ICAP Futures LLC ICAP Global Macro Monitor Nicolas Lenoir, Chief Market Strategist April 20 2010
Global Macro Monitor Growth Outlook
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Private vs. Public GDP
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Restart Private Credit?
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Expand Public Spending?
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Between a Rock & a Hard Place
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Deflationary Case & Aging Population
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Consequences on Investing
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FAQ & Appendices
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Growth Outlook: Just a Blip? Highlights
Nominal US GDP
• Was the 2008 crisis just a blip? • Factoring the inventory rebound coming down the pipeline nominal GDP will reach new highs by Q3 2010 • Nasdaq is only 13% from the 2007 highs • Commodity prices have recovered to their 2007 levels as well for the most part • Banks are reporting record profits
Nasdaq
• Central banks around the world are starting to remove accommodative policies • On April 15 2010, the daily momentum on the Nasdaq measured using the 21-day RSI was at its highest since December 1999
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Private vs. Public: 2 Different Stories Highlights
GDP, we • Subtracting government spending from GDP, find that the private sector GDP is barely flat YoY YoY • Around the world governments have taken over for the private sector, China’s China’s stimulus package for 2008 was 14% of GDP
US GDP Vs. US PRIVATE SECTOR GDP 16000
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• The US Federal Reserve’s balance sheet expanded by $1.4Tr to compensate for credit contraction • But consumer credit outstanding is still shrinking and the deleveraging process is in its early stages
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"US GDP" "US PRIVATE SECTOR GDP"
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Total Outstanding Consumer Credit in the US
• The Federal Reserve’s balance sheet is expected to shrink slowly as asset purchase programs have expired
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Restart Private Credit? Highlights
Consumer Credit Report
• A strong February reading was cancelled out by March, April will be crucial to tell if the consumer is back spending money she/he does not have • Small businesses are still reporting difficulty accessing credit • Lending standards have been tightened and it is preferable to stay away from what caused our downfall in the first place, GSEs now represent 90% of the MBS market
Total Debt Picture
• Total US debt as a percentage of GDP is skyrocketing • The last 30 years of growth have been fuelled by an expansion from 160% to 380% of the debt to GDP ratio: we simply cannot keep carrying on • The savings rate after briefly flirting with 7% is
now back to 3% and headed lower; it is dramatic 5
Expand Public Spending? Highlights
Some Pictures Are Worth 1,000 Words
• Since 1970 federal spending has increased 7X as much as the median income • Since 1980 the 5th percentile for household income has grown at 3 times the annual pace of the average household income • Total Public Debt Outstanding grew by $4Tr since the end of 2006 • Many worry that excessive issuance will lead to failed auctions resulting in a dangerous bear market for US Treasuries • Japan went down the path before us; 20 years later all they have is a 200% public debt to GDP ratio to show for it along with a soon-to-be negative savings rate
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Between a Rock & a Hard Place • Consumer credit has not restarted meaningfully yet, and public debt is reaching worrying levels so the government cannot keep acting as the engine of growth much longer • Q2 numbers will impress because of inventory rebuilding but once that momentum abates the scrutiny on federal spending as the only engine of growth will intensify intensi fy
scenarios : • Two possible scenarios: Private
sector lending rises again holding growth between 2.5% and 3.5% until the inventory cycle peaks, then closer to 2% once the government progressively pulls out stimulus and the cycle peaks
The
federal government is forced to step up again as private sector growth falters again
• Two scenarios for the economy yet three scenarios for the bond market: The
economy grows enough for the federal government to pull back spending and the t he Federal Reserve to normalize rates in 2011 avoiding a financing crisis: 10% probability
The
economy slows and government spending keeps expanding to maintain growth in a slump that carries on for several years: 70% probability
The
US faces a refinancing crisis after other countries default due to the same problem: 20% probability 7
The Deflationary Case Highlights
US Demographics
• Demographics are going to play a fundamental role in the next 20 years and it starts now • Using a distribution of the average salary as a function of age, the aging of the baby boom generation has been a major boost to GDP since the 70s contributing as much as 2% and 1.5% on average • For the next 30 years demographics will only contribute 0.65% on average • The 65-year old or older population is going to grow between 1.7% and 2.5% over the next 30 years against 1.15% on average over the last 20 years
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We Are not Alone Highlights
China’s Demographics
• Aging in China will be exponentially worse due to the one child policy • Also add in the fact that there are 58% men when the “natural” observed population split is 48% men and 52% women • Currently the percentage of the Chinese population which is outside of the workforce is 43%. Starting in 2012 this number is going to move up to reach 60% in 2060 • It will reach 50% before 2020
currentl y 35% according • In the US this number is currently to the official BLS releases; it has moved up from 33% in the last 10 years
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Aging & Demand for US Treasuries U S Treasuries, but very little comprehensive work is done • There is a lot of talk about excess supply of US regarding demand • People are concerned about foreign demand for US Treasuries, but the USD remains the world reserve currency,, and the US Treasury market is the currency t he biggest and most liquid: what is the alternative? al ternative? • Aging usually implies a more conservative portfolio allocation. Rule of thumb for investing states that your fixed income allocation should grow by 1% every year
circul ation • People over 50 own over 80% of the assets in circulation • American people own $41Tr of assets, a change of +1% in their asset allocation towards fixed income represents $410Bn of additional demand • If the baby boomers own 80% or more of the assets, they could represent an additional $328Bn of additional demand every year • A system which is overleveraged cannot afford high rates without triggering a jump in defaults, lower equity prices, and in turn a higher demand for Treasury bonds
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Impact of Age on Yield Highlights
30Y Treasury Yield
• Consequences of an aging population and excessive liquidity held by the older generations means slower growth and low yields
Treasury yields moved down from fr om 14% to • 30Y Treasury 4.7% over the last 30 years • IG credit spreads have recovered over 80% of the widening due to the 2008 crisis • In 2007 you were only paid 33bps a year to own IG credit risk
IG 5Y CDS
• It will all end in tears with skyrocketing interest rates but until then we are stuck in a low l ow yield environment that can last for some time if we believe modern Japanese history • How to invest in such a binary environment?
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Consequences on Investing • Buy and hold made increasingly harder as yields are decreasing and make the benefits of holding less attractive relative to the dangers in the case of a crisis • Electronic trading, retail brokers, and faster circulation of information, have accelerated the speed at which capital moves across asset classes • It is becoming increasingly important to allocate a greater share of a investment portfolios to tactical strategies capable of thriving in any environment, relying on liquid markets which all ow rapid liquidation if necessary, necessary, and benefitting from market mark et volatility • Financial Futures are the ideal product for tactical allocations: Abundant
liquidity
Transparency Scalability No
credit risk
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Benefit of US Treasury Futures st rategy set-up to outperform other fixed income vehicles • US Treasury futures allow you to build a strategy irrespectively of market conditions • Enhance return when rates are static by capitalizing on the option premium embedded in the US Treasury futures
rat es by buying US Treasury futures thereby selling the embedded option which • Benefit from lower rates loses value as rates move down rat es by selling US Treasury futures thereby owning the imbedded option • Benefit from higher interest rates which increases in value as rates move up • Lower transaction costs mean less dilution of performance • No issue with illiquid bonds in the case of market disruption
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FAQ & Appendices Contact Details
•ICAP Futures Sales & Trading •Dean Aldrich •Michael Law rence
•Nicolas Lenoir
www.icap.com 212-815-6802 Vice President
[email protected] Vice President
[email protected] S. V. P.
[email protected] Chief Market Strategist
Disclaimer: Discl aimer: There are risks inherent inherent in trading, including including the risk of loss greater greater than the original investment. investment. The opportunity opportunity for profit creates creates a corresponding risk of loss. Anyone wishing to invest in any of the products mentioned should seek their own financial or professional advice. ICAP Futures LLC is a member of the National Futures Association and registered as an FCM (NFA ID # 293651)
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