Retail Sales Above Expectations But Prices Decline - SCB, HUI
Swedish retail sales for February increased 6.9% YoY, faster than the consensus forecast 5.2% (Bloomberg). Retail prices on mostly food fell 0.7% during the month, and on mostly durables they fell 3.6%. According to the Swedish Research Institute of Trade, HUI, whome publishes the figure together with Statistics Sweden, SCB, the fall in prices was due to "Many reasons", among them a "relatively strong Krona, technical development and a trend towards inexpensiveness (billighetstrend)".

Economists, Noise-Traders and Journalists Happy Together

One of the large public Swedish pension funds, AP3, indicated last week that they had sold out their entire holdings of (Swedish) bonds, among those the inflation-protected. Considering the long-term nature of the funds' cash-flows, which the bonds probably to some extent matched, this must be seen as is a huge bet on an (faster than implied by the yield curve) increase in long-term interest rates. I've personally seen how such a bet have been made: the trader needs risk in his or her portfolio. He or she also need a good arguments behind that risk-taking, arguments that should point to in what direction the risk should be taken (black/red manque/pair). The (macro-) economist, who has been shouting for a long while about a bond-bubble and unsustainably low levels on bond yields in particular and interest-rates in general, is happy to eventually find someone who listens. If the bet fails, as it has before, they blame each other and others have to pay.

The most annoying part in the current story is that the journalists at Svenska Dagbladet (Swedish leading daily conservative) happily have refrained from doing their job, uncritically referring to the huge short-position on bonds by writing that AP3 has "reduced the risk in their interest-rate bearing portfolio". Technically true, but in its context a lie.

Do Low Long Term Interest Rates Really Confuse Greenspan?

In Greenspan's testimony yesterday, he seemed to embraced the view most economists share today: that the world's long term interest rates are unexplicably low. Good for economist then; not even the guru can explain this, how could we? For instance, DeLong is happy to quote: "The Fed chief said it was hard to explain why long-term interest rates have declined in the face of the U.S. central bank's short-term rate increases." However, looking closer, Greenspan actually explains quite a lot of the world economies newly opened sources for capital which eases the need for funding over the capital market and lessens upward pressure on yields:
"There is little doubt that, with the breakup of the Soviet Union and the integration of China and India into the global trading market, more of the world's productive capacity is being tapped to satisfy global demands for goods and services. Concurrently, greater integration of financial markets has meant that a larger share of the world's pool of savings is being deployed in cross-border financing of investment."
he says. He hence seems more puzzled over the very last rally in bonds, not the since several year established low long term rates. He continues, sayint that:
"none of this is new and hence it is difficult to attribute the long-term interest rate declines of the last nine months to glacially increasing globalization."
Now the time has come to express a different opinion. Hasn't the continuing unbroken pace of the globalization surprised markets. Abolishing of textile quotas? China's growing demand for oil? Long term contracts for oil, the very same ones that Greenspan is referring to have become more than 50% more expensive in these "last nine months". Consider then that the increased need for crude oil comes from new industrial plants that China have built without net external funding. The case is actually that they simultaneously have build up new crude guzzling industries while simultanousely beeing increasingly larger net-exporters of capital! This nine month development clearly have surprised at least the oil market, and from that perspective it would be most appropriate to talk abot it as brand new, at least in a quantitative sense.

Greenspan concluded his speech talking about human capital, or "skill":
"workers will need to acquire the skills required to compete effectively for the new jobs that our economy will create. ...We need to reduce the relative excess of lesser-skilled workers and enhance the number of skilled workers by expediting the acquisition of skills by all students, both through formal education and on-the-job training."
This is of course most important, and also helps explain the low level of interest rate. While processes in Asia is adding human capital to the world market (at least implicitly so via their export markets), interest rates are as already mentioned pushed down through lower overall demand for capital. But as Greenspan points out, the return of human capital decreases, and the US worforce needs to add skills to keep its share of returns, to keep up its wages. Now, if workers leave factories for schools, they would need funding to cover for lost wages, putting upward pressure on interest-rates. However, in "on-the-job training", they may well be able to simulateously produce (and hence save), and invest in their own increased skill. Much the same way as China have managed to be net-exporters while rapidly builing up their own industry. I can only speak for myself, but I clearly didn't learn in school the digital communications tools and software package I'm using in everyday work!

War Really Sucks (Dresden Edition)

Sixty years after the allied air raid that probably killed more than 35 000 people in Dresden, mostly civilans, the terror-bombing is still a crime against humanity that is not forgotten. And with the inevitable and tragic logic of violence, it has now become a propaganda tool for Nazis.

CO2 Allowances on Nordic Electricity Exch.

Allowances to emitt carbon di-oxide, the bulk bi-product from burning fossil fuels, are now trading at the nordic electricity exchange Nord Pool: CO2 Allowances The allowance are given under the EU Emission Trading Scheme, and the purpose is to "counter the threat of greenhouse gases". Currently trading slightly above 7Eur per (metric) tonne, it would cout about 3Eur to buy allowances to burn a barrel of oil (using the formula for heating oil here). Burning the barrel gives about 1.7 MWh of thermal energy, from which one could perhaps produce 0.5 MWh of electricity. Each MWh produced this way would hence cost an extra 6 Eur if one would have to buy emission allowance. The MWh is now trading around 20 Eur. Analysts have estimated the price impact from new CO2 rules to be about 4 Eur/MWh. It might be useful to keep an eye on these figures for us Scandinaves. One tend to think that electricity is produced by nukes and hydropower facilities, but the Danish coal-powered plants should not be forgotten in this.


As I've got some readers to this post sent to me from the Swedish blog "Sänd mina rötter regn", I just thought it should be worth to update the post. According to people referred to as trustworhty sources from within the industry, their estimates for the price-increase on Nordic electricity is 25-50 Norweigian Krona per MWh, less than 2.5-5 Eur/MWh.

A Technical Note on Volatility Feedback

A note for those interested in the relationship between expected risk and expected return. This relationship makes itself felt for instance in the negative correlation between moves in index-option volatility and the index-value itself, and is sometimes referred to as volatility feedback. Simply put: the reward for risk should be proportional to return variance.

Motivation: consider a two-year period during which the index-return has had an annual volatility of let's say 10%, which corresponds to an annual variance of 1%. Suppose the risk-premia has been 1% annually. In total, a risk-premia of 2% should be required for a total index-return variance of 2% and a standard deviation of 14%. Now look at another two-year period with the same risk and return, only that the first year has a known return of 0%. The second year should hence have a variance of 2%, a standard deviation of 14% and a required risk-premium of 2% to make the two-year characteristics equal the first example.

In all risky periods, the ratio risk-premia to variance is constant (=1) in the example. Note that the Sharpe ratio, risk-premia to standard deviation, is higher in the period with the highest risk.


The decrease of short-term implied volatility as indicated by the "VIX"-index from 40ish to slightly about 10% from the Enron-crisis up to today may look like risk having decreased to a 4:th. However, with index risk-premia proportional to variance, they should rather be viewd as having decreased to a 16:th. In other words, the stock market has already collected most of the gains from risk-reduction since Enron fell. Don't expect any good stock-index returns before risk expectations have found reason to rise again.

Popular Posts