From the resurgence of “bond vigilantes” to the profound implications of speculative dynamics and historic bubble inflation, Doug Noland’s latest Credit Bubble Bulletin delivers as usual!
Key highlights this week include:
- The precarious balancing act between fiscal prudence and speculative asset bubbles.
- The potential impact of President Trump’s second term on economic and market dynamics.
- Rising risks in global markets, with China and emerging economies hanging in the balance.
“Day One” has the world holding its breath as markets brace for new policy directions and unprecedented economic challenges.
📖 Read Doug Noland’s full commentary and explore the forces shaping today’s markets at Credit Bubble Bulletin.
By Doug Noland:
Some things are just irresolvable. Religious conflict and abortion are issues that come quickly to mind, along with whether tax cuts spur growth sufficient to hold fiscal deficits in check. The bond market won’t be weighing in on religion or women’s rights.
January 16 – Reuters (Lawrence Delevingne, Yoruk Bahceli, Davide Barbuscia and Dhara Ranasinghe): “When Bill Clinton began his first term as president in 1993, he faced a challenge to his authority from an unexpected adversary: bond traders. Low taxes and high defense spending over the prior decade had contributed to U.S. debt doubling as a share of economic output. Clinton and his advisers worried that ‘bond vigilantes’ – so called because they punish governments’ profligacy – would target the new Democratic administration. A run on U.S. Treasury bonds, they feared, could sharply raise borrowing costs, hurting growth and jeopardizing financial stability. A frustrated Clinton was forced to make the unpopular decision to raise taxes and cut spending to balance the budget. ‘He went away pretty disgusted with the idea that here he had just won an election by a pretty nice margin in a difficult three-way race, and now he was subservient to a bunch of bond traders,’ said Alan Blinder, one of Clinton’s closest economic counselors… ‘A lot of us are wondering if the bond market vigilantes are going to come back for a second chapter.’”
Scott Bessent is an impressive individual. He’s highly intelligent and has worked very hard for a long time. Living the American dream. Having made billions, his decades-long interest in public service has turned into a full-time occupation. In Bessent’s Thursday confirmation hearing, he was well-prepared, earnest, and respectful. As a seasoned hedge fund “master of the universe” – and teacher of “Twentieth Century Financial Booms and Busts” and “The Financial Panic of 2007–2009” at Yale – he grasps the challenges that await.
Bessent: “I believe that President Trump has a generational opportunity to unleash a new economic golden age that will create more jobs, wealth and prosperity for all Americans. My life’s work in the private sector has given me a deep understanding of the economy and markets.”
“The federal government has a significant spending problem, driving deficits that have averaged an historically high 7% of GDP annually during the past four years. We must work to get our fiscal house in order and adjust federal domestic discretionary spending that has grown by an astonishing 40% over the past four years. Productive investment that grows the economy must be prioritized over wasteful spending that drives inflation.”
“This is the single most important economic issue of the day. This is pass/fail. If we do not fix these tax cuts, if we do not renew and extend, then we will be facing an economic calamity.”
I would rank extending 2017 tax cuts somewhat down the list, somewhere below ongoing “terminal phase” Bubble excess, runaway federal debt, bond market fragility, speculative asset Bubbles, acute wealth inequality, over-indebted consumers and businesses, and global trade frictions.
I’m a strong proponent of free markets, fiscal prudence, low taxes, and limited government. Most unfortunately, this framework is hardly even germane at this stage of the cycle, as Credit and speculative Bubbles inflate out of control – as egregious inequality threatens societal and political stability. Unbridled finance is anathema to free market Capitalism.
I struggle with the notion of a “generational opportunity to unleash a new economic golden age.” It is, of course, seductively appealing in an age of insecurity. But today’s imperative is to halt Bubble inflation and commence arduous post-Bubble adjustment.
Reining in deficit spending is critical. But the administration’s agenda of wedding government cost-cutting with aggressive private-sector stimulus is premised on the perpetuation of Bubble excess, including easy Credit conditions and booming markets. Such a gambit presents clear and present risk to bond market and system stability. With today’s financial and economic structures and associated resource allocation, what scope of “money” and Credit growth would ensure “trickle-down” to small-town and rural America?
Wednesday’s market reaction to December CPI data was interesting. Markets interpreted a mixed report (headline up 0.39% vs. November’s 0.31%, while “Core” slipped to a less-than-expected 0.23% vs. 0.31%) bullishly, focusing on the slight 0.1% increase in core goods inflation and the relative stability (0.3%) of core Services inflation – with ramifications for what is expected to be positive inflation news with PCE data at the end of the month.
Ten-year Treasury yields immediately dropped 12 bps on CPI, falling 14 bps for the session – ending the week at 4.63%, down 16 bps from Tuesday’s close. Market rallies into monthly options expirations have become commonplace. The S&P500 jumped 1.8% in Wednesday trading, the Nasdaq100 2.3%, and small cap Russell 2000 2.0%. The KBW Bank Index surged 4.1%.
January 15 – New York Times (Rob Copeland and Danielle Kaye): “Worried about the economy? You must not run a major bank. A swath of the nation’s largest lenders, including JPMorgan Chase, Wells Fargo and Goldman Sachs, reported quarterly and annual financial results… that beat analysts’ expectations, and largely expressed a go-go attitude about what’s ahead after President-elect Donald J. Trump is inaugurated next week. JPMorgan… said it earned $14 billion in profits in the fourth quarter, and nearly $59 billion for the full year. Wells Fargo made $5.1 billion in the fourth quarter and $20 billion for the year… Citi… reported net income of $2.9 billion in the quarter and $12.7 billion for the full year. Goldman Sachs, which saw fourth quarter profits of $4 billion and $14 billon for 2024, said it had particular success connecting risky companies looking for money to clients willing to lend it, typically a sign that credit conditions… remain fluid.”
The KBW Bank Index enjoys a one-year return of 46.9%, with the NYSE Broker/Dealer Index returning 63.3%, Nasdaq Financial Index 34.2%, and the NYSE Financial Index 29.2%. Booming financial earnings and stock prices corroborate excessively loose financial conditions and asset Bubbles.
January 15 – Financial Times (Brooke Masters, Stephen Gandel and Ortenca Aliaj): “Donald Trump’s return to the White House could fuel a blockbuster 2025 on Wall Street, but concerns linger over inflationary policies and global strife, big US banks said as they unveiled bumper quarterly earnings. Top executives from several of Wall Street’s biggest banks… offered upbeat outlooks for this year, particularly for their investment banking businesses, which have surged in revenues in recent months… Goldman Sachs chief executive David Solomon… said: ‘There has been a meaningful shift in CEO confidence, particularly following the results of the US election. Additionally, there is… an overall increased appetite for dealmaking supported by an improving regulatory backdrop’… JPMorgan chief financial officer Jeremy Barnum said the US was in an ‘animal spirits moment… We are happy to see more optimism in the c-suites of the country and globally in some pockets.’”
These are not markets – stocks, Credit, lending, crypto and otherwise – in need of additional adrenaline. Speculative dynamics have been well-entrenched for a while now. Elevated risks ensure extensive derivatives hedging and shorting, well-recognized fodder for short squeezes and rally-inducing unwinds of derivative hedges. Especially with abundant hedging around major economic data (i.e., CPI), two days ahead of expiration no less, the backdrop provided an enticing opportunity for bullish speculation.
The return of President Trump to the White House adds an additional element of market intrigue.
January 16 – Bloomberg (Stephanie Lai and Olga Kharif): “President-elect Donald Trump is planning to release an executive order elevating crypto as a policy priority and giving industry insiders a voice within his administration… The order is expected to name crypto as a national imperative or priority — strategic wording intended to guide government agencies to work with the industry… It is also slated to create a crypto advisory council to advocate for the industry’s policy priorities… Also under consideration is the creation of a national Bitcoin stockpile, which would encompass the government’s existing holdings of the world’s biggest cryptocurrency… The US government currently holds nearly $20 billion worth of Bitcoin, confiscated as part of various investigations…”
January 17 – Bloomberg (Shawn Donnan, Joe Deaux and Eric Martin): “Donald Trump pledged to create ‘the greatest sovereign wealth fund of them all.’ His advisers think one way to do it is a government agency they bet can help mobilize hundreds of billions from Wall Street. Plans discussed for the US International Development Finance Corp. include how it could use investments to deliver on Trump’s ambitions for greater US influence over Greenland and Panama. Backers say the agency, which stands to get as much as $120 billion in capital of its own, will be able to trigger far larger geopolitically driven overseas commitments by some of America’s most powerful institutional investors.”
I don’t get it; no doubt hopelessly out of touch. But I do get that markets anticipate extraordinary patronage from the Trump administration. The crypto universe is emboldened, though it’s the mighty stock market that holds the most sway over its comrade setting up shop next week at 1600 Pennsylvania Avenue. This is a historic Bubble marketplace confident in Fed and Trump support – central bank liquidity when things turn dicey, and Truth Social posts when a timely (quite visible) hand might go a long way.
The strongest weekly stock market gains since the election create a delightful backdrop for Monday’s inauguration. And after 10-year Treasury yields surged 120 bps in four months, bonds were overdue for a rally. Still, it’s the party of the century – and Treasuries are chagrined by the non-invite. Will the bond market hold a grudge?
There was $2.829 TN worth of outstanding Treasuries for Bill Clinton’s inauguration, tallying 41% of GDP. Annual deficits totaled a then unprecedented $1.09 TN over the preceding five years. Total Bank Assets came in at $5.36 TN. Broker/Dealer assets were $867 billion, with total system “repo” assets of $1.04 TN. Money market fund assets (MMFA) ended 1992 at $546 billion. Total (Debt and Equities) Securities closed the year at $13.13 TN, or 200% of GDP. Household Net Worth was $25.6 TN, or 380% of GDP.
It’s an interesting backdrop for talk of unleashing a “new economic golden age.” The Friedman/Bernanke revisionist view asserts that a golden age of Capitalism was brought to a needless end by Federal Reserve policy blunders, while an opposing analytical framework holds the Fed responsible for accommodating Credit excess and an unsustainable historic “Roaring Twenties” Bubble of leverage, speculation, and epic resource misallocation. Surely, Mr. Bessent is familiar with this debate.
The backdrop for President Trump’s second inauguration is one of about $28 TN of outstanding Treasuries, registering at 95% of GDP – having expanded $11.7 TN, or 54%, over the past 19 quarters. Bank assets expanded $6.4 TN, or 30%, in 19 quarters to approach $28 TN. Broker/Dealer assets inflated 40% in 18 quarters to almost $6 TN. Total system “repo” assets surged 54% in 19 quarters to $7.4 TN. Having expanded 71% in 19 quarters, MMFA surpassed $7 TN. Total Securities inflated $58.7 TN, or 62%, in five years to $153 TN – or 522% of GDP. Household Net Worth ballooned $50 TN, or 42%, in 17 quarters to a record $169 TN – or 575% of GDP.
There’s no stabilizing this historic Bubble inflation. To believe that consumer price inflation will magically steady at 2% – with Credit, financial markets, and household perceive wealth raging – is fanciful thinking. And now the new administration is determined to use every tool in the kit – while devising some crafty new ones – to crank the boom up a few notches.
Global markets remain highly synchronized. When Treasury yields drop and the dollar weakens, as they did following Wednesday’s CPI report, “risk on” is triggered globally. With rising Treasury yields a key risk for some vulnerable markets, Wednesday’s squeeze lower in yields was swiftly transmitted to UK (down 23bps from Tuesday’s close) and Brazilian yields (down 18bps) – for example. Ten-year French yields sank 12 bps Wednesday. The spread between French and German yields narrowed six on the session to 76 bps, with Italian spreads narrowing eight to 119 bps. For the week, dollar-denominated yields sank 28 bps in Colombia, 26 bps in Brazil, 23 bps in Peru, 23 bps in Panama, and 18 bps in Mexico.
Meanwhile, another key global risk was flashing amber. The Dollar Index only traded down to 108.60 on the CPI release and was back up to 109.405 by Friday close – slipping only 0.3% for the week and only marginally below two-year lows. The British pound and Mexican peso declined 0.3% this week, while the euro mustered only a 0.3% increase. The Brazilian real recovered only 0.5%, while the Indonesian rupiah (down 1.1%), Indian rupee (0.7%), Russian ruble (0.6%), and Argentine peso (0.5%) all posted losses for the week. Despite a decent squeeze and general “risk on,” the fragile global periphery was notably listless.
January 15 – Reuters: “Overnight borrowing costs for some Chinese financial institutions jumped as high as 16% on Wednesday…, due to tight cash supplies in the market ahead of the week-long Lunar New Year. In addition to seasonal factors, some market participants said the country’s central bank has been cautious with cash injections due to concerns about sliding bond yields and a weak yuan. Traders said overnight borrowing costs surged as high as 16% in the afternoon, while some 7-day borrowing costs jumped to 10%.”
January 14 – Bloomberg: “China’s increasing determination to defend its currency against a strong dollar has worsened a liquidity squeeze in the country, pushing a key short-term funding rate to its highest level in more than a year. The cost of borrowing cash via seven-day interbank pledged repurchase contracts — a popular funding tool used by financial institutions — spiked this week to its highest level since October 2023. The spread between the rate and the central bank’s own reverse repo reference rate is now at its widest point since early 2021. The funding squeeze is a sign of China’s increasingly fraught attempts to stimulate its economy at the same time as stabilizing its currency.”
January 15 – Bloomberg: “China’s central bank pumped a near-historic amount of short-term funds into its financial system on Wednesday, dialing up liquidity support amid a cash squeeze with the new year holiday looming. The People’s Bank of China injected a net 958.4 billion yuan ($131bn) of cash via seven-day reverse repurchase agreements in daily open market operations, the second highest on record in data… back to 2004.”
As the world waits warily for Day One, China teeters. Increasingly desperate – and incongruent – measures are employed to buttress a deflating Bubble – to stabilize apartment markets, an incredibly maladjusted economy, funding markets and system liquidity – while simultaneously working intently to thwart currency instability. A fragile “developing” world hangs in the balance.
Scott Bessent and Team Trump are keenly aware of China’s current vulnerability. I’ll assume they keep much of their powder dry on Day One, as they prepare for hardball trade negotiations. For now, China could sure use a weaker dollar, declining Treasury and global yields, and lower U.S. policy rates.
January 16 – Bloomberg (Amara Omeokwe): “Federal Reserve Governor Christopher Waller said the US central bank could lower interest rates again in the first half of 2025 if inflation data continue to be favorable. ‘The inflation data we got yesterday was very good,’ Waller said… ‘If we continue getting numbers like this, it’s reasonable to think rate cuts could happen in the first half of the year,’ he said, adding that he wouldn’t entirely rule out a cut in March. If future inflation figures fall in-line with December’s positive report, Waller said the Fed may cut more this year and sooner than investors are currently expecting. ‘I’m optimistic that this disinflationary trend will continue and we’ll get back closer to 2% a little quicker than maybe others are thinking,’ he said.”
Despite all the week’s inflation optimism, the five-year Treasury (inflation premium) “breakeven” rate added a basis point to 2.54% – near highs back to March 2023. The Bloomberg Commodities Index rose another 1.2%, boosting early 2025 gains to a notable 5.0%. Crude is up 8.6% month-to-date, with Natural Gas gaining 9.3%. The precious metals are building on robust 2024 advances. Gold and Silver have started the year with gains of 3.0% and 5.1%.
January 13 – AccuWeather (Monica Danielle): “As fires continue to rage across Southern California and the scope of catastrophic damage, loss of life, business disruptions and other economic impacts becomes clearer, AccuWeather has updated and increased its preliminary estimate of the total damage and economic loss to between $250 billion and $275 billion.”
Estimates of insured Los Angeles fire losses have reached $40 billion. Insurance premiums will be rising significantly for millions of Californians and tens of millions across the country. The exodus of many from Southern California will support home prices and rents elsewhere. Competing for rebuilding resources with North Carolina, Florida and others, the inpouring of labor and building materials will surely have regional and national repercussions. Lumber futures prices are up a quick 8% to start the year.
January 15 – Wall Street Journal (Katherine Clarke, E.B. Solomont and Jessica Flint): “Among the most valuable homes that have burned down is a compound on Carbon Beach that billionaire media mogul David Geffen sold to Walter for $85 million in 2017. Another is one of Ellison’s homes… worth an estimated $21.5 million… Real-estate investor Robert Rivani told The Wall Street Journal that he invested roughly $27 million into developing a spec house on the same stretch; that property, which he purchased for $19.55 million in 2022, is gone. His insurance only covered up to $3 million in damages.”
First human tragedy, and now an unfolding insurance debacle. What is the financial status of California’s backstop insurance “FAIR Plan”? I wouldn’t want to be a lender in the area. Losses will be felt in MBS and ABS. The municipal debt market will be pressured. Local utilities, with significant amounts of debt outstanding, face quite a challenge. Business losses will be enormous, negatively impacting loan performance. Recovery will take many years. Will insurance even be available in some areas? Ramifications far and wide.
So many factors these days point to a new paradigm of inflation and bond market risk. Day One will have us – and the world – at the edge of our seats.
