26/3/2014: 13 months on, the Promo Notes deal stinger is still in...

Back in September 2013 I wrote in Sunday Times that ECB might want to consider accelerated disposal of the Government bonds held by the Central Bank post-restructuring of the IBRC Promissory Notes: http://trueeconomics.blogspot.ie/2013/10/8102013-german-voters-go-for-status-quo.html

And now, guess what... http://www.irishtimes.com/business/economy/pressure-to-offload-long-term-bonds-in-promissory-note-deal-over-ecb-unease-1.1737924#.UzJ8fqxmKCE.twitter

Per Irish Times article linked above:

"Ireland is facing pressure to offload the long-term government bonds it issued as part of last year’s promissory note deal and at a faster pace than the timetable originally outlined, amid continuing concerns from the European Central Bank about the deal.

The ECB is reviewing the controversial promissory note deal as it prepares to publish its annual report for 2013.

… A crucial aspect of the promissory note deal agreed last year after months of negotiations was the length of time the Central Bank would hold the long-term bonds that replaced the promissory notes."

I have consistently argued that promo notes restructuring represented the perfect target for debt relief for the state. One example is here: http://trueeconomics.blogspot.ie/2012/03/2132012-anglos-promo-notes-perfect.html. And I highlighted our 'deal's' sensitivity to earlier disposal of bonds here: http://trueeconomics.blogspot.ie/2013/03/2332013-sunday-times-10032013.html (see bottom of the article for box-out).

26/3/2014: Comment on Russia: Expresso, March 22

My comment to Portugal's Expresso on Russian economy:

24/3/2014: Russian Roulette or a Wheel of (Risky) Fortune?

What to expect this week on the Russia v the Western World stage:

1) More theatrics or threatatrics: so far the sanctions delivered amount to not much more than a buzz of a mosquito in the June midnight - weakly threatening, largely painless. In fact, current state of sanctions-for-Ukraine play is causing no impact on the real economy of Russia, although financial markets are showing their usual propensity to panic. The problem, however is that the current sanctions pretty much exhaust the list of political sanctions possible: selective travel bans and individual restrictions on two banks and a handful of banks accounts can be expanded in size, but to shift sanctions to the next level of pain will require disrupting trade flows. Thus, the EU/US are now holding their mild trump card of more broadly-based sanctions and this is weighing on the Russian markets through heightened uncertainty channel.

Given the unaltered status quo in Ukraine-Russia relations, compounded by the fact that President Obama and G7 are about to start series of week-long deliberations in Europe, as well as physically in Kiev, we can expect more sabre rattling this week. I expect the threats of further sanctions, isolation and financial ostracising against Kremlin to  intensify in the next 3-4 days, but die out thereafter. The key to this timing is that the US and EU have already explicitly drew the line in the sand - status quo of weak sanctions will remain in place, assuming Russia stays out of Eastern Ukraine. The only two unknowns here are:

• Will Russia stay out of Eastern Ukraine? My view here is that it will. We are more likely at the end of the game, than in the opening rounds.
• Will Eastern Ukraine stay calm with no acceleration of currently rather subdued protests by pro-Russian groups? My view is that this is the key threat and that despite the West's firm belief to the contrary, the Kremlin has little control over the situation on the ground when it comes to the pro-Russian protesters. Thus, the real uncertainty here is whether or not Eastern Ukrainian opposition and Kiev Government will be able to refrain from forcing Moscow's hand.

2) Over the next few months, assuming no escalation in the conflict, we can expect gradual reduction in political risks and a swing in markets pricing of risks. Currently, markets price risks asymmetrically, to the upside. This means that any adverse newsflow will trigger a broad sell-off in Russian indices. If there are any signs of political normalisation, especially tied to bilateral risk declines on both Ukrainian and Russian sides, the markets will start pricing risk to the downside and indices can rally even on weaker news. The next two points discuss the catalysts for such switch in risk pricing.

3) Ukraine is about to start dealing with the problems of state and economic collapse. This will involve, first and foremost, the discussions with the IMF, EU and US on the financial bailout. Given the role Russia plays in this (Ukraine owes Russia significant amounts against Government borrowings and gas arrears, Ukraine is hugely dependent on Russian markets for supply of energy and major inputs into industrial production, and demand for its exports) this process is bound to start drawing Ukraine into more cooperative mood vis-a-vis Russia. Russia also holds a major trump card against Ukraine in the form of gas prices. Comes April 1, Ukraine will lose its gas discounts from Gasprom and will be facing a tariff of some USD480-500 per mcm of gas from current pricing around USD268 per mcm charged since January 1. Kiev has already warned that Ukraine's domestic retail prices for gas will have to rise some 40% in order to fulfil conditions for the IMF bailout. All of this means that any bailout talks will have to involve Kremlin. And this, in turn, means that bailout talks can act as a catalyst for enhanced cooperation and de-escalation of both the conflict and the sanctions rhetoric.

4) Second stage is longer duration - as it involves political normalisation in the Ukraine. The core catalysts here will be presidential (May 25th) which may drag out into the second round (less likely) and possible late 2014-early 2015 Parliamentary elections. Given the size of the political risks discount on Russian markets, May elections should be a catalyst for the upside, although volatility will remain through the summer as new Presidential administration in Kiev starts re-asserting its role over the current Government and as the discussion on the future of presidential powers will start building up.

All above considered, my view is that we are nearing the bottom-fishing grounds for Russian equities, subject to two caveats:

• No further crisis escalation, and
• Strong investor stomach to weather incoming volatility. 

Am I alone in this call? Not exactly. Current valuations multiples on Russian stocks are at the levels last seen at the height of the 2008 crisis. By CAPE (price to 10 year average of earnings ratio), Russian equities are currently second lowest valued, after Greece. Russian core indices currently trading at around 4.8 times earnings, just over 1/3 of Indian markets valuations and just over 1/2 the P/E ratios for Brazil’s Ibovespa.

Weaker ruble favours stronger current account surplus and higher domestic earnings for companies, meanwhile high oil prices alongside the said weaker ruble favours stronger fiscal performance, giving upside to the probability of the federal government stepping in with a stimulus. Of course, ruble is probably set to lose some more ground on the USD and Euro, but it is hard to see it moving much more down.

On the economy side: growth is slowing, with 2013 coming in at lowly 1.3% GDP expansion delivered by shocks to inventories and weak fixed investments. This year, pricing in the risks to-date and a good portion of potential risks forward, the economy should generate GDP growth of just 1.0%. A rapid rebound in H2 might push that to 1.5%. Both still shy of the late 2013 projections of 2.5-2.7% expansion. January 2014 fixed investment growth was negative 7% y/y against +0.3% in December 2013.

When you look at Russian ETFs, they too support the case for going long Russian equities. RSX, iShares MSCI Russia Capped ETF and SPDR S&P Russia ETF have been supported recently on foot of insiders buying oversold Russian equities.  Per reports in the media, Vagit Alekperov, CEO of OAO Lukoil has been buying Lukoil shares, and OAO Novatek purchased 2.5 million shares between March 11 and March 14. OAO Rosneft insiders have also been buying shares in the company. These three companies account for 18% of the RSX holdings and 21.3% of the iShares MSCI Russia Capped ETF

All you need for some of the above to start rising fast is: political risks abatement and dividends uplift. Political risks are talked-through above. So to dividends: in 2013, Russian equities were the fastest growing dividend generating market in the Emerging Markets and Putin has been actively pushing Russian listed companies to up their dividend payouts to 35% of their net income.

Buckle your seat belts (they should have been bucked already, folks)...

23/3/2014: About that 'kicking' Russia out of G8?..

Much talk about sanctions, punishment and pain for Russia... and one of the cornerstones of these is the idea of 'isolating' the Kremlin. Step one in this direction was the 'suspension' or 'temporary suspension' of Russia's membership in G7+1=G8 group of countries that represent, allegedly, the largest and most powerful states/economies in the world.

Except they do not do such a thing. Today. And they will not do so in the near future either.

Here are two charts, plotting, in current US dollars, GDP of the top 20 nations. Black bars represent countries that are 'permanent' members of G7.

First, 2014 projections:

So as of now (well, end of 2014) Canada and Italy are not in G7 nor in G8, and indeed both make it into G10 by a whisker.

Now to 2018 projections by the IMF:

And so in very near (in economic and geopolitical terms) future, 3 of the current G7 members will not be qualifying for G7 membership based on economy size, and Canada won't make it into G10.

Instead, of course, the G10 (no, we do not need G7) should include today India, Brazil, Russia and China. If you are to make a club that stands for anything other than being the economic Gerontology Central, you do need to extend it to those countries that matter.

Alternatively, we can look at top 20 as a set of several distinct groupings:

• The Giants: US and China
• The Biggies: Japan and Germany
• The Toughies: Brazil, Russia, France, UK and India
• The Pull-Ups: Italy and Canada
• The Push-Ups: Australia, Korea, Mexico and Spain
• The Weaklings: bottom five

Though all of this is still pretty arbitrary and subject to adverse shocks and more glacial trends... 

One way or the other, kicking Russia out of G8 makes about as much sense as keeping Canada and Italy in G7. G8 is not a club where they drink fancy aperitifs and discuss latest Sotheby's sale. It is a club where the largest nations deal with real issues (allegedly), so China, Russia, Brazil should be in, and Canada and Italy should be out.

22/3/2014: WLASze: Architecture v Art

It has been now some time that I have posted last my once regular WLASze: Weekend Links on Arts, Sciences and zero economics.

The break was partially self-imposed and partially a necessary response to constraints of time. The latter is easily understood, The former might not be. I found myself too bound by a formulaic search for 'new' items to cover. Something that game me pleasure of looking through pages and pages of arts and sciences related posts, yet drive me into less contemplation of works I covered and more into covering… not a good place to be.

So as I am re-thinking this post format, and yet want to return with its substance of bringing forward interesting notes on arts and sciences, here is a shorter version of the post. Enjoy.

Dezeen has a delightfully challenging post on director of Zaha Hadid Architects Patrik Schumacher's challenge to the political correctness in architecture and to the definition of architecture as art:  http://www.dezeen.com/2014/03/18/architecture-not-art-patrik-schumacher-venice-architecturebiennale-rant/

Schumacher is curating this years Biennale and his argument is that "Architects are in charge of the form of the built environment, not its content, " and that as such it is not "a l’art pour l’art" discipline.

Provocative? Yes. On both points. But is it true? Is form a near-utilitarian and objective aspect of aesthetic or is it also an artistic expression? Or more strongly put - is it more of an artistic expression than a utilitarian aspect?

Schumacher opines: "We need to understand how new forms can make a difference for the progress of world civilisation. I believe today this implies the intensification of communicative interaction with a heightened sense of being connected within a complex, variegated spatial order where all spaces resonate and communicate with each other via associative logics."

Sorry, but is that not the essence of constructivism as well as, stripping out subjectivity as an expression (not the driver), also Kandinsky's theory of abstraction?

And a good expression of this interaction between spatial order, resonance and communication (on so many levels that some might imply a pun) would be constructivist Moscow's Shukhov Radio Tower.

The tower is, incidentally, in the news nowadays because of international efforts, petitioning President Putin to save it from demolition:
http://www.ctvnews.ca/entertainment/top-architects-petition-to-save-moscow-s-shukhov-radio-tower-1.1738235

Here is the actual letter: http://theconstructivistproject.com/a-letter-to-putin

There is way more to this tower than just 'form' or connection with a spatial order alone. Instead, there is subjectivity that transcends logic. Point and line in a multinational plane.

In contrast pure heightening of the sense of being linked to form - in a very rich and beautiful way that is non-artistic is in these two examples, both from Switzerland:

IMAGE: http://www.dezeen.com/2012/08/17/holzkristal-by-hurst-song-architekten/

and

IMAGE: http://www.dezeen.com/2014/03/19/house-in-balsthal-by-pascal-flammer/

So is architecture 'art'? To my amateureeing mind - yes. Is it l’art pour l’art? No. But framed in the context of space it transforms... may be it is. Afterall, intrinsic value does not have to conflict with extrinsic valuation...

22/3/2014: S&P Downgrade for Russian Outlook

S&P note in its full glory, downgrading outlook for Russia earlier this week (click on images to enlarge):

22/3/2014: If we are to be democratic about EU's powers...

In February 2014, Ipsos conducted a survey across the EU states covering voters preferences for the long-term policy they saw fit their country in relation to the future of the EU. Here is the summary of the results:

So here are top conclusions:

1. Of countries covered only Hungary expressed more than 50% preference for either formation of a single European Government or enhancing powers of the EU.
2. Of countries that expressed less than 50% preference for expanding the EU powers, Italy, Germany, and Spain showed preferences of between 45% and 49%
3. There was, on average, and across Poland, Belgium, France, Netherlands, Sweden and Great Britain stronger preferences for scaling back the EU powers than for expanding them.

While it is easy to discount the UK preferences, Poland, Belgium, France, Netherlands and Sweden all showed very strong distaste for any further expansion of the EU powers. The Netherlands and Sweden were, in fact, virtually indistinguishable from Great Britain.

22/3/2014: Mind the Gap... Primary Balances Gap...

Here's a chart from Pictet showing precisely why all the austerity has been the case of too-little-to-date when it comes to stabilising debt ratios across the euro area:

And do note 'best in the lot' country of Ireland against the 'laggard' Italy... One wonders, how Messrs Kenny & Noonan are going to plug that gap while delivering tax cuts and jobs programmes?..

22/3/2014: Russian Capital Flight and Current Account: Crimea's Punch

While sanctions against Russia have been pretty much anodyne to-date in direct economic impact terms, there are indirect effects worth considering that are worrying from the economy's perspective. Some of these are boiling down to capital flight vs inflows of funds from external balance of trade.

Chart below sets the stage through Q4 2013:

While we do not have full Q1 2014 data in what we do know is that outflow of capital has accelerated on Ukraine/Crimea news. Here's one report putting full year 2014 estimates at USD130bn so far, double 2013 recorded official outflows: http://www.themoscowtimes.com/business/article/goldman-puts-2014-capital-flight-at-130bln/496228.html. And the Central Bank has so far promised not to impose controls on outflows: http://www.reuters.com/article/2014/03/18/us-ukraine-crisis-capital-idUSBREA2H0NH20140318.

On the current account side, so far, there should be little impact. Gas flows to Europe not only remained un-impacted by the Crimean crisis, but through March 10th, these actually averaged a rise month-on-month, from around 440 thousand cubic meters per day in 2013 to around 476-477 thousand cubic meters. But the problem is that much of shipments via Ukraine is currently accumulating in the arrears account, which is hard to close in the environment of a crisis. Should Ukraine default on payments to Russia or delay these significantly, the current account side of the above funds flows will be hammered. In 2013 alone, absent the standoff in Crimea, Ukraine's unpaid arrears to Gasprom stood at USD3.3 billion. This was partially covered by a payment of USD1.28 billion made on February 14th, with current arrears of USD1.99 billion still outstanding for the balance on 2013, plus January-February 2014.

The overall arrears on Naftogaz (Ukraine's state gas imports agency) are a problem and are likely to feature in the IMF funding deal to be struck before the end of this month. Whether or not the IMF forces Ukraine to default (partially or fully) on its gas imports-related arrears is unknown, but there is some possibility this might happen.

However, as is (above chart), since 2013, Russian current account surplus already no longer covers capital outflows, which explains much of the rouble weakness in 2013 and ongoing weakness in 2014.

So what is the possible impact of the risks to gas and oil trade from Russia on Russian economy? Here are some points:

1. Gas is far less important to Russian Government revenues than oil: Gas accounts for just around 20-22% of budget revenues. Russian Federal Budget is balanced at oil price of USD115/bbl, which is falling as rouble depreciates, and now probably set around USD110/bbl.
2. Balance of payments is under a greater threat from Ukraine crisis: gas accounts for 14% of Russian exports against 50% for oil and petroleum products.
3. Russia's oil exports are only about 8% exposed to Ukraine's transit (Druzhba pipeline) and shipments are declining (2013 transit of 15.6 million tonnes against 2014 planned transit of 15 million tonnes).

Mitigating factor to all of this is the South Stream pipeline which is scheduled to ship 63 bcm of gas cutting Russian exports transit dependence on Ukraine to roughly 50 bcm and is set to become operative around 2015.

Either way, the problem for Russia in the short term is capital flight. If Estimated losses of capital in Q1 2014 are to run at USD60-70 billion (note: Capital Economics forecasts the latter figure), given stagnant or declining current account surplus, monetary authorities have three tools at their disposal:

• Allow further devaluation of the rouble (chart below shows why that is unlikely to provide much of a cushion, given already massive devaluation to-date)
• Raise rates (current rates already biting hard into economy, with further uplifts risking to push economy into a recession)
• Capital controls (politically hard thing to swallow in the current investment environment: see second chart below) 

Which means that all three measures will be tried, with primary emphasis on devaluation. This in turn means that the investment case for Russia is still weak, despite a significant fall-off in equity valuations. Bottom fishing is some time off for investors.

20/3/2014: ECB Rates and Policy Expectations

My comment on ECB policy in Portugal's Expresso:

Click on image to enlarge

20/3/2014: Trade in Goods & Trade Balance Dynamics for Ireland: January 2014

As noted in the earlier post, CSO released new data on Irish merchandise trade, covering January 2014. I discussed the validity of the argument that improved competitiveness is a driver of Irish exports here: http://trueeconomics.blogspot.ie/2014/03/1932014-competitiveness-might-have.html and as promised, now will discuss top-level data on trade flows.

Starting from the top:

Based on unadjusted (seasonally) data:

• Total imports into Ireland (goods only) amounted to EUR4.528 billion in January 2014, which is up 1.93% y/y. This is shallower rate of increase in imports than the one recorded in December 2013 (+16.9% y/y).
• 3mo cumulated imports for the period November 2013-January 2014 were up 8.2% on the same period of 2012-2013.
• January 2014 marks the highest level of monthly imports since March 2012 and the busiest imports January since 2008.
• Total exports from Ireland (goods only) stood at EUR7.0306 billion in January 2014, up 4.48% y/y, which is a shallower increase than 13.41% rise recorded in 12 months through December 2013.
• 3mo cumulated exports for the period November 2013-January 2014 were up 2.05% on the same period of 2012-2013.
• January 2014 levels of exports are not remarkable by any means possible, representing only the second highest level of January exporting activity since January 2008.
• Trade balance in January 2014 stood at EUR2.5026 billion, up 9.42% y/y which is an improvement on December 2013 annual rise of 7.18%.
• 3mo cumulated trade balance for the period November 2013-January 2014 was down 6.64% on the same period of 2012-2013.

Three charts to illustrate:

In the chart above, notice disappointing performance in exports relative to trend (red line) and to 6mo MA (black line). Also note poor performance of trade balance relative to trend and the seeming breaking out of trade balance away from the trend line down.

The same is confirmed in the seasonally-adjusted series plotted below:

So exports have risen y/y, primarily due to a truly abysmal January 2012. But exports are still trending below an already virtually flat trend. You might think of this as being a story of some short term improvement, amidst ongoing long term weakness.

20/3/2014: Latest Changes to Country Risk Ratings for Ukraine & Russia

Big drop in country risk scores for Ukraine and Russia today via @euromoney ECR :

Note: higher score implies lower risk.

Here is Ukraine's performance over time and comparative to ECE:

Note that current score is 30.43, lower than in the above chart.

And here is Russia's performance:

You can see the vast gap between two countries in terms of overall scores. Russia is running (still, even with latest decline) close to the world average and well ahead of regional average, while Ukraine clearly under-performs world and regional averages.