Wolf Richter: When Betting on QE Suddenly Goes Wrong

By Wolf Richter, a San Francisco based executive, entrepreneur, start up specialist, and author, with extensive international work experience. Originally published at Wolf Street.

“As we can see with the bull market in China, once a bubble forms it has an internal logic of its own and it will grow until it has outgrown all of its surroundings,” wrote hedge fund manager Crispin Odey in a letter to his investors on May 28, after a fund in his $12.9-billion Odey Asset Management company had lost a breath-taking 19.3% in April alone and was down 18.2% year-to-date.

April was “bloody,” he wrote. Negative interest rates in Europe had created a bubble that would end “badly.” He’d been caught on the wrong side on multiple levels:

In hindsight the tail wind that was the leveraged position in the US dollar against Emerging Market currencies in particular, meant that I did not respond quickly enough to the aggressive QE introduced by Draghi in December of last year and the effects of the fall in the oil price two months earlier.

He wasn’t alone. Other bets that had worked for so long suddenly went wrong too.

Andrea Giannotta’s €3.7-billion long-term euro fund at Eurizon Capital had been up 6.7% in the first quarter, benefiting from the surge of long-term bonds as the ECB’s QE pushed down yields. But when the selloff hit, these bonds got whacked and have since given up nearly all of their gains. He expected yields to continue to go up, he told the Wall Street Journal. So there would be more pain.

“Fixed income had a great ride for a long time, but in the last few weeks we have lost a lot of money,” explained Tanguy Le Saout, head of European fixed income at Pioneer Investments. Their €4.9-billion aggregate bond fund lost enough money in April to wipe out most of the 3.1% gain in the first quarter. “People expect fixed-income funds to have a positive return, and the recent selloff is questioning that,” he said.

Euro bonds had surged for years as hedge funds had been front-running the ECB’s long-rumored QE that was finally announced as a €60-billion-a-month bond-buying program in January and implemented in March. They rode it up, driving bond prices to ludicrous levels, pushing yields of many government bonds below zero.

But just as ECB President Mario Draghi was declaring victory over we still don’t know what in mid-April, these hedge funds jumped ship – and overnight, German bunds became “the short of a lifetime.”

Hedge funds were dumping bonds and shorting them. No one else wanted to buy them, at these minuscule or negative yields.

This set off a rout during which €344 billion was lost on Eurozone-government bonds alone, according to Bloomberg, and with additional hefty losses on euro corporate bonds. As all this began to sink in, fund investors yanked nearly €2 billion from euro-bond funds in the past six weeks, the first major outflows in over a year.

“Bloody” as Odey had put it so eloquently.

The ECB rode to the rescue. This sort of turmoil went against everything it had tried to accomplish. So it announced that it would frontload some of its bond-buying spree ahead of the summer, under the pretext that this would avoid having to buy so much debt at a time when European market players would be on vacation and nothing could get done.

As far as the markets were concerned, the announcement meant an additional short-term mini-QE. It stopped the bleeding. Bonds recovered some, and yields settled down. By now, the German 10-year yield, after spiking from 0.05% to 0.77% during the weeks of turmoil, has dropped to 0.50%.

All this even though the ECB’s QE has barely begun. But it shows how these bouts of QE around the globe have perverted asset pricing mechanisms. The markets front-run QE as rumors and suggestions of QE run wild, and they’re driving up bonds and stocks in the hope of QE, as they have done in Europe, and when QE finally arrives as it did in March, stocks and bonds begin to sink. German stocks, for example, are down 7.4% from their peak in early April, after having shot up nearly 50% since October.

And so central bank jawboning, rumors of QE, suggestions of QE, promises of QE, and finally QE itself work in driving up markets – until someday, they don’t. And that’s when “unexpected” turmoil sets in.

Central banks think they’re omnipotent – until they aren’t. Read… Why the Bank of Japan Can’t Stop a Sudden Collapse of the Yen

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About Lambert Strether

Readers, I have had a correspondent characterize my views as realistic cynical. Let me briefly explain them. I believe in universal programs that provide concrete material benefits, especially to the working class. Medicare for All is the prime example, but tuition-free college and a Post Office Bank also fall under this heading. So do a Jobs Guarantee and a Debt Jubilee. Clearly, neither liberal Democrats nor conservative Republicans can deliver on such programs, because the two are different flavors of neoliberalism (“Because markets”). I don’t much care about the “ism” that delivers the benefits, although whichever one does have to put common humanity first, as opposed to markets. Could be a second FDR saving capitalism, democratic socialism leashing and collaring it, or communism razing it. I don’t much care, as long as the benefits are delivered. To me, the key issue — and this is why Medicare for All is always first with me — is the tens of thousands of excess “deaths from despair,” as described by the Case-Deaton study, and other recent studies. That enormous body count makes Medicare for All, at the very least, a moral and strategic imperative. And that level of suffering and organic damage makes the concerns of identity politics — even the worthy fight to help the refugees Bush, Obama, and Clinton’s wars created — bright shiny objects by comparison. Hence my frustration with the news flow — currently in my view the swirling intersection of two, separate Shock Doctrine campaigns, one by the Administration, and the other by out-of-power liberals and their allies in the State and in the press — a news flow that constantly forces me to focus on matters that I regard as of secondary importance to the excess deaths. What kind of political economy is it that halts or even reverses the increases in life expectancy that civilized societies have achieved? I am also very hopeful that the continuing destruction of both party establishments will open the space for voices supporting programs similar to those I have listed; let’s call such voices “the left.” Volatility creates opportunity, especially if the Democrat establishment, which puts markets first and opposes all such programs, isn’t allowed to get back into the saddle. Eyes on the prize! I love the tactical level, and secretly love even the horse race, since I’ve been blogging about it daily for fourteen years, but everything I write has this perspective at the back of it.


  1. MikeNY

    By far, the most important and talked about thing in the markets since 2008 is “what will the puppet-masters, erm, central banks, do next?”

    ‘Free markets’ — LOL.

    1. skippy

      The prevailing economic ideology held by people working in central banks is what drives its agency. For 40ish years it has been predominantly “Free Market”.

      So you might start looking at where the people got their educations from, what political forces established and drove those academic institutions to indoctrinate said people, before moving up the value chain in key positions within the system architecture.

      Skippy…. firstly you might want to orphan the term – Free Markets – its just bit of Bernays sloganeering monkey goo used to frack your mind, in setting up the narrative.

  2. ArkansasAngie

    With financial crashes are political changes. Oh … wait … that’s not what happened last time.

    We do need change.

  3. Llewelyn Moss

    But Cramer is hollering “This time is different.” Or he will — as soon as the herd gets spooked at the sight of the Slaughter House Doors.

  4. Synoia

    “Suddenly Goes Wrong”

    Everything “suddenly goes wrong.” Nothing goes wrong slowly, because we have another word for that, decay.

    It is predicted both by Chaos Theory, and our collective experience. There is no “surprise,” because the real surprise (the how-could-you-be-so-stupid surprise) is expecting a non-liner system with massive feedback (aka: The Market System), to behave in a linear (pseudo-rational) manner.

    1. diptherio

      Nice comment. See also: The Abelian Sandpile Model

      The original interest behind the model stemmed from the fact that it is attracted to its critical state, at which point the correlation length of the system and the correlation time of the system go to infinity, without any fine tuning of a system parameter. This contrasts with earlier examples of critical phenomena, such as the phase transitions between solid and liquid, or liquid and gas, where the critical point can only be reached by precise tuning (e.g., of temperature). Hence, in the sandpile model we can say that the criticality is self-organized.

      Once the sandpile model reaches its critical state there is no correlation between the system’s response to a perturbation and the details of a perturbation. Generally this means that dropping another grain of sand onto the pile may cause nothing to happen, or it may cause the entire pile to collapse in a massive slide.

  5. washunate

    Uh, central banks are omnipotent. They can keep on printing the world’s major currencies as long as the politicians and intellectuals ask them to do so. That is the point of fiat – it is a government decree.

  6. Jay M

    clouds of stuffing clog the air conditioning systems as the muppets get their heads cut off

  7. Chauncey Gardiner

    Funny in a way that markets are now perceived as “the economy”. And all while a monetary policy of negative real interest rates is the primary policy tool that has been used to ostensibly try to resurrect demand and a damaged real economy, at least before the decline in the price of oil was engineered last summer.

    It seems clear that the policy elite will try everything but that which is necessary: elevating the discretionary purchasing power of consumers in a consumer-based economy. Clearly the transfer and concentration of wealth into the hands of a few remains the dominant policy objective, although that transfer and concentration has now become so pronounced that the stagnant real economic growth must even be chafing on those for whom the quest of wealth and power knows no bounds.

    Fun watching the latest Ponzi – China’s QE-fueled Shenzhen index – rise to stratospheric levels the past few weeks. Meanwhile, it appears China’s real economic growth is falling to low single digit levels. And that could in turn result in some problems.


  8. JimZ

    When fiscal policy keeps pushing in the wrong direction (i.e., contractionary), central banks can only do so much, then their tool bag is empty pretty quickly. Why is everybody still talking about monetary policy when it is congresses, parliaments, presidents and prime ministers (not to mention the EU authorities) who have been failing in their jobs on the fiscal side of the house for half a decade?

    1. skippy


      Central banks are not Government. CB efforts without a comprehensive government fiscal plan is pissing into a policy vacuum, but, that would be anti free market… cough… totalitarian government to the fundamentalists, they would rather flood the markets with private monies which only chase asset prices.

      Skippy…. so much for spontaneous order thingy….

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