16th December 2010 by Shaun Richards
Yesterday was a quiet day in western equity markets as the “Santa Rally” appeared for a day at least to have run out of steam. However most of these markets are at or near to their highs for 2010 so unless there is a fundamental change before the year-end equity investors will have had a good year particularly for those in shares which pay reasonable dividends as well. Even in Europe with all the scares over solvency in various countries the Eurofirst 300 equity index has risen some 8.2% in 2010. A particularly good performer has been the German Dax equity index which has risen just under 18% so far this year.
However eastern equity markets have had a much worse year which rather goes against the investment convention that they would be the best areas to be in which was prevalent in late 2009 and early 2010. If we look here we see that the Nikkei 225 equity index in Japan is down 2.23% so far this year. If you had taken China to be the growth story so to speak, well the Shanghai Composite Index is some 11.6% lower than the level at which it opened the year. Of course both areas have had troubles of their own as Japan has struggled for much of the year with an overvalued Yen exchange rate which has improved a little recently but is still a problem. China has been suffering from increasing inflationary pressure as I reported on the 13th of December and the 11th of November which has weighed on her equity markets. On this subject yesterday saw a rise in China’s 7 day repo rate which settled at 3.63% which was quite a rise on the previous days 3.29%, however I would remind readers that it is still well below China’s consumer price inflation rate of 5.1%. So sooner or later official Chinese interest rates are likely to rise.
If one reviews equity markets overall and observes that some markets in areas with economic problems have done well then I am reminded of a description I was given of this scenario many years ago. It was that equity markets can “climb a wall of worry”. I have observed it on several occasions since then but have never really got a full grip on a causal relationship as it appears to defy logic. If I ever figure it out I will let you know!
US interest-rates and her mortgage market
The situation here continues to develop as yet again longer-term interest rates rose in America yesterday. Her ten-year bond yield closed at 3.53% and her thirty-year long bond closed at 4.6%. As markets tend to have reversals in even the strongest moves one must be likely soon but for now the move continues. This is in spite of the fact that the US central bank continues to purchase US government bonds as part of its so-called QE2 asset purchase programme. For example it bought some US $6.8 billion of bonds of between 4 and 6 year maturities yesterday which you might have thought would have provided at least some support for the ten-year maturity. However it did not even support the five-year benchmark as prices fell here and the yield rose from 2.04% to 2.11%. So even where the Federal Reserve was buying prices fell and yields rose. Perhaps they put in a call to the European Central Bank to share worries!
The main impact of this at least initially will be on the housing market which is seeing increases in mortgage interest-rates as I have been reporting over the last fortnight. These higher rates are likely to affect the housing market adversely and have wider implications for the rest of the economy. We saw some evidence on this front yesterday from the Mortgage Bankers Association.
The Market Composite Index, a measure of mortgage loan application volume, decreased 2.3 percent on a seasonally adjusted basis from one week earlier……The average contract interest rate for 30-year fixed-rate mortgages increased to 4.84 percent from 4.66 percent……This is the highest 30-year fixed-rate observed in the survey since the beginning of May 2010. .
The average contract interest rate for 15-year fixed-rate mortgages increased to 4.21 percent from 3.98 percent…… This is the highest 15-year fixed-rate observed in the survey since the beginning of June 2010.
Now at this time of year one weeks mortgage figure applications may be misleading but the interest-rate rises are not and remember they are lagged figures there are more rises to come. The foreclosuregate scandal is beginning to develop again with Bank of America now planning to discuss some sort of settlement with mortgage investors. However as their total claims cover assets of some US $47 billion there could be quite a bill to pay. In terms of actual foreclosures or repossessions then the impact of this crisis is that November 2010 saw the lowest level of repossessions since the credit crunch began which does not fit at all well with other signals on the US housing market. I will leave you to draw your own conclusions. If you are facing repossession there may be a silver lining for you as it may be a while before the lender gathers the courage to actually enforce it.
UK unemployment rises and employment falls
We received figures yesterday which indicated that the beginning of job losses in the public-sector in the UK may lead to a sustained increase in unemployment and a sustained fall in employment. Now there is some confusion on these numbers as we appear to get several sets of inconsistent data. In fact we get two sets so if we start with the quarterly labour force survey we got.
The employment rate for those aged from 16 to 64 for the three months to October 2010 was 70.6 per cent, down 0.1 on the quarter……….The unemployment rate for the three months to October 2010 was 7.9 per cent, up 0.1 on the quarter. This is the first quarterly increase in the unemployment rate since the three months to April 2010.
The confusion comes because we also get monthly figures for registered unemployment which do not always go in the same direction. This is for two reasons. One is that it covers a different time period and the other is that it covers registered unemployed i.e those who sign on at the unemployment office. So those who do not sign on for whatever reason are not counted ( for those unaware of the UK this will often include those who were self-employed for example as they receive no job seekers allowance). This means that there can be wide variations between the two measures and in my opinion makes the labour force survey more reliable as a measure. However in this instance they went in the same direction at least.
The number of people claiming Jobseeker’s Allowance (the claimant count) fell by 1,200 between October and November 2010 to reach 1.46 million, although the number of people claiming for up to six months increased by 11,600 to reach 954,900.
Just to ram the point home of differences between the two measures the labour force survey records unemployment of 2,500,000 so over a million people more.
The figures appear to indicate that falling public-sector employment was the main cause of the rise in unemployment and the fall in employment this month which is something we may well see over the next few months. However tucked away in the figures were two trends which have been prevalent throughout the recession and are reported much less.
1. Part-time employment rose by 26,000 to reach 7.96 million. Furthermore of this we saw an increase in people working part-time because they cannot get a full-time job of 46,000 to 1.16 million which is the highest number since this series began being recorded in 1992. The corollary of this is that full-time employment fell by 58,000 on the quarter which is more than the 33,000 fall in employment. Accordingly the numbers are worse than they appear at first and we need something like the American U-6 measure to address this. For those unaware this not only measures those unemployed but also measures reduced hours of work.
2. Inactivity rose to with some 22,000 people leaving the labour force mostly through what is recorded as early retirement.
This switch to part-time employment and rises in inactivity have been prevalent throughout the recession and have various implications. Firstly they undermine our measures of unemployment which do not fully include them. Secondly part-time work often is on worse terms than full-time work. Thirdly it means that the UK and US appear to be having similar experiences in this regard.
A Question on public-sector employment
Whilst it is the convention that public-sector employment is falling I use part of my local councils facilities which appear recently to have taken on staff. As a reader of the excellent Yes Prime Minister books I am aware of the Sir Humphrey Appleby view that this is the way you make cuts. For example his suggestion was that you took ten people on so that you could then cut ten jobs but of course you only announce the cuts! Has anybody else in contact with the UK public-sector been wondering if they are seeing evidence of this philosophy?
The UK’s loan to Ireland
I have spotted that the UK Chancellor has suggested that we will make some £440 million from this loan and some sections of the media are reporting this verbatim. Unfortunately there are several flaws in this logic which goes as follows,if we borrow at 3.25% and lend at 5.9% we make a profit. If you think about it this is exactly the type of flawed logic which helped create the credit crunch as it ignores credit risk and emphasises the profit and loss account with no reference to the balance sheet of the UK. In some respects this is rather shocking.
1. Ireland is in a rather parlous situation so may not be able to repay the money. We may get none of it back but more likely perhaps is the fact that she will be unable to fully repay the sum advanced.
2. As the full state of Ireland’s banking system remains unknown it is not even clear to me that we can assume we will get the annual interest payments.
3. What do we do if Ireland defaults in some form?
4. In a burst of financial dissembling we will declare the interest as a reduction in our fiscal deficit each year ( assuming it is paid) but the loan will not add to our national debt “because it will be fully repaid”. This is accountancy of the mad house and the Chancellor should be ashamed of himself.
In essence we may have the worst of all worlds here. If we wished to really help Ireland we could have loaned the money to her at cost which might have given her a chance of avoiding insolvency. Instead we are loaning it to her at an interest-rate likely to contribute to insolvency and then we assume insolvency will not happen. Did we learn nothing from the lessons of the period before the credit-crunch?