the next 6month-1year. In particular, US natural gas looks like a very interesting play as it has peaked quite significantly last year.


Demand for natural gas in the US has steadily risen over the past decade as we have tried to move away from higher polluting fossil fuels such as coal. As such we are looking at quite an epic short squeeze over the next few months as shale gas producers die off and their existing wells run dry.

The warm winter isn’t doing shale gas producers any favor, which is suppressing seasonal demand and weighing down on the price of nat gas. Also I think tying down my capital in a commodity before China further devalues the Yuan is a risky proposition. In my mind, it’s better to wait a bit until March or even April before I think about initiating a position in US natural gas.


Ramblings- 2/1/2016

A lot of interesting data came out today, most of which confirms the obvious, global growth is slowing.

The Atlanta Fed is predicting Q1 GDP growth at 1.2% yoy. Which of course is following a blistering 0.7% growth in 2015 Q4. The US continues to slow.

ISM manufacturing remained in recessionary territory at 48.2
PMI refused to roll over and slightly bounced up to 52.4

Unsurprisingly “hopes” for an oil production cut have faded. OPEC nations can’t agree to cuts, let alone get non-OPEC nations to cut with them. Oil should continue its trend lower and I wouldn’t be surprised if in the next few weeks we hit a new low. Remember, oil at these prices is deadly for producers all over the world.

Even if we don’t hit new lows, oil certainly won’t be rising any time soon in the absence of significant production cuts. Lower for longer is the mantra of this trend, and I’ve been saying it since January 2015. On shore supplies continue to rise. China meanwhile continues to frontload it’s demand purchasing as much oil as it can. However, this will only suppress prices longer, as this it will take longer to work through this excess supply in a slowing economy.

Speaking of China, the PBoC injected $220B to prop up the currency and stock market in the month of January. This is higher than expected but attributable to the Chinese New Year. However, it certainly seems that capital flight in the Middle Kingdom is accelerating. Members of the G20 will meet in Shanghai at the end of February. Perhaps the Chinese will keep the peg stable till then where they will “seek” permission to devalue/float.

China is well on its way to becoming a significant player in geopolitics but a large Yuan devaluation would send shockwaves throughout the financial markets causing massive damage in the fragile economies of the G20. This would obviously be a huge step back for them, which is partly why I believe, the theme for China at Davos was “communication”. China needs to communicate to the developed world what they are going to do so that we can all be better prepared for when they weaken the Yuan.

I am of the belief that they will use the G20 meeting later this month to communicate their need for a weaker currency. So in the case, that we do make it to the meeting without a significant devaluation in the Yuan, I’d be willing to bet that in March the chances of a Yuan devaluation shoot through roof. But don’t take my word for it. Kyle Bass has put his money where his mouth is and invested 85% of his fund into short Yuan and short HKD plays.

The themes of the day are deflation, slow growth, global recession. These trends aren’t going to magically reverse. Central banks cannot wave a magic wand and make this go away. Right now, the only Central Bank with any real power left is the Fed. The world runs on dollars and without more Fed QE, the global economy will shrivel up and die.