WATCH YOUR STARTING ASSUMPTIONS

We have argued for sometime now that one of the more common human frailties is being able to see and perhaps even understand immediate implications but not longer term ones. It's like a spillover effect that actually happens. Call it macro or micro or whatever you want.

This deficit could be owing to many things like confirmation bias or just plain old linear thinking. But that 's for another time. Sinking oil prices the last couple years, to many, was expected to stay confined to that sector. Some research, however, shows that's not always true.

davidstockmanscontracorner.com/its-not-different-this-time-junk-defaults-spreading-beyond-energy

As noted below, apparel is a case in point. Most of us know about some of the larger retailers like Macy's and it plan to dump a bunch of jobs owing to  poor sales and depressed earnings. But there is no such thing as a complete vacuum.

“Default cycles of the past have never been about a single sector, or small group of sectors,” Oleg Melentyev and Daniel Sorid, Deutsche credit strategiests, said in the note. “Yes, cycles were always driven by concentrated distress but they always found their way to affect other areas of the market.”

The strategists highlight recent pressure in the retail sector, including the travails of Quicksilver Inc., American Apparel LLC, and Aeropostale Inc., as evidence that defaults have already taken place outside of the commodities realm.

While pervasively low interest rates around the world offer some hope to the exceptionalists, by potentially helping to ease corporate funding pressures and allowing companies to refinance their debt. The European Central Bank’s planned corporate debt-buying program has helped boost already hefty demand for corporate paper.

Still, Deutsche reckons that this time the debt cycle isn’t that different.

“A frequent argument is being made here how all problems are going to stay limited to commodity sector,” the analysts concluded. “Evidence like this, coupled with emerging credit pressures in retail and capital goods sectors, suggest a contained cycle to be a weak starting assumption.”

Source: Defaults Have Already Spread Outside Commodities – Bloomberg

UPCOMING FED RATE HIKES

To some it's a done deal, the Fed hiking rates 25 basis points next month, most likely at their June 14-15 meetings.

After all, they have their troops out much of this week, spreading the gospel, ending with two heavy hitters on Friday, Chairwoman Janet Yellen and former Chairman Ben Bernanke. So what do investors think will be the ramifications of that hike and perhaps a follow-up hike in July.

Well, here's one opinion, "a rise in the prices of investment-grade bonds and a decline in the prices of riskier assets," from Paul Kasriel of The Econtrarian, coupled with a late summer, early fall stall in the economy.
advisorperspectives.com/commentaries/20160524-the-econtrarian-a-june-fed-funds-rate-hike-risks-a-september-economic-stall

A June Fed Funds Rate Hike Risks a September Economic Stall

Recent economic data, e.g., retail sales, housing starts and industrial production, suggest that the U.S. economy has awoken from its winter slumber. In addition, growth in consumer prices has accelerated of late (see Chart 1). The consensus of the Federal Open Market Committee (FOMC) is that the federal funds rate will be hiked twice by 25 basis points each time in 2016. Time’s a wastin’. The behavior of short-term interest rates indicates that investors have been skeptical that the Fed will pull the fed-funds trigger at its June 14-15 FOMC meeting. But about a month ago, comments by Boston Fed President Eric Rosengren, no Johnny-One-Note policy hawk like Richmond Fed President Jeffrey Lacker, were interpreted to imply that financial-market participants were underestimating how soon the Fed might hike the federal funds interest rate.

Chart 1

Despite the recent acceleration in the pace of U.S. economic activity, I believe that the Fed runs the risk of causing the pace of U.S. economic activity to stall out in the late-summer or early-fall of 2016 if it raises the federal funds rate at its June 14-15 FOMC meeting. The reason I believe an economic stall would occur is, you guessed it, because of the negative effect a fed funds rate hike would have on growth in thin-air credit (the sum of the monetary base and depository institution credit).

Allow me to elaborate. The federal funds interest rate is the price of overnight credit in immediately-available funds, or reserves, created by the Fed. This price, like any price, is determined by supply and demand. The demand for reserves is determined by the amount of reserves depository institutions (primarily commercial banks) are required to hold in relation to their deposits. Depository institutions also have a demand for reserves in excess of what they are required to hold. Now that the Fed pays interest on reserves held by depository institutions, this excess demand for reserves is much higher than was the case when no interest was paid by the Fed on reserves. The supply of reserves is determined by the Fed. For example, if the Fed sells securities in the open market, the supply of reserves will decrease, all else the same. If the Fed wants the federal funds rate to rise, it needs toreduce the supply of reserves relative to the demand for reserves. When the Fed raisedthe federal funds rate in late December of 2015, the monetary base – the sum of reserves and currency in circulation – declined (see Chart 2). And, although the level of the monetary base rose subsequent to its dip coincident to the increase in the fed funds rate, the level of the monetary base has not returned to its level prior to the increase in the fed funds rate.

Chart 2

Now, let’s look at the recent behavior of a variant of thin-air credit, i.e., the sum of the monetary base and commercial bank credit. Chart 3 shows the annualized growth in this variant of thin-air credit on a three-month basis. In the three months ended October 2015, thin-air credit had grown at an annual rate of 6.7%, close to its long-run median annualized growth rate of about 7%. By the three months ended January 2016, annualized growth in thin-air credit had slowed to just 1.1%. In the three months ended April 2016, annualized growth in thin-air credit had recovered to 3.8%. But that was still well below its long-run median annualized growth of 7%.

Chart 3

Now let’s reproduce the data in Chart 3, the three-month annualized growth in thin-air credit, but also show the three-month annualized growth in its components, commercial bank credit and the monetary base. This is shown in Chart 4. We can see that in March and April 2016, the three-month annualized rate of growth in commercial bank credit has moderated (6.0% in the three-months ended April 2016). Although the monetary base still is contracting, its rate of contraction has become less, only minus 2.5% annualized in the three months ended April 2016. If the Fed raises the federal funds rate in June, the contraction in the monetary base will likely become more severe, as it did after the December 2015 hike in the federal funds rate. Unless growth in commercial bank credit surges for some reason, a June increase in the federal funds rate implies further slowing in the growth to total thin-air credit from an already slow rate of growth. In turn, this would imply future slowing in the pace of nominal economic activity from a none-to-robust current pace.

Chart 4

OVERNIGHT

We said this was the week of the Fed and it started Monday with St. Louis Fed President James Bullard telling investors that their increasing expectations of a rate hike were "probably good," and warned a "relatively tight U.S. labor market might put upward pressure on inflation," Reuters reported.

In what could be described as a good cop-bad cop role, San Francisco President John Williams noted:
"Over the rest of the year two or maybe three rate increases, maybe one or two more (than that) next year so maybe three or four next year - I think that's still about right."

Of course what these spokespeople are doing is preparing investors for the hikes to avoid a mini-meltdown like what occurred the last time. It will be interesting to see if it works. Meanwhile, it was a downward mood for most Asian markets. CNBC reported.

Asian markets traded broadly lower on Tuesday, led by declines in Japan and China, as investors await further cues from the U.S. Federal Reserve ahead of its monetary policy meeting in June.

The Nikkei 225 was down 0.69 percent amid pressure from fresh strength in the yen against the dollar. Across the Korean Strait, theKospi was off by 0.58 percent. In Hong Kong, the Hang Seng index was down 0.16 percent. Chinese mainland markets fell, with the Shanghai composite down 0.86 percent, while the Shenzhen composite was off by 1.05 percent.

Australia's S&P/ASX 200 dropped 0.13 percent, weighed by a 0.66 percent decline in the energy sub-index. The dollar rebounded against the yen after Monday suffering nearly 1% losses trading in the 109.40 range off from its previous low of 109.12. Last Friday it changed hands at a three-week high of 110.59. It appeared as if investor blew off the Fed's hawkish warnings as investors pushed the yen up in what some called risk aversion trades.

ECONOMETRIC ASTROLOGY

How do you recognize bad advice? Well, here's an example from Dr. Michael Ivanovitch, an economist and former academic talking head who now runs a private consulting firm and consults for CNBC.

China's much in the news lately, the second largest economy casting a giant global economic shadow. Discussing China and it's economic woes in a recent piece, "Why you should take a broader view of  China's economy," the former OECD economist writes:

I know that there will be people screaming that the Chinese numbers are fabrications. I would stay out of that, and so should you, as long as these numbers have the imprimatur of official international organizations which examine the Chinese economy.

Most likely the last thing you want to rely on to get any semblance of an accurate economic picture of any nation--let alone one as large as China--is these huge bureaucratic international miasmas passed off as official international organizations larded with layers of econometric-trained, myopic economists.

Trusting numbers that have their imprimatur is much like astrology: guaranteed to give you mostly wrong answers.

THE WEEK AHEAD

You could call it the week ahead, but it really has the look of a Fed week as some of the big guns, past and present, speak. This should tell you something. No doubt some will offer these speaking engagements, like sporting events, were booked in advance.

Maybe and maybe not? One interpretation is they are panicking because they know they're behind the curve. It also raises the question about a deal being cut to bailout certain economies. One must recall these are bureaucrats no more immune from irrational acts than anyone else.

The upcoming week.www.marketwatch.com/story/fed-speakers-data-to-take-over-as-earnings-slow-to-trickle-2016-05-21

With earnings season all but over, investors will turn their full attention to economic data and how Fed members are parsing that data in their decision to raise rates. On the heels of Fed minutes that raised the possibility of a June rate hike, the raft of Fed speakers this week will have particular influence on markets, said John Canally, chief economic strategist for LPL Financial, in an interview.

“They’re all going to be pushing for a hike, and we might get more hawkish talk,” Canally said.
On Monday, nonvoting San Francisco Fed President John Williams will speak about monetary policy in New York, and St. Louis Fed President James Bullard, a hawkish-leaning voting member, will deliver a speech in Beijing. Philadelphia Fed President Patrick Harker, a hawkish-leaning but nonvoting member, is also scheduled to speak on Monday and Wednesday.

On Wednesday, nonvoting members Minneapolis Fed President Neel Kashkari and Dallas Fed President Robert Kaplan also are scheduled to speak. Bullard speaks again on Thursday in Singapore, and Fed Gov. Jerome Powell is set to speak about the economy in Washington, D.C., on Thursday. Then, on Friday, Fed Chairwoman Janet Yellen is scheduled to appear at Harvard University on Friday, along with former chairman Ben Bernanke.

As far as what data will be of interest, Canally said he’ll be looking at Markit purchasing manager’s index data for May on Monday for signs that the manufacturing sector is stabilizing. In that vein, Thursday is also a big data day with the April durable goods report.
Canally, however, doesn’t see a June hike as likely because Britain’s national referendum on whether to leave the European Union, or the so-called Brexit, won’t come until June 23, a week after the Fed’s next scheduled policy meeting.

OVERNIGHT

UPDATE: Euro zone May flash composite PMI falls to 52.9 versus 53.0 in April (Reuters poll was for 53.2)

CNBC.com staff | @CNBC

Below are four quotes from stories on Reuters about Japan overnight. It should give you a decent idea about how a couple of the globe's largest economies are doing, China and Japan but also some emerging market ones.

The yen went up as Japanese stocks went down. The Nikkei was down 1.1% in early trading before recovering a bit as concern about a future tax hike might still be on the table after some investors believed otherwise given the weak economic numbers.The Shanghai Composite was up 0.52%; the Hang Send edged higher 0.34%; Singapore up 0.28%.

The Kospi was higher slightly, 0.3% and Australia's ASX 225 remained flat.Some tension cropped up between Japan and the U.S. over the weekend about whether the BOJ should be able to intervene in the currency market to stem the yen recent rise.

Asian shares rose on Monday after a solid session on Wall Street, while the dollar moved away from recent highs though remained supported as investors bet that the U.S. Federal Reserve was on track to raise rates sooner rather than later.

MSCI's broadest index of Asia-Pacific shares outside Japan .MIAPJ0000PUS rose 0.6 percent, after U.S. shares rallied on Friday, shrugging off growing expectations of further tightening in monetary policy.

But Japan's Nikkei stock index .N225 extended losses, shedding 1.1 percent on worrying economic data and reports that Japan's sales tax increase would proceed as planned. Data released before the open showed Japan's exports tumbled 10.1 percent in April from a year earlier, in line with expectations but down for a seventh straight month, reflecting sluggish demand from China and emerging markets. Imports fell sharply, which in turn boosted the country's trade surplus above expectations. 

Japan's exports fell in April at the fastest pace in three months as a stronger yen and weakness in China and other emerging markets take their toll on the country's shipments, boding ill for growth prospects for the current quarter.Japanese manufacturing activity contracted at the fastest pace in more than three years in May as new orders slumped, a preliminary survey showed on Monday, putting fresh pressure on the government and central bank to offer additional economic stimulus.The Markit/Nikkei Flash Japan Manufacturing Purchasing Managers Index (PMI) fell to 47.6 in May on a seasonally adjusted basis, from a final 48.2 in April.

THEM OR YOU

 Is it really obscene to note that there have been several attempts either to knit Europe together or establish hegemonic domination by one country? Is it obscene to point out that whether violent, peaceful or idealistic, every attempt ended in failure because an entire continent is too complex to lend itself to seamless integration? And would one brand as an obscenity the observation that the EU is currently over-centralised, inflexible and causing misery for some of its members? We think these problems should be articulated and discussed without fear telegraph.co.uk/opinion/2016/05/22/is-it-really-obscene-to-point-out-the-faults-with-the-eu.

The above quote from an editorial piece in today's UK Telegraph, though many will try to deny it, is most relevant to the up-coming U.S. presidential election for more reasons than one can cover here. Nevertheless, the parallelisms are there.

Is it really obscene that the status quo of government in the U.S. has harmed, in many cases callously, innocent people whose only possible transgression is the desire to live out their gift of life in their own way without harming anyone else? Is it really obscene to point out the corruption and lack of honesty in Washington and on Wall Street and in MSM?

Is it really obscene to point out the baggage, much of it well documented, these candidates are carrying in their quest for public office? Is it really obscene to note one of them is a self-professed, public announced socialist who spent his honeymoon in the Soviet Union? Is it really obscene to note that these two, tired, trite, tedious bankrupt parties have been running the show for years and this is where we are today? Is it really obscene to point out that super-delegates chosen by insiders get to determine a candidate's fate in either of these two phony parties that mouth reams of verbiage about democracy and open elections.

This is the best that America can offer?

The parallelisms between the EU and the U.S. in the above quote are more than appropriate--over-centralized, hegemonic, debt-ridden, in-tolerant, inflexible, misery-provoking, sovereignty-disrespecting and secretive.

Whether you're in the UK or the U.S. this is your election year. We are not telling anyone how to vote. Either individually or collectively, this is your future your voting. Once these bureaucrats, politicians and elitists get these elections safely behind them, you can expect something big. They say preparing to prepare is half of any struggle.

Believing that all these central bankers can print all this fake money out of thin air without any serious consequences will qualify you for a seat at next January's meetings in Davos. Maybe one of the topic there will be who gets to define obscene, them or you?

THE IMBALANCE GROWS

What do we know about debt? Well, like most things in life, it can be good or bad. You can draw your own conclusions. We are just making the point, as we have before, low interest rates have encouraged lots of kinds of debts, not all of it transparent.

As this chart illustrates the imbalance between cash and debt is growing during what has been quite good times for equity and bond markets. It's from businessinsider.com/companies-masking-66-trillion-of-debt-2016-5?

"At the same time, the imbalance between cash and debt outstanding we reported on last year has gotten even worse: Debt outstanding increased 50x that of cash in 2015," wrote Chang and Tesher.

"Total debt rose by roughly $850 billion to $6.6 trillion last year, dwarfing the 1% cash growth ($17 billion)."

To be fair, Chang and Tesher do mention that the $1.84 trillion in cash that the over 2,0000 companies they analyzed are holding is the largest amount ever. The issue is, a big pile of cash doesn't help mask the much, much larger mountain of debt.

Even more worrying, according to the analysts is the distribution of cash and debt among the companies they covered.

"Removing the top 25 cash holders from the equation paints an even more concerning picture: Total debt rose $730 billion in 2015, while cash declined by $40 billion," wrote Chang and Tesher.

 Now to be fair, cash isn't the only way to pay off debt. If necessary, companies can liquidate assets or refinance in order to pay creditors beck. Doing so, however, usually means that the company is in big trouble and is much less preferable.

In S&P's case, one of the key factors used to determine a company's credit rating is the ability to pay down debt. So as the cash to debt ratio gets even more out of whack, debt problems could be around the corner.

"Given the record levels of speculative-grade debt issuance in recent years, we believe corporate default rates could increase over the next few years, especially given diminished growth prospects in China, weak commodity and energy prices globally, and the sizable universe of lower-quality non-financial corporate debt outstanding," said the report.

Therefore, the amount of debt and cash on hand to pay for it is not particularly encouraging.

How did this happen?

According to Chang and Tesher it's all about investor appetite. As we've hit on before, the so-called reach for yield among investors has increased the appetite for higher yielding bonds. These companies have clearly obliged, opting to issue debt in order to fund operations or return cash to shareholders.

"This jump in debt reflects the scant resistance borrowers faced from yield-starved investors as companies pursued acquisitions and returned cash to shareholders," said the report.

Some have said that this has led to a massive bubble in the bond market, or it could just be a cycle. Regardless of its future ramifications, it is by any measure quite a lot of debt.

What do we know about imbalances? Well, like most things in life, we know they usually sooner or later get corrected.

JUST FOR OPENERS

It shouldn't surprise that MSM gloats over every tiny glimmering bit of economic data like recent existing home sales rising for the second straight month, trying to spin such in as positive light as they can.

We've said before and we'll say it again most of MSM are Keynesian shills for the Federal Reserve. We've said before and we'll repeated it: The Fed in particular and central bankers in general are clueless with the Fed given it recent warning about a June or July rate hike, looking for an exit. They need to CYA and rescue their friends in big banking.

Along with the spin about existing home sales or whatever, these purveyors of bureaucratic nonsense usually toss in a line or two about steady job growth and low interest rates. Well, here's something you might want to read about low interest rates and how effective they really are in revamping economic growth. businessinsider.com/the-world-economy-is-running-on-monetary-fumes-2016-5?

And here's a quote from the article to whet your reading appetite.

As our new Council on Foreign Relations Global Monetary Policy Tracker shows, a record 23 countries — accounting for a quarter of world GDP — now have central-bank policy rates of zero or less. A further six — including the United States — have policy rates of 1 percent or less. This means that the scope for monetary stimulus using conventional tools, such as policy-rate cuts towards zero, is — as the graphic below shows — nonexistent or limited in nations accounting for 60 percent of the global economy.

But what about unconventional tools?

Central banks in Europe and Japan have shown that monetary policy rates can go below zero, but there is a lower limit. This is because banks and individuals can switch to holding physical cash — which pays zero interest — instead of deposits earning negative interest. Holding cash is not costless, particularly large sums that need to be stored and insured, which is why slightly negative rates can potentially be effective.

Just in case you don't get it: Investments--yes, we said investments--like putting cash into zero interest rate holdings and the notoriously MSM maligned-pay-nothing yellow metal, gold, are the actual high yield investments here. 

Both are the worst nightmare for bureaucrats and central bankers everywhere who want nothing more than you to open your already strained wallets and spend more and take on more debt to bail their pathetic butts out. Unlike their banker friends, however, they won't be around to bail you out.

These people subscribe and want you too likewise to swallow the belief that there is no such law as the law of limits. With monetary stimulus already there, you're already hearing from the Keynesian crowd to roll out their last supposed big gun, fiscal stimulus. In short, pile more debt on the heads of already drowning taxpayers.

That's should remind of an old song, "Hard Hearted Hannah." She was last seen down at the seashore with a great big pan pouring water on the head of a drowning man.

The world is drowning in debt. Debt has a lot of different names, like a thousand trillion derivatives afloat out there. And that's, just for you poker players, for openers.

OVERNIGHT

Is it June or July, the next interest rate hike?

That's the message investors heard Thursday from New York Federal Reserve Bank President William Dudley pushing the DJIA and the S&P 500 to two month lows before rallying a bit. It was the third straight day the Dow finished lower.

The WSJ reported: The New York Fed's William Dudley, a permanent voting member of the central bank's rate-setting committee, said there was a strong sense among Fed officials that markets were underestimating the probability of policy tightening and that the bank was on track for a rate hike in June or July. Dudley said he was "quite pleased" investors had apparently increased bets that a rate hike would come soon.

Dudley's comments came a day after minutes of the Fed's April meeting revealed that most policymakers felt a rate increase might be appropriate as early as June.

Markets are pricing in a 32 percent chance of a rate hike in June, according to the CME FedWatch tool, up from 15 percent on Tuesday. A majority now expect a rate hike at the July meeting.

The Nikkei was up slightly ahead of the G7 meetings trading at 16,739.28, set to possibly gain 1.6% for the week. No doubt the G7 meeting will capture much focus and just what is in store for the yen as currencies are expected to be at the top of the discussion list Friday. The dollar was at 110.08 against the yen, down from its recent three-week high of 110.39.

Meanwhile, other Asian markets were up, the Korean Kospi 0.07%; ASX 200 0.57%; the Hang Send 1.20% and the Shanghai Composite 0.10%. Oil was up with Brent crude approaching the 450 a barrel mark, trading at $49.25. Gold overnight was trading at 1253.90.

There are those who believe that the Fed's sudden change in sentiment about rates is part of a currency deal cut last month a the G20 meeting to help rescue other flagging economies. By hiking rates the U.S. would be what many see as its role in the global slowdown, the consumers of last resort.