Add one more brick to the “wall of worry.”
Days after reporting that the Norwegian government, pressured by the low oil price while forced to cover government expenses, has withdrawn money from the local sovereign wealth fund, the world’s largest, only for the first time in history (an amount that in H2 would be equivalent to 18% of total government spending)…
… concerns about financial viability are starting to spread within the Scandinavian country, and as Bloomberg reports, as a result of “massive stimulus inflating stocks and bonds” the tactical allocation team at Norway’s largest bank, DNB, is going long vol for the first time. The DNB unit is hedging its mixed funds by keeping duration short, avoiding rate jump risk, and is “buying volatility index contracts for the first time“, according to Torkild Varran, chief executive officer of DNB Asset Management, who oversees about 530 billion kroner ($64 billion).
“It’s vulnerable,” Varran said in an interview at his office in Oslo. “We see much more that can drag the market down than we see positive surprises. We can’t see where they could come from.”
To be sure, it’s still a relatively small position, as the fund holds less than one precent, or just 0.8% of its DNB Aktiv 80 fund in VIX index futures maturing in October 2016, as well as about 8 percent in cash however the admission that TINA is not the only option, and that there is an alternative (or TIAA), may surprise some – especially institutional – market watchers.
While hedging for an overall market decline, the DNB team is particularly negative on US utility, consumer staple and telecom stocks, sources of dividends that have gained as investors searched for steady cash flows. “If you look at some companies, there are many that have borrowed to pay dividends,” he said. “How long can you continue to do that? If you’re priced as a dividend stock and then begin to lower your dividend policy, then the effect on the stock price will be rather big.”
What Varran’s team is effectively saying is that the rush into yielding products is over, and when the revulsion kicks in, many investors who blindly rushed into dividend products will be trampled; the result will be many years of dividends gone overnight as a result of price deprecitation.
So instead of dividend stocks, the largest Norwegian banks prefers energy and technology stocks and views emerging markets as the cheapest region for equities, even as it bets against the U.S. and Japan, according to Torje Gundersen, a PM in the asset allocation team.
“Emerging markets have taken a beating,” he said. “A lot of investors were overweight emerging markets for many years but they sold off gradually as the markets fell. Then you have a pretty good mix — unpopular, fallen a lot, looks cheap. And the commodity prices that pulled them down have flattened out.” Still, considering BofA recently reported that there has been 9 straight weeks of inflows into EM stocks, we fail to see just how this particular trade is contrarian.
In any case, while the Norwegians may ultimately find EMs just as unsafe as dividend stock, at least the fund is starting to admit that the party is ending, noting that “with valuations stretched and earnings momentum weakening it’s becoming harder to find reasonable investments compared with a couple of years ago.”
“It’s not yet like 1999 as far as valuation goes, but there are indications of a bubble,” Gundersen said. “Now we’ve emptied the six shooter in all areas – the rate is zero, a lot of QE, pricing is up and growth is the same – it’s more challenging now.”
While warnings of asset bubbles are nothing new, what is surprising is that in recent weeks they have come from central bankers themselves, with Fed member James Bullard warning one week ago that “we are on the high side of fairly valued, I could see the process getting away from us, maybe tech stocks, maybe others” followed several days later Boston Fed’s Eric Rosengren, until recently a raging dove, doubled down on bubble concerns saying that “should a large negative shock occur, firms and households would be exposed to greater losses through their holdings of riskier assets than they would be if they were not reaching for yield.” He then explicitly warned that the CRE space is now a raging bubble in search of a pin prick.
Of course, we know that fighting central banks who create money out of thin air and the use it to buy bonds, and in the case of the BOJ and SNB (and in some cases facilitated by Citadel and the NY Fed) equities is folly, we are not quite sure what happens when central bankers start fighting central banks. We do know that Janet Yellen is in for a significant spike in turbulence in the coming months.