Pivot Points for 2013 in the Era of Dissonance · 2013. 1. 29. · Era of Dissonance. The research...

Pivot Points for 2013 in theEra of Dissonance

Blu PutnamChief EconomistCME Group

Pivot Points for 2013 in theEra of DissonanceThe research views expressed herein are those of the author and do not necessarily represent the views of CME Group or its affiliates.

All examples in this presentation are hypothetical interpretations of situations and are used for explanation purposes only.

This report and the information herein should not be considered investment advice or the results of actual market experience.

Blu PutnamChief EconomistCME GroupJanuary 2013

© 2013 CME Group. All rights reserved 3

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The information within this presentation has been compiled by CME Group for general purposes only. CME Group assumes no responsibility for any errors or omissions. Although every attempt has been made to ensure the accuracy of the information within this presentation, CME Group assumes no responsibility for any errors or omissions. Additionally, all examples in this presentation are hypothetical situations, used for explanation purposes only, and should not be considered investment advice or the results of actual market experience.

All matters pertaining to rules and specifications herein are made subject to and are superseded by official CME, CBOT, NYMEX and CME Group rules. Current rules should be consulted in all cases concerning contract specifications.

© 2013 CME Group. All rights reserved

2012’s Themes are Old News

China’s growth deceleration has ended European debt crisis will make some headlines

but the danger of implosion has passed US avoided the worst of the fiscal cliff and will get

by the debt ceiling, too (very messy, though) 2013 is about Looking Forward to New

Challenges, New Opportunities

4


Themes for 2013

Market participants potentially start to embrace increased risk-taking in search of higher returns – bad for flight to quality exposures.

Improved investor confidence highlights unintended consequences of Quantitative Easing by US, UK, Europe, and Japan – potential for emerging market currencies

Metals markets may be conflicted, as gold loses support from the fear factor while copper benefits from an improved global economic outlook.

Climate volatility may keep Agricultural markets on edge.

5


China stabilizing in the 7% real GDP growth area for now, drifting down later in the decade

6

3.59%

6.22%

9.29%

10.42% 10.48%

6.50%

0%

3%

6%

9%

12%

1960s 1970s 1980s 1990s 2000s 2010s

Ann

ual A

vera

ge R

eal G

DP

Gro

wth

Source: World Bank Real GDP Index from the Bloomberg Professional (WRGDCHIN). Estimates by CME Economics Research.

China: Real GDP Growth Rates by Decade

Estimate


European Bond Markets In Recovery

7

0%

3%

6%

9%

12%

1992 1995 1998 2001 2004 2007 2010 2013

Ann

ual Y

ield

(Per

cent

)

Source: Bloomberg Professional (GDBR10 and GSPG10YR)

Spain and Germany:10-Year Government Bond Yields

Spanish Bond

German Bond

Pre-Euro

Debt Debacle


Euro Has Recovered from Worst of Break-up Fears

8

1.10

1.20

1.30

1.40

1.50

1.60

1.70

USD

/EU

R

Source: Bloomberg Professional (EUR)

US Dollar per Euro

ECB to Markets --Whatever it takes!


US Tax Rate Uncertainty Resolved (for now)

9

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%19

13

1919

1925

1931

1937

1943

1949

1955

1961

1967

1973

1979

1985

1991

1997

2003

2009

2015

Perc

ent

Historical Highest US Marginal Income Tax Rate

Clinton

Bush

Source: Tax Policy Center, Urban Institute and Brookings Institute*Note: Income Bracket applied to Highest Tax Rate has changed over time


US Fiscal Cliff Avoided – Stocks Rally

10


US Fiscal Cliff Avoided – Bond Prices Fall

11


Current Economic Conditions in the United StatesThe US economy has reeled off 14 straight quarters of real

GDP growth since Q3 2009 averaging about 2.2% growth per annum.

The unemployment rate has fallen from its peak of 10% to below 8%, as 1.84 million net new jobs were created in 2012.

US large corporations are flush with very large cash holdings,.

The US banking sector has recapitalized itself since 2008 and is now comfortably profitable.

Auto sales are booming

Housing is finally entered a recovery phase in 2012

12


US Labor Market Improving Slowly

13

0.00%

3.25%

6.50%

9.75%

13.00%

1987 1990 1993 1996 1999 2002 2005 2008 2011 2014

Civi

lian

Une

mpl

oym

ent P

erce

ntag

e Ra

te

Source: St. Louis Federal Reserve Bank FRED Database (UNRATE)

US Unemployment Rate

Unemployment Headed Back Below 6.5% in 2014?


US Auto Sales Are Back to 15 Million Units per Year

14

0

5

10

15

20

25

1976 1980 1984 1988 1992 1996 2000 2004 2008 2012

Mill

ions

of U

nits

of C

ars

and

Ligh

t Tru

cks,

A

nnua

l Rat

e

Source: Federal Reserve Bank of St. Louis FRED Database (ALTSALES)

US Auto Sales

On the Road to Recovery


US Home Prices Finally Stabilized ….

15

-20%

-15%

-10%

-5%

0%

5%

10%

15%

20%

1988 1992 1996 2000 2004 2008 2012

Year

ove

r Ye

ar P

erce

ntag

e Ch

ange

Source: Case-Shiller index from the St. Louis Federal Reserve Bank FRED Database (SPCS10RSA , SPCS20RSA)

US Case-Shiller Home Price Percent Change

Home Prices Finally Stabilize in 2012


Leading to a Recovery in Single-Family New Home Sales …

16

-50%

-25%

0%

25%

50%

2002 2004 2006 2008 2010 2012

Year

-ove

r-Ye

ar P

erce

ntag

e Ch

ange

Source: St. Louis Federal Reserve "Fred" Database (HSN1F)

New Single-Family Home Sales in US


And a Rebound in Housing Starts from a Very Low Base

17

0

500

1000

1500

2000

2500

300019

60

1964

1968

1972

1976

1980

1984

1988

1992

1996

2000

2004

2008

2012

Thou

sand

s of

Hou

sing

Sta

rts,

Ann

ual R

ate

Source: Federal Reserve Bank of St. Louis FRED Database (HOUST)

US Housing Starts

Housing Starts Show Lifein 2012 -- From a Very Low Base


US Real GDP Growth in the last 14 quarters has been comparable to pre-crisis growth.

18

-10%

-8%

-6%

-4%

-2%

0%

2%

4%

6%

2004 2005 2006 2007 2008 2009 2010 2011 2012

Ann

ualiz

ed R

eal G

DP

Gro

wth

, Qua

rter

ly D

ata

US Real GDP Growth by Quarter

2.5% Average Annual Real GDP Growth, Q1/2004-Q4/2007, with support from solid growth overseas.

2.2% Average Annual Real GDP Growth, Q3/2009 - Q4/2012, with headwinds from a slowing China and stagnant Europe.


2013 -- Back to the Quantitative Easing Debate

Evaluating Why QE Did Not Help Create Jobs: “Essential concepts necessary to consider when evaluating the efficacy of quantitative easing,” Review of Financial Economics, 2013, (Bluford H. Putnam)

Unintended Consequences of QE: “Ultra easy monetary policy and the law of unintended consequences,” Federal Reserve Bank of Dallas Globalization and Monetary Policy Institute, 2012, Working Paper no. 126 (William R. White).

19


US & Japan are the Two Countries Most Concerned about Raising Economic Growth

20

4.19%

3.24%

3.23%

3.43%

1.55%

9.22%

4.46%

4.64%

1.13%

0.74%

0% 2% 4% 6% 8% 10%

1960s

1970s

1980s

1990s

2000s

Source: World Bank Real GDP Dataprovided through the Bloomberg Professional

US and Japan Real GDP Growth by Decade

Japan:AverageAnnual RealGDP GrowthRate ByDecade

US: AverageAnnual RealGDP GrowthRate ByDecade


Japan’s Population Growth Rate Peaked in 1971, the US in 1991

21

-0.5%

0.0%

0.5%

1.0%

1.5%

2.0%

2.5%

Ann

ual P

erce

ntag

e Ch

ange

in P

opul

atio

n

Source: US Census Bureau: International Database

US & Japan Population Growth: 1951-2011

United States

Japan

United States

Japan


Population Pyramids

The next charts represent a country’s age profile in 5 year segments, with the children at the base, the working age population in the middle, and the retirees at the top. Men are in blue on the left, and women in red on the right.

Source: US Census Bureau: International Database.

22


Population Pyramids:

Japan United States

23


Aging of US Population from 1990 through 2022

24


US Federal Balance Sheet Expansion

25

$927

$480

$0

$0

$447

$2,965

$1,689

$75

$948

$254

$0 $1,000 $2,000 $3,000 $4,000

Total Assets

US Treasury Securities

Federal Agency DebtSecurities

Mortgage-BackedSecurities

Other Assets

Source: Federal Reserve Release H.4.1, Table 8.

Assets of the US Federal Reserve ($Billions)

Wednesday,January 16,2013

Wednesday,September 10,2008


US 10-Year TreasuryInflation-Adjusted Yields

26

-4%

-2%

0%

2%

4%

6%

8%

10%

12%

1981 1984 1987 1990 1993 1996 1999 2002 2005 2008 2011 2014

Rea

l Per

cent

age

Yiel

d: 1

0-Ye

ar Y

ield

min

us

Year

-ove

r-Ye

ar In

flat

ion

Source: Data from the Bloomberg Professional.

How Low Can Inflation-Adjusted 10-Year Treasury Bond Yields Go?


Japan Embarks on Currency Depreciation Policy and Expanded Quantitative Easing

27


Japan Embarks on Currency Depreciation Policy and Expanded Quantitative Easing

28


Emerging FX in ZIRP WorldThe central banks in the US, UK, Euro-Zone, and Japan are all

committed to extended periods of near-zero short-term interest rate policies (ZIRP).

The mature commodity producing countries, such as Australia, and the emerging market nations, from Mexico and Brazil in Latin America to India to China are likely to maintain interest rates between 3% and 6% (or more) above those in the US, UK, Euro-Zone, and Japan.

This makes investments in the currency carry trade very attractive, even relative to the substantial risks. However, when market fears (i.e., Europe debt crisis, China slowdown, US fiscal cliff, etc.) dominate, risk-off trading will close these positions down. These carry positions will get reestablished as global market fears calm.

29

© 2013 CME Group. All rights reserved 30

Emerging Market Country Short-term Interest

Rate

US Federal Funds Rate

Spot FX/USD RateFutures FX/USD

Rate

Joint Interest Rate & Exchange Rate Market Volatility


12.4

12.6

12.8

13.0

13.2

13.4

1-Oc

t-12

8-Oc

t-12

15-O

ct-1

2

22-O

ct-1

2

29-O

ct-1

2

5-No

v-12

12-N

ov-1

2

19-N

ov-1

2

26-N

ov-1

2

3-De

c-12

10-D

ec-1

2

17-D

ec-1

2

24-D

ec-1

2

31-D

ec-1

2

7-Ja

n-13

14-Ja

n-13

21-Ja

n-13

28-Ja

n-13

Mex

ican

Peso

s per

US D

olla

r

Source: Bloomberg Professional (MXN)

Mexican Peso Sold Off on Election Fears of US Fiscal Cliff -- Then Rallied with the Tax Deal

Mexican Peso Traded US Fiscal Cliff Debate

31


Brazil Narrowing Rate Spread Over Inflation

32

0%

5%

10%

15%

20%

25%

30%

2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013

Year

-ove

r-Ye

ar In

flati

on, P

erce

nt A

nnua

l Rat

e

Source: CPI (BZPIIPCA) and Overnight Rate (BZSELICA) from the Bloomberg Professional.

Brazil: Inflation versus Overnight Rates

SELIC Overnight Money Market Rate

Inflation


China & Brazil Exchange Rate Paths

33

40

60

80

100

120

140

160

2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013

RM

B pe

r U

SD &

BR

L pe

r U

SD In

dexe

dto

May

200

2 =

100

Source: Brazilian Real (BRL) and Chinese Renminbi (RMB)from the Bloomberg Professional.

Comparing Paths of the Renminbi and the Real (Falling line indicates strength versus the US Dollar)

Chinese RMB - Managed FX

Brazilian Real -- Managed Rates, Volatile FX


Rate Comparisons: Why Yield-Seekers may consider the FX Carry Trade in Risk-On Markets

34

0% 2% 4% 6% 8% 10%

Russia

India

Brazil

Mexico

China

United Kingdom

United States

Japan

Euro-Zone

Source: Bloomberg Professional(Most liquid overnight rates to 1-month interbank rates)

Short-Term Interest Rates


Gold

Gold benefits from zero rates, which are here for another year in the US, UK, Europe, and Japan.

Gold benefits from stronger demand if China and India show solid growth. Both countries should do a little better in 2013 than in 2012. But India is raising taxes on gold imports.

Gold benefits from investor fears, which are dissipating.

The question for investors is how much demand comes out of the market as fears recede?

35


Gold Price Has Hit Choppy Waters Above $1600/ounce

36

$0

$400

$800

$1,200

$1,600

$2,000

1992 1995 1998 2001 2004 2007 2010 2013

US

Dol

lars

per

Oun

ce

Source: Bloomberg Professional (GOLDS)

Gold


Copper

Copper demand stems from infrastructure building.

China is critical. China slowed infrastructure spending plans in 2011 and 2012, but there are signs that China will start spending again to get the economy moving faster 2013.

India is a big buyer of gold jewelry. India’s economic growth slowed in 2012, but may rebound modestly in 2013.

Copper is likely to be very volatile, with potential support if a more optimistic global economic outlook gains credence.

37


BRIC Economies may Improve in 2013, led by China and Brazil

38

9.0%

7.0%

5.4%6.1%

0%

2%

4%

6%

8%

10%

2010 2011 2012 2013

Wei

ghte

d A

vera

ge o

f Ann

ual R

eal G

DP

Gro

wth

Source: World Bank Real GDP Data provided through the Bloomberg Professional. Q4/2012 and 2013 estimated by CME Economics Research.

BRIC Real GDP

Estimate


Copper Has Become a Risk-On, Emerging Market Growth Story

39

$0

$1

$2

$3

$4

$5

1992 1995 1998 2001 2004 2007 2010 2013

US

Dol

lar

per

Poun

d of

Cop

per

Source: Bloomberg Professional (HG1 )

COMEX Copper Nearby Contract Futures Price


Energy Market Potential Surprises for 2013

US economic growth dividend for increased oil/gas supply

More infrastructure progress in the US than market participants appreciate

Possibly less geo-political fears

Syria and Egypt do not have oil

Iran tensions appear to be lessening

Market participants may shift from demand focus to supply focus which has possible implications for a narrower Brent-WTI spread and a narrower WTI-Natural gas spread.

40


Natural gas offers a low cost per BTU

41

0

200,000

400,000

600,000

800,000

1,000,000

1,200,000

1,400,000

2001 2003 2005 2007 2009 2011 2013

BTU'

s of E

nerg

y per

1 US

Dol

lar

Source: Bloomberg Professional for prices (USCRWTIC, NGUSHHUB, UNYMM1), CME Economics Research for BTU conversion.

BTU's per US$1 by US Energy Source

Coal

Oil

Natural Gas


Weather Volatility

Weather volatility can easily disturb agricultural markets

Q1/2013 already has seen:

Frigid Temperatures in Russia and China

Extreme Heat in Australia and New Zealand

Continuation of US Midwest Drought (although there is some snow cover now)

42


US Drought Monitor Charts -- Source

The U.S. Drought Monitor is produced in partnership between the National Drought Mitigation Center at the University of Nebraska-Lincoln, the United States Department of Agriculture, and the National Oceanic and Atmospheric Administration.

http://droughtmonitor.unl.edu/

43


The Texas Drought emerged over time in 2010-2011

44


In 2012, the US Midwest Drought Emerged Very Quickly

45


Weather Volatility: US Drought Update

46


Corn and the Drought

47

$0

$2

$4

$6

$8

$10

1997 1999 2001 2003 2005 2007 2009 2011 2013

USD

A Il

linoi

s Nor

th C

entr

al N

o.2

Yello

w C

orn

Spot

Pri

ce p

er B

ushe

l

Source: Bloomberg Professional (CORNILNC)

Corn Spot Price


Pivot Points for 2013: Politics & Weather

•US Spending and Debt Ceiling Debates (February-April, and possibly beyond)

•Formation of New Coalition Government in Italy (February-March)

•Development of Midwest US Drought(Spring-Summer)

•German Elections (September 2013) –Merkel will probably need a new coalition partner

48


Economic Points to Watch

US Unemployment Rate Dips Below 7%

China reports Real GDP Growth above 7% in 2013 for two quarters in a row, along with supporting export data

Brazil reports Real GDP Growth the first half of the 2013 increasing into the 3%-4% range

49


Confirming Signs We May Be Entering a “Risk-On” Market Environment?•FX:

– Yen/$ cross 100– Brazilian Real cross 2.00 (BRL per USD)

•Bonds– JGB 10-Year Yields cross 1%– US 10-Year Treasury Yields cross 2%– Spanish 10-Year Bond Yields remain

close or under 5%

50

Pivot Points for 2013 in the�Era of Dissonance��Pivot Points for 2013 in the�Era of Dissonance��The research views expressed herein are those of the author and do not necessarily represent the views of CME Group or its affiliates.��All examples in this presentation are hypothetical interpretations of situations and are used for explanation purposes only.��This report and the information herein should not be considered investment advice or the results of actual market experience.�Slide Number 32012’s Themes are Old NewsThemes for 2013China stabilizing in the 7% real GDP growth area for now, drifting down later in the decadeEuropean Bond Markets In RecoveryEuro Has Recovered from Worst of Break-up FearsUS Tax Rate Uncertainty Resolved (for now)US Fiscal Cliff Avoided – Stocks RallyUS Fiscal Cliff Avoided – Bond Prices FallCurrent Economic Conditions in the United StatesUS Labor Market Improving SlowlyUS Auto Sales Are Back to 15 Million Units per YearUS Home Prices Finally Stabilized ….Leading to a Recovery in Single-Family New Home Sales …And a Rebound in Housing Starts from a Very Low BaseUS Real GDP Growth in the last 14 quarters has been comparable to pre-crisis growth.2013 -- Back to the Quantitative Easing DebateUS & Japan are the Two Countries Most Concerned about Raising Economic GrowthJapan’s Population Growth Rate Peaked in 1971, the US in 1991Population PyramidsPopulation Pyramids: �JapanUnited States Aging of US Population from �1990 through 2022US Federal Balance Sheet ExpansionUS 10-Year Treasury�Inflation-Adjusted YieldsJapan Embarks on Currency Depreciation Policy and Expanded Quantitative EasingJapan Embarks on Currency Depreciation Policy and Expanded Quantitative EasingEmerging FX in ZIRP WorldSlide Number 30Mexican Peso Traded US Fiscal Cliff DebateBrazil Narrowing Rate Spread Over InflationChina & Brazil Exchange Rate PathsRate Comparisons: Why Yield-Seekers may consider the FX Carry Trade in Risk-On MarketsGold�Gold Price Has Hit Choppy Waters Above $1600/ounceCopperBRIC Economies may Improve in 2013, �led by China and BrazilCopper Has Become a Risk-On, Emerging Market Growth StoryEnergy Market Potential Surprises for 2013Natural gas offers a low cost per BTUWeather VolatilityUS Drought Monitor Charts -- Source The Texas Drought emerged over time in 2010-2011In 2012, the US Midwest Drought Emerged Very QuicklyWeather Volatility: US Drought UpdateCorn and the DroughtPivot Points for 2013: Politics & WeatherEconomic Points to WatchConfirming Signs We May Be Entering a “Risk-On” Market Environment?

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