Yesterday I asked people on FinTwit to ask questions about how QE works and what are its consequences on the economy and asset prices, and I promised to answer to the 10 most interesting questions.
Here we are: the questions were awesome, buckle up!
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Q: ''Why does the following QE process NOT create money? An asset manager sells a gov bond to the CB & receives a bank deposit, which it can use to buy a new bond from the gov, which in turn can spend the proceeds of that new bond sale into the real economy''
A: in this example, the only creator of inflationary forms of money is the government that prints additional deficits; the Central Bank simply swapped the gov bond for a bank deposit on the asset manager balance sheet.
Let me share with you my main tools to navigate markets: The Macro Compass.
It's a cross-asset allocation tool that serves as a big picture indication of what's coming next, and it helped me generate excess risk-adjusted returns over the years.
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The Macro Compass is a 4-quadrants asset allocation tool, which uses two main inputs: the global credit impulse and the relative monetary policy stance.
The global credit impulse is my prop indicator that measures the pace of growth of credit creation amongst G5 economies
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Credit creation is the real ''money printing'': when credit gets extended, new money is created out of thin air and handed over to the private sector
Commercial banks (net lending) and governments (net fiscal spending) are responsible for the lion share of credit creation.
Evergrande panic? I can almost hear you asking for it...here is your Chinese thread!
From a panoramic macro perspective, chances that a widespread financial market panic unfolds are relatively low - it will mostly depend on the Chinese authorities reaction.
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The chart below shows the % of Chinese households wealth in real estate - 74%, quite high.
For comparison, US households own <30% of their wealth in real estate.
This tells us:
- The Chinese economy is not very financialized
- Real estate matters for the CH household
How much?
74% of wealth concentrated in real estate is quite a lot, yes.
But 74% of what?
The chart below shows Chinese HH net assets (value of assets - liabilities).
In 2019, Chinese household net assets were RMB 500 trn = approx. 70k USD net wealth per each Chinese adult.
People obsess about outright yield levels, but curve shapes are at least equally important.
The US yield curve has been flattening relentlessly since May this year - chart below shows the yield differential between 5y and 30y US bonds.
This is paramount important.
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Yield differentials between short and long-end of the curve inform you about investors’ expectations on interest rates years down the line.
A steep yield curve means investors demand compensation (term premium) to own long bonds vs rolling ownership of short bonds each time
Premium for what risk?
It can be inflation, (real) duration or credit risk.
In this case, the curve has become flatter so investors demand less premium to own long end bonds - the distribution of probabilities of future interest rates has become easier to predict.
Very unpopular take, but backed by facts.
And I care much more about facts than opinions.
House prices are NOT expensive, when measured as one should reasonably do: in real terms, assuming a 10% down-payment and the remaining 90% financed with a fixed-rate mortgage.
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The median US house price has gone up 2.4x times since 1990.
In real terms, we are looking at a whopping 70% price increase over the last 10 years.
But houses are not paid for 100% in cash.
The median home buyer finances 88% of the house price with a fixed-rate mortgage.
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What's really relevant is how much these mortgage installments weigh on your net monthly income.
The red line in the chart measures just that, with the index = 100 in 1990 for comparison.
So how can (mortgage payments / real wages) be pretty low if house prices are high?
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