First Impressions

If there is one theme that keeps popping up in the morning commentary here, it would be that of “unintended consequences.” Today we again feature such a consequence – the trend among mega-banks to place more assets on reserve at the Fed rather than into the general economy via lending. This is a particularly unsettling trend that could have serious repercussions down the road.

The reasons are many, and include regulatory, default and other risks to lenders. It seems the Fed’s entry into the treasury and MBS markets have so altered price discovery that banks feel they cannot justify certain lending activities at current market rates.

Rather than spoil the punch line, I will instead encourage all readers to open the top story. The bottom line, though, is that the current strategy is not working.

Quote of the Day

“Expect to see some large cheques written. It’s going to be difficult to prosecute individuals. The law enforcement would have to rely on racketeering and other charges.”

Javier Paz, Aite Group FX analyst, in the Euromeney story “FX industry reels from regulatory earthquake.”

Lead Stories

How bank reserves make the gap between deposits and loans disappear
Sober Look
Earlier this week, CNN Money ran a story on JPMorgan’s quarterly results. Instead of focusing on the earnings, the author (Stephen Gandel) discussed the fact that JPMorgan’s loan-to-deposit ratio (LTD) hit a new low.
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***DA: Loaning out money is just not worth the hassles – regulation, risk, a dearth of stable borrowers – so let’s just take the 25 free basis points from the Fed.

Offshore Yuan-Bond Sales Off to a Galloping Start
Fiona Law – MoneyBeat – WSJ
The Year of the Horse only starts next week, but already, offshore yuan-bond issuance has galloped to the fastest pace ever and it shows no signs of stopping.
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***DA: And why not? The 3-year is yielding 4.25 percent and the 5-year at 5 percent. Risky, to be sure, but there are worse deals out there (thinking junk bonds here) that yield a fraction of the dim sums.

China’s Central Bank Providing Short-Term Cash to Lenders
WSJ.com
China’s central bank said it has offered funds to the nation’s large lenders on Monday in a bid to satisfy soaring cash demand ahead of the Lunar New Year holiday, showing an unusually accommodative stance that aims to prevent a nervous money market from suffering yet another severe liquidity crisis.
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***DA: These days, any central bank that takes an accommodating stance can be called “unusual.”

Investors Most Upbeat in 5 Years With 59% Bullish in Poll
Simon Kennedy – Bloomberg
International investors are the most upbeat about the global economy than at any time in almost five years, buoyed by the U.S.-led revival of industrial nations, according to the Bloomberg Global Poll.
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Irish Bonds: Another Reason To Be Cheerful
Neelabh Chaturvedi – MoneyBeat – WSJ
Irish bonds, once unloved by financial markets, have been on a tear recently. Moody’s Investors Service has given the market another reason to be cheerful.
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***DA: Return of the Celtic Tiger?

New credit raters struggle to break stranglehold of ‘big three’
Reuters
For all the outrage over the role of the big three credit-rating firms in the financial crisis, they show no sign of losing their grip on the highly profitable industry. That has not stopped new contenders joining the 50 or so lesser-known rating firms that have long been trying to grab a bigger slice of the business.
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***DA: Add NRSROs to the list of financial firms that kept their status quo after dropping the ball during the crisis.

Raymond James Adviser Learns Ropes About Higher Rates From Old Hand
Corrie Driebusch – WSJ.com
When Rachel McNeil, a financial adviser with Raymond James Financial Inc., wants to learn from the past, she turns to “the Old Man and the Sea.” Not the Ernest Hemingway classic novel, but Joe Blanton, a 70-year-old colleague who has jokingly adopted the novel’s title as his moniker. Many advisers have been through at least one big stock-market swoon. But many haven’t been practicing long enough to live through a sustained period of rising interest rates.
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***DA: It’s different this time. Right? Right?

EBRD Sees Continued Obstacles to Eastern Europe Recovery
WSJ.com
Economic growth will continue to pick up in countries with close links to the euro zone as the currency area starts to emerge from its long-running crisis, but will be hindered by capital outflows and a reduction in lending by foreign banks, the European Bank for Reconstruction and Development said Tuesday.
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‘Emerging Markets? Never Heard of ‘Em’ and Other Nuggets from BAML Poll
Ben Edwards – MoneyBeat – WSJ
Bank of America Merrill Lynch’s monthly Global Fund Manager Survey has once again tested the mood of the markets. The global survey and its regional versions, seen by The Wall Street Journal, this month captures the views of 234 investors managing a total of $653 billion.
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Europe’s Morning MoneyBeat: China’s Money Injection to Boost Stocks
Peter Nurse – MoneyBeat – WSJ
European markets are likely to get a boost Tuesday from the positive tone seen in Asia, despite the U.S. holiday depriving investors of guidance, after the People’s Bank of China injected money into the financial system.
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***DA: Money injections always seem to find their way to the stock market.

Fed action need not stymie credit strategies
Luke Clancy – Risk.net
For the first time in the past few decades, credit investors have to contend with duration risk in their portfolio. Default risk has historically been perceived as the primary risk of investing in the debt of leveraged companies, with duration risk being viewed as largely negligible. Given the recent announcement by the US Federal Reserve about the impending reduction of bond purchases in 2014, many market participants are now asking if credit strategies still have legs in a rising rate environment?
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***DA: As anyone who plays the ponies will tell you, when the fix is in, it does not mean you shouldn’t bet; it means you should bet the way of the fix.

Fed on Track for Next Cut in Bond Buys
WSJ.com
The Federal Reserve is on track to trim its bond-buying program for the second time in six weeks as a lackluster December jobs report failed to diminish the central bank’s expectations for solid U.S. economic growth this year, according to interviews with officials and their public comments.
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***DA: But keep an eye on mortgage applications. If the Fed is not buying MBS, and yields rise to meet the market price, the housing recovery will stall.

Interest Rate Futures, the new game changer in town
The Economic Times
Punters in India’s financial markets will soon have a new toy to play with. Beginning this week, day traders, banks, well-heeled investors sitting on a pile of bonds, as well as foreign portfolio managers can bet on the direction of interest rates. All this will happen on the stock exchange where the new product will be launched.
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Central Banks

Turkey keeps key interest rate at 7.75% in spite of falling lira
Daniel Dombey in Istanbul – FT.com
Turkey’s central bank has left key interest rates on hold sending the lira to a fresh record low.
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***DA: The Volcker strategy works best when mixed with a politically stable government. Just ask a Turk or Argentine.

Turkey’s Central Bank: What’s Next? A Roundup of Views
Clare Connaghan and Yeliz Candemir – MoneyBeat – WSJ
Turkey’s central bank is, as analysts at Barclays put it, stuck between a rock and a hard place. As it prepares to release its monetary policy decision Tuesday, it has to contend with a crashing currency, [easy fix: higher interest rates] and political pressure to keep rates where they are—a view reinforced by economy minister Nihat Zeybekci Monday.
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China Money Rate Drops as PBOC Cash Injections Spur Stock
Bloomberg
China’s benchmark money-market rate fell while stocks rebounded as the central bank added more than 255 billion yuan ($42 billion) to the financial system and expanded a loan facility to meet Lunar New Year demand for cash.
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European Central Bank: Decline In The Number Of Monetary Financial Institutions Continued In 2013
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Central bank panel to review banks’ governance practices
Business Standard
To increase transparency and efficiency in banks, the Reserve Bank of India (RBI) on Monday constituted an eight-member committee, headed by former Axis Bank chairman P J Nayak, to review governance practices in bank boards. The committee will submit a report within three months of its first meeting.
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Reserve Bank rejigs deputy governor portfolios
Business Standard
With the government yet to approve deputy governor Anand Sinha’s successor, Reserve Bank of India governor Raghuram Rajan distributed the former’s portfolios among the other three deputy governors on Monday.
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Currencies

FX industry reels from regulatory earthquake
Rob Daly – Euromoney magazine
The spot FX market is a different beast than the credit markets, but industry experts already see the likely outcome of the investigation by the UK’s Financial Conduct Authority (FCA) and the numerous US regulatory and law-enforcement agencies.
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Chile comes under peso pressure
Jamie Chisholm – FT.com
Renewed talk of further Federal Reserve tapering at this month’s policy meeting gave another lift to the buck on Tuesday.
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Turkish lira tumbles to series of record lows
FT.com
Turkey’s central bank is under fire. For months, it has struggled to contain the fallout of the US Federal Reserve’s plan to withdraw its stimulus. Since December, it has also had to contend with political turmoil, as a corruption probe pits the country’s government against its institutions – wreaking havoc on markets.
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Bitcoin Judged Commodity in Finland After Failing Money Test
Bloomberg
Bitcoin doesn’t meet the definition of a currency or even an electronic payment form in Finland, where the central bank has instead decided to categorize the software as a commodity.
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Indexes & Index Products

Comment: It’s the ETF marketplace that is not yet fit for purpose
Mark Hemsley – FT.com
In the global hunt for return, you would be forgiven for thinking that investors around the world would be united in their appetite for low-cost, transparent solutions that generate income, particularly if they could pay lower management fees. But a cursory glance at the global exchange traded funds market suggests that this is not the case.
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Warburg Pincus Shuns Debt Amid Chase for ETF Growth
Dan Dunkley – MoneyBeat – WSJ
U.S. private equity firm Warburg Pincus used no debt for its acquisition of a majority stake in European asset manager and exchange traded funds-provider Source. It bought the company from a group of investment banks in deal valuing the ETF provider at $300 million.
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Indexing: “the worst way to invest, except for all the others”
Aaron Task | Daily Ticker
Investing in index funds vs. individual securities is the best bet for individual investors, according to academic studies and nearly all responsible market pundits. And yet, our recent discussion on the subject touched a nerve with viewers.
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Dealers reassess Korea ELS market as equity risk builds up
Risk.net
Dealers’ stockpile of long vega in the Korean equity-linked securities (ELS) market is causing a pullback on some underlyings and leading to a diversification into the Euro Stoxx 50 and S&P indexes.
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Gold

RBI caps banks’ gold loan- to-value ratio at 75%
Business Standard
The Reserve Bank of India on Monday barred banks from offering gold loans worth more than 75 per cent of the value of gold jewellery and ornaments. It is felt the move is aimed at ensuring a level playing field between banks and non-banking financial companies (NBFCs) offering such loans.
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