“Global markets are going wild today. The big bet against the Japanese yen is unwinding, and the dollar is getting crushed against a host of currencies around the world (the dollar index is down a sizable 1.3%).

Many of these currencies come from emerging markets (EM), which have been tanking over the past few weeks against the dollar as U.S. Treasury yields have risen.

And the losses in EM haven’t been limited to currencies – stocks and bonds have taken a hit as part of the EM sell-off as well.

The big sell-off in the dollar today is a reversal of this trade. Now, everyone is looking ahead to tomorrow’s jobs report in the U.S., which could be a crucial release in terms of determining which way the momentum in global markets swings.

Will a better-than-expected jobs number confirm the strengthening dollar story of the past few weeks, or will a worse-than-expected number provide more fuel for the dollar sell-off as fears that the Federal Reserve will have to remain accommodative for longer begin to seep back into the marketplace?

Société Générale Head of Emerging Markets Strategy Benoît Anne asserts that either way, it doesn’t really matter for EM.

In a note to clients today, he writes:

No matter what happens tomorrow, sell GEM assets…”

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“In the last month, the economy gave us some particularly worrisome economic data.

Societe Generale’s Albert Edwards flags two data points: Q1 corporate profit growth, which unexpectedly turned negative, and the May ISM manufacturing report, which is now signaling a contraction in the sector.

“History tells us that this is a warning sign we ignore at our peril,” he wrote.

Edwards notes that the ISM numbers have been on the same path as they were going into the last recession.

But he believes that the ISM’s signal isn’t quite as powerful as the signal being sent by the corporate profits report. From Edwards:

The US just released its Q1 corporate profits update with the GDP data. These give a less timely but more comprehensive snapshot of what is going on with corporate profits than the S&P data. Most commentators agree the BEA data is less subject to ‘manipulation’. The Q1 data showed profits falling a tad on virtually every definition, My preferred measure is pretax economic profits of domestic non-financial companies which history suggests is a good predictor of domestic investment growth (see chart below). Profits for us are a leading indicator for corporate spending. Hence, with profits essentially flat for the last four quarters, history suggests this is not good news for the economy.

Here’s Edwards’ chart:

Societe Generale

Edwards has subscribed to the work of John Hussman and James Montier who have argued extensively that record high profit margins are unsustainable and would inevitably revert to the mean. Profit margin contraction would translate into crumbling profits, which would ultimately take the legs out from under the stock market….”

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“The stock market has risen steadily since November without any sort of significant pullback.

Since May 22, however, there’s been an exciting twist: stocks have been going down.

At yesterday’s closing level of 1609, the S&P 500 is now down 4.6% from the 1687 high on May 22.

Miller Tabak’s Chief Technical Market Strategist Jonathan Krinsky says now, “all eyes are on the [S&P 500’s 50-day moving average],” and asks, “Will it hold?”

In a note to clients this morning, Krinsky writes:

We have been looking for the SPX to test its 50 DMA, which currently sits at 1604. Specifically, on Monday we wrote:

“…as we look ahead into June, we think the odds of an 8th consecutive monthly gain become slim. That is not to say we are expecting a major downturn, but we think a test of the still rising 50 DMA around 1600 should not be surprising. 1597-1600 also represents the April highs. Below that, the 1576 area will likely be defended as it was prior resistance from October 2007, and represents a major multi-year breakout level.” …”

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“Global markets will face increased volatility as central banks bring interest rates back to normal levels, JPMorgan Chase & Co. (JPM) Chief Executive Officer Jamie Dimon said.

“We should all hope for a normalization of interest rates — that’s a good thing,” Dimon said today during a panel discussion at the Fortune Global Forum in Chengdu, China. “As we go back to normal, its going to be scary, and its going to be kind of volatile.”

Investors have been encouraged to buy riskier assets as global central banks unleashed unprecedented monetary stimulus after the financial crisis of 2008. Concern that the policies would be reviewed grew last month following comments from Federal Reserve Chairman Ben S. Bernanke.

Price swings across assets and around the world are holding below historical aver…”ages.

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“It all seems so surreal. After being mesmerized by the Fed’s hallucinogenic “Quantitative Easing,” (QE) drug, and seduced by the Fed’s Zero Interest Rate Policy (ZIRP), and rescued by the Fed’s clandestine intervention in the stock index futures market, for the past 4-½-years, it’s easy to forget that there was once a time when the Fed’s main policy tool was simply adjusting the federal funds rate. It’s even harder to recall that two decades ago, the Fed’s raison d’être was combating inflation, whereas today, the Fed’s main mission is rigging the stock market, and inflating the fortunes of the wealthiest 10% of Americans.

The central bank’s purpose is to get ahead of the inflation curve,” declared Wayne Angell, one of the seven governors of the Federal Reserve on June 1^st, 1993. Angell had a reputation as a Fed hawk, and he was pushing for a tighter monetary policy, even before an uptick in the inflation rate showed-up in the government’s statistics. “If we’re ahead of the curve, our credibility and the value of our money is maintained. Some of my economist friends tell me, ‘We don’t feel much inflation out there, but we feel better knowing that you’re worried about it.” Thus, there was a time when savers received a positive rate of return on their money.

Two decades ago, the Greenspan Fed was stacked with hawkish money men. And because their tenures lasted for 14-years, they felt immune to the winds of politics. Thus, if the Fed governors were to make unpopular decisions to hike interest rates, in order to bring inflation under control, or burst asset bubbles, so be it. Of course, it’s much different today – the Fed is stacked with addicted money printers that are beholden to the demands of their political masters at the Treasury and the White House. How did Fed policy swing so radically from Angell’s day – when Fed tightening meant lifting the federal funds rate and draining excess liquidity, to today’s markets, – where a small reduction in the size of the Fed’s massive QE injections is considered to be a tighter money policy?…”

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“Over the last few years the Financial Industry Regulatory Authority (Finra), the brokerage business’s industry-financed watchdog, has been formally warning investors and retirement savers about the risks of buying into obscure, privately traded investment products that promise high yields. Soon, according to its chief executive, Finra will issue a similar warning about an investment category that generally enjoys a more distinguished reputation: Hedge funds.

Richard Ketchum, Finra’s chairman and CEO, discussed the issue this week at a conference of Reuters reporters and editors; Reuters has the story here. He noted that savers in general, leery of stocks and frustrated with low interest rates, have gotten  themselves into trouble putting money in products likeprivate real estate investment trusts and business development companies that invest in privately held firms—vehicles that don’t trade on public exchanges, don’t disclose much about their holdings and….”

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“The recent bond market tumble will likely carry over into stocks, says Pimco CEO Mohamed El-Erian.

The 10-year Treasury yield jumped to a 13-month high of 2.23 percent last week and stood at 2.15 percent Tuesday night.

“May was important because every source of carry was under attack — interest rate risk, credit risk … whatever you name — came under attack,” El-Erian told CNBC. 

“My sense is that some of it will continue, … and there will be some cascading down into equities.”

The fundamental problem is that the Federal Reserve’s quantitative easing (QE) program “is taking virtually every financial asset to artificially elevated prices,” El-Erian said. “There’s a huge disconnect between prices and fundamentals.”

“The hope that’s priced into the market is that we’re going to replace artificial growth with real growth,” he noted, but so far that hasn’t happened.

“QE is a medication that comes with a warning, which says: ‘Do not use it for a long time because you’ll get side effects,” he quipped.

So how should investors deal with this difficult dynamic?

“Do what Pimco has been doing now for a few weeks, which is to pull back from risk, pull back from surfing this wave of central bank liquidity … and step back from risk a little bit,” El-Erian suggested….”

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If those reforms succeed, they would also transform China’s model of state-sponsored capitalism in ways that could level the playing field with trading partners like the U.S….”

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“The Shiller P/E ratio, or the cyclically-adjusted price-earnings ratio, is one of the most popular yet most misused measures of stock market value.

It’s calculated by taking the S&P 500 and dividing it by the average of ten years worth of earnings.  If the ratio is above the long-term average of around 16, the stock market is considered expensive.

Currently, the Shiller P/E is at 24.

While this certainly looks expensive, it would be a mistake to assume that stocks are doomed to crash until the ratio rights itself….”

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“It’s no secret that since 2008, most hedge funds have lagged the S&P 500. Because of that, now the world’s richest families are starting to wonder if hedge funds are really worth their incredibly expensive price tag.

And they’re starting to ask hedge fund managers some tough questions about it.

Yesterday, Bloomberg hosted a conference called “The Hedge Funds Summit” for (you guessed it) hedge funds and the people that invest in them. Many of the attendees were from Family Offices — investment houses where the fortunes of the world’s wealthy are put to work.

As you can imagine, hedge funds want a piece of that action. That’s why a solid portion of the afternoon was spent discussing Family Offices, though hedge funds probably didn’t like what these juicy potential clients had to say.

“We’re quite skeptical in general… of the hedge fund industry,” said Andrew K. Tsai, Co-Founder and managing principal, Chalkstream Capital Group.

Sixty-one percent of all hedge fund money is concentrated in the hands of the top 100 hedge funds, and Tsai went on to say that that concentration makes for some wacky correlations his office would stay rather away from.

However, Tsai did say that his office is willing to seed smart hedge fund managers that have solid strategies for specific sectors.

“We don’t think of hedge funds as an asset class, we think of them as a way to get exposure to something,” said John O’Hara, Senior Advisor and Managing Director, Rockefeller & Co…..”

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“The U.S. Federal Reserve is poised to evaluate and potentially make changes to its massive monetary stimulus, a top Fed official who is critical of the Fed’s bond-buying program said on Tuesday.

“The plot now thickens,” Richard Fisher, president of the Dallas Federal Reserve Bank, said. He likened developments in the Fed’s monetary policy to a Shakespearean play starring a “daring captain,” Fed Chairman Ben Bernanke, steering the ship of the U.S. economy.

“Act IV, just beginning, will involve the drama of introspection, with the FOMC evaluating the utility of its navigational tactics, and, perhaps, fine-tuning them, if not altering the course,” Fisher said, referring to the Fed’s policy-setting Federal Open Market Committee, in remarks prepared for delivery to the C.D. Howe Institute Directors’ Dinner in Toronto. Fisher is not a voting member of the committee this year.

Asked if he was concerned about the impact of rising bond yields on the economy, he said it should be monitored but that policymakers could not let markets dictate policy.

“We cannot live in fear that gee whiz, the market is going to be unhappy that we are not giving them more monetary cocaine,” he said…..”

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“WASHINGTON (AP) — The Treasury Department says it will sell an additional 30 million shares ofGeneral Motors stock this month in its on-going effort to dispose of all of its remaining shares of the giant automaker acquired as part of the government’s bailout of GM.

Treasury said Wednesday that it would sell its shares in conjunction with the sale of 20 million shares of GM stock held by the UAW Retiree Medical Benefits Trust, bringing the total size of the sale to 50 million shares.

In December, Treasury sold 200 million shares of GM stock…”

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“Japanese shares declined, with the Topix index deepening its correction, after Prime Minister Shinzo Abe’s speech on the country’s growth strategy disappointed investors and the yen strengthened.

Exporters such as Toyota Motor Corp. (7203) and Sony Corp. fell. Financial shares including brokerages, insurers and banks dropped. Tokyo Electric Power Co., also known as Tepco, led utilities lower after Abe failed to mention restarting the nation’s nuclear plants. Dentsu Inc., which has exclusive Asian broadcast rights for the 2014 World Cup, jumped 2.5 percent asJapan became the first team to qualify for the soccer tournament.

The Topix fell 3.2 percent to 1,090.03 at the close of trading in Tokyo, after initially rising as much as 1.2 in the afternoon session when Abe started his speech. The Nikkei 225 Stock Average lost 3.8 percent to 13,014.87, with volume 5.7 percent below the 30-day average. The yen gained to 99.59 per dollar after weakening to as much as 100.46 earlier.

“We’re going to have to reduce our expectations for Abenomics,” said Ayako Sera, a strategist at Sumitomo Mitsui Trust Bank Ltd., which has the equivalent of $325 billion in assets. “The initiatives are too small. The direction is right but the comments are all long-term. It looks like things are going to move too slowly.”

Abe’s speech outlined his growth strategy, the “third arrow” of an economic revival plan that seeks to build on his first two arrows, fiscal and monetary stimulus.

Third Arrow…”

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“It’s no secret that I think the BOJ is making a mockery of the Japanese stock market and is in the process of implementing extremely dangerous policy.  This form of explicit asset price targeting puts the cart before the horse and misunderstands the role of secondary markets, in my opinion.  And now the upside volatility is coming home to roost as the Nikkei is off a quick 16%+ from its recent highs in what looks like the “poverty effect” that inevitably reverses a “wealth effect” built on quick sand.

As Sober Look notes, Nikkei volatility is now at its highest levels since the Fukushima Nuke disaster.  This shouldn’t be terribly shocking.  Trying to stabilize and control inherently volatile asset classes is not unlike trying to tame a tornado. And that’s a big part of the equilibrium based economics so many economists rely on these days.  The economy is not a linear or stable system.  It is in a constant state of disequilibrium which can often be made even more unstable when policy is misguided.

So where to now ? ….”

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“The stock market rally will continue for the next two years, renowned economist Nouriel Roubini told CNBC.

Roubini, a professor at New York University, is known for correctly predicting the housing bubble and ensuing financial crisis.

His forecast for a long-running stock rally seems at odds to his reputation for predictions so pessimistic they sometimes seem to border on the apocalyptic. 

But Roubini, who runs Roubini Global Economics, explained that stocks have room to run because the economy is performing poorly. That means the Federal Reserve will maintain low interest rates through quantitative easing (QE).

“Growth is not going to pick up and inflation actually is falling,” Roubini told CNBC. “So the markets are worried about tapering off sooner, but I think tapering off is going to occur later and, therefore, the market is going to rally.”

Many observers credit the Fed’s QE program for boosting the stock market.

However, the good times for equities will end when the wealth gap between Wall Street and Main Street becomes too large, Roubini warned. Eventually, the economy will have to accelerate or stocks will face a correction. …”

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“Don’t count on the American consumer to drive this economic recovery, according to Stephen Roach, a senior fellow at Yale University’s Jackson Institute of Global Affairs and former chairman for Morgan Stanley Asia.

Some say falling unemployment, rising home values and record stock prices mean consumers are back spending.

Nonsense, Roach writes in an article for Project Syndicate. The American consumer is definitely not OK.

Consumer demand has been its weakest since World War II, rising at an average annual inflation-adjusted rate of just 0.9 percent since 2008, a “massive slowdown” from pre-crisis growth of 3.6 percent.

Household consumption represents 70 percent of the U.S. economy, so anemic consumption has cut 1.9 percentage points off gross domestic product growth, Roach says.

“Look no further for the cause of unacceptably high U.S. unemployment.”…”

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“May’s M-PMI raises yet another warning flag about the flagging prospects for S&P 500 revenues. Nevertheless, I still expect that global nominal GDP will increase by 5% this year and 5% next year. Revenues should grow by at least as much. However, the latest data points aren’t supportive of this relatively upbeat outlook.

The M-PMI is highly correlated with the y/y growth rate in S&P 500 revenues. The latter rose only 1.3% during the first quarter. The purchasing managers’ index suggests that this growth rate might have worsened rather than improved…”

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“In his latest piece, Nomura economist Richard Koo examines the recent crash in the Japanese stock market, which has tumbled 15% since just March 22.

“The prevailing view is that we are finally seeing a reaction to this excessively rapid move, and if so this is a healthy correction,” he begins. “The reality, however, may be somewhat more complicated.”

Koo argues that the primary driver of the big upward move in the Japanese Nikkei 225 so far has been hedge funds outside of Japan who were previously betting against the euro.

Then, last September, when the ECB introduced a new monetary stimulus program that undermined the fear in the market that the euro could collapse, those international hedge funds had to find something else to bet against.

Koo writes (emphasis added):

Late last year, the Abe government announced that aggressive monetary accommodation would be one of the pillars of its three-pronged economic policy. Overseas investors responded by closing out their positions in the euro and redeploying those funds in Japan, where they drove the yen lower and pushed stocks higher.

I suspect that only a handful of the overseas investors who led this shift from the euro into the yen understood there was no reason why quantitative easing should work when private demand for funds was negligible. Had they understood this, they would not have behaved in the way they did.

Japanese investors, Koo asserts, did understand this. That’s why they didn’t join in when international hedge funds started buying up Japanese stocks in size (emphasis added):

“Even though the moves in the equity and forex markets were led by overseas investors with little knowledge of Japan,” says Koo, “the resulting improvement in sentiment and the extensive media coverage of inflation prospects forced domestic institutional investors to begin selling their bonds as a hedge.”

That selling caused yields and volatility to rise in the Japanese government bond market, which spooked investors and arguably sparked the big unwind in the Nikkei trade.

But why should rising bond yields be such a bad thing for the “Abenomics”……”

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