Blain’s Morning Porridge 16June 2021 – Complacency rules – what could possibly go wrong…?
“It’s quiet out there… too damn quiet.. [sound of thrown knife thumping into sentry’s back.. followed by exaggerated tumble off Fort Zinderneuf’s watchtower..]”
This morning: Global Markets are somnambulating into the holiday slumber. But, a restful summer does not beckon – everyone fears complacency. Crashes follow a predictable patten – while everyone is looking at the wrong thing, some smart cookie spots the real problem, it happens, the regulators close the loophole, and inevitably it happens all over again somewhere else. What will drive the meltdown this time? Your guess is as good as mine!
There is a very interesting article in the FT this morning: Why is Wall Street’s fear gauge so low? It considers the lethargic 15.7 Vix print, a low since the start of the pandemic, and record low volatility on FX markets. It concludes there is a “high degree of complacency in markets”. I am sending one of my coveted No Sh*t Sherlock awards to the team at the FT – it’s a great piece but blindingly obvious.
“We feel increasingly alert” is the benchmark quote… followed by predictable tosh about what comes next, with a few snippets like “higher downside risks”, yada yada yada. Like the legionnaires in the fort, we are all going to die… sometime. Not necessarily today or tomorrow… but. Let’s figure the most likely way’s the market might be conspiring to mug us.
A classic crash is brought on by something obvious, a market anomaly hidden in clear sight… like the fact unemployed bus drivers in Harlem were unlikely to be able to repay 100% $500k mortgages, or how fervid speculation about trade possibilities in the South Pacific islands were not grounded in reality. Usually someone very bright, clever,and often slightly autistic, spots the downright bleeding obvious, is ignored by everyone, until they are proved right and later hailed as an investment god.
My first crash was the great perp stumble of 1986. Banks were issuing tier 2 capital in the form of callable perpetual notes paying a slim premium over their senior debt. Investors were blithely assured the banks would call the bonds after 5 years. On that basis they looked a very attractive bond.
It was only when someone put all the pieces together and figured out i) banks could count these instruments as capital, ii) they were only a few basis points higher yielding than senior debt, iii) a perusal of the prospectus would reveal the call was entirely at the bank’s option… therefore, the notes were not the higher yielding 5-year bank paper investors thought they were buying, but cheap perpetual capital for the issuers.
The rest, as they say, is history. The hidden anomaly was not understanding what had been traded. The market collapsed. The generic price of the perp FRNs tumbled from par plus into the low 80s – which was a big crash back then. We were still trading the outstanding bonds 20 years later. During the 2008 bank crisis I was able to pick up bank paper priced in the low 30s, yielding double digits!
Back in the present… the sentries on the walls of our beleaguered desert fort are looking for the snipers hidden behind the dunes and in the palm trees. The harder they stare, the less likely they are to uncover anything. Instead, maybe the Touaregs are planning an attack to come from the skies with their new Turkish drones, or they nicked one of Musk’s burrowing machines to come in under the wall? Maybe it will be to poisoned pandemic laced dates that very friendly Chinese bazar trader just delivered……..
A common factor in most market crashes is the authorities and regulators are alert to prevent the last crisis being repeated, but tend to be utterly blind to the reality the world is constantly changing and in flux. What went wrong last time may still go wrong this time, but probably because something completely new destabilised it.
So… what are my predicted “no-see-ems” that could trigger whatever happens next?
A reversal in the tech market? Yawn.. we all spotted that one… How about the market figures out a car company valued at a multiple of other automakers despite making zero profits selling cars, delivering a fraction of the number of its rivals, and facing massive rising competition in its market niche suddenly looks less secure when the latest carbon reduction research conclusively demonstrates lithium batteries are polluting, difficult to recycle and create a massive production carbon footprint compared to conventional cars?
A breakdown in politics as signs the Far Right are set to win in France. Apparently the most popular politician in la Belle France, with a 51% approval rating is Boris Johnson! Who would have thought. The prospect of Frexit – even though Martine le Pen says she wont – could shake the myth the new European Union Next Gen bonds are Speshul…
Or maybe it will be a dollar collapse as the gridlock in Washington deepens, trade wars escalate, Trump looks resurgent… etc etc… Add a dose of inflation and stagflation!
A collapse in US and UK house prices following the momentum bust that’s followed rosy expectations of V-Shaped pandemic recovery? Nothing breaks confidence as much as the feeling of sudden penury that a house crash generates!
Maybe it will be policy mistakes – a lose/lose scenario for central bankers. Dammed if they try to taper and normalise rates, and equally dammed if they don’t!
Of course, I’m just guessing now.. but why not.. Maybe it will be inflation… what I can say – with a high degree of certainty – is the sun will come up tomorrow… and probably the day after that….
I’d invite readers to add their own suggestions to the comment box!
Five things to read this morning
Out of time and back to the day job!