A recurring question by technical and fundamental analysts has been whether the market rout of 2015-2016 will be similar to the limited declines of 2011 or that of the 2008-2009 credit crisis. Comparisons to 2011 lead us to reiterate the point that today’s macro and market dynamics are more worrisome than those from five years ago. Let’s outline why.
During the Eurozone-driven market swoon of summer-autumn 2011, the global economy was supported by vital portfolio and infrastructure investments from China and the Gulf nations. Today, China is on the cusp of a deflating credit bubble and the effect of its falling demand is extending into U.S. households and brick-and-mortar stocks.
China’s currency devaluation may ease the threat on exporters and relieve the currency headwind on USD-denominated borrowers, but its impact on the rest of the world is the antithesis of quantitative easing (QE) from the Bank of Japan and European Central Bank. China still deals with over-valued currency, with a current account surplus that may soon reach $800 billion — a sign of calamitous imbalances as all major currencies have started to tumble against gold. The yuan may have fallen by 15% against the yen during the last three months, but that’s after rallying 75% since 2013. As the yuan weakens further, the falling purchasing power of the world’s biggest buyer of commodities will be a high-profile source of corrosion to the world economy.
Injections from Mideast and Far East sovereign wealth funds were instrumental in stabilizing global markets in 2007-2009. That is gone. Recent reports that Saudi Arabia’s Monetary Authority has withdrawn as much as $70 billion in 2015, along with others in the region, have sobering implications for global liquidity.
Unlike in 2011 when the U.S. Fed’s QE was seen as a “novelty” and neither the ECB nor the BoJ had yet contributed with their stimulus, today’s global economy is all QEd out to the point that the IMF and central bankers are admitting its limitations.
Also, slowing global trade, deepening China macro retreat, plunging commodities, falling capital expenditures and $2.5 trillion in cancelled oil projects all are being manifested in their ancillary industries.
These were certainly not present in 2011.
Not all obstacles to a Fed hike are foreign. Fifteen of the 17 U.S. firms listed in Bloomberg’s debt profiling for exploration and production with market capitalization above $5 billion have seen their credit profile deteriorate and risk of default rise during the past two years.
Half a dozen U.S. energy companies already have filed for bankruptcy in 2016. According to Fitch Ratings, the default rate among U.S. energy firms shot up to 4.8%, the highest since 1999. Defaults across the energy space are on the rise.
The escalation in high-yield corporate bond spreads to three-year highs resulting from plunging energy prices has worsened the debt profile of several oil and gas companies. With Treasury yields on the rise and high-yield spreads following closely behind, the mere presence of further U.S. rate hike expectations would have a considerable impact on the sustainability of debt financing in and out of energy.
The rate of deterioration in the debt profile of energy companies is far from that reached by sub-prime lenders in 2007-2009, but the situation is getting worse. The Fed is the only major central bank tightening and will not be able to fight the world trend. On Aug. 8 we tweeted the USD had topped. The USD is bleeding and losses will emerge in Q2 2016 (see “Safe have yen”).