Interpreting Middle East Economic News and Analyzing Market Trends

Market outlook for the remainder of 2015: Negative

Financial Crisis Ahead

I recently prepared a detailed report to one of my clients on the market outlook for the rest of 2015.  The findings in the report were a bit of a shock to them, but nevertheless, they accepted them as real possibilities given recent developments.  I would like to share with you the highlights of the report so that you can prepare yourself for what lies ahead, or at least offer you a different point of view from the ‘recovery is taking hold’ crowd.  More importantly, I urge you to take a close look at the ‘elephant in the coal mine’, Deutsche Bank.

Contrary to popular belief, the global economy is not doing well and global financial markets are distorted and more fragile than they have ever been in living memory.  I have reported on this ever since this blog was launched in 2013 and covered it extensively in my book, Islamic Finance and the New Financial System.  In the past months and years we have seen many ‘canaries in the coal mine’ events and we are now faced with an elephant in the coal mine, by which I mean an event so big that it could spark the next financial crisis.  Let me explain…

 

The Problems from the last crisis were never fixed

 

I explained this in detail in a recent presentation, which can be seen here.  In it I outline the case for the next financial crisis, why it is quickly approaching and how it will be much larger than the crisis in 2008… on a global scale.

 

Recent developments

 

First of all, if we look at economies and financial markets we can see that all is not well.  In fact, all is terrible.  Last month it was reported that US GDP in the first quarter of 2015 was negative (-0.07%) compared with an expectation of a measly growth rate of 0.02%.  Then the OECD came out and said that the entire global economy is slowing down, China included.  Moody’s then announced that it expects corporate defaults in China to rise (defaults are a new event in China so watch out!).

 

Add this to the already miserable data out there… here are some recent charts: (click on the charts to enlarge)

 

Global Inflation v2

Central banks promised to save us from deflation and have failed!

WSJ Negatvie Yield

Negative interest rates on bonds defy economic and financial logic!

Oil Prices - Brent up to Feb 9 2015

Oil prices will not go back to $100 any time soon.

US-UK-Swiss-Japan Historical Bond Yields

Bond yields have NEVER been this low.

TRY MYR BRL one year to June 2015

Emerging Market currencies are quickly losing value. The Brazilian Real has lost almost 40% of its value against the dollar in the past; the Turkish Lira 27% and the Malaysian Ringgit 16%. (the Russian Ruble would not fit on this chart!)

DJI DJT vs 10-yr YTD 2015

The Dow Jones Transportation Index has diverged from the Dow Jones Industrial Average (DJIA) while the 10-yr Treasury yield has risen, a clear sign of a slowing economy (the opposite would indicate a strengthening economy).

 

I can go on to show you more charts, but I would rather get to the point.  You can check out my previous posts to learn more or listen to my presentation.  I have been sounding the alarm of the coming derivatives market crisis for quite some time and now there are rising worries that such a crisis is coming.  Let’s not forget that total derivatives outstanding according to the Bank for International Settlements is $630 trillion as of year end 2014.  Much of these derivatives (i.e. gambling bets) are concentrated in the too-big-to-fail banks:
Derivative Exposure Chart

These six banks EACH have derivatives exposure larger than the US and EU GDPs combined!

 

Warning Sign: The Elephant in the Coal Mine

 

My concern is with Deutsche Bank.  Last week the bank’s co-CEOs were sacked (I mean resigned).  This came after one of the CEOs, Anshu Jain was given more power by the bank’s board to carry out changes.  What happened in the two weeks he was given more power up to the ‘resignations’ last week?  Industry insiders are speculating that the bank’s derivatives book has problems and attempts to hide them are becoming more and more difficult.  These derivatives problems could have hit the bank due to the collapse of oil prices last year or due to the Greek debt crisis. Deutsche Bank has large exposures to both sectors.  The bank reported over $52 trillion in derivatives exposure in its latest annual report here.

 

In 2014, the bank embarked on a capital raising exercise to shore up its capital in preparation for Basel III, but also to satisfy regulator’s concerns on the bank’s balance sheet.  It was able to raise the capital but a Forbes article said that it wasn’t enough.  I also wrote about Qatar jumping in to lend Deutsche Bank a had by taking a significant stake in the bank.  I will repeat what I said last year, I don’t think Qatar knows what it bought.  I’m sure they thought it would be another quick profit as it made with Barclays after the financial crisis in 2008, but this time I’m confident that Qatar will not see a return of its investment much less a return on its investment.

 

Over the next few months we will see what happens with Deutsche Bank.  If there is a derivatives crisis, it will be the spark of the next great financial crisis.  No central bank will be able to print endless trillions to save the big banks.  If it turns out that there is no derivatives crisis, rest assured that it is coming.  I maintain a negative outlook on the global economy and markets for the remainder of 2015 based on deteriorating data across the board and the ever increasing fragility of our financial system.