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Is Geopolitics The Big Market Risk We’re Missing?

Is Geopolitics The Big Market Risk We’re Missing?

Authored by Bill Blain via MorningPorridge.com,

“Address all your skill and the valour of my soldiers to exterminate the treacherous English and walk all over General French’s contemptible…

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Is Geopolitics The Big Market Risk We're Missing?

Authored by Bill Blain via MorningPorridge.com,

“Address all your skill and the valour of my soldiers to exterminate the treacherous English and walk all over General French’s contemptible little army…”

Markets are up and down, and the noise is focused on Covid, Central Banks, Inflation and Tech stocks. But… perhaps the big risks lie elsewhere. Where are Geopolitics headed? Faceoffs in Ukraine and Taiwan have the potential to completely derail markets.

Looking at bond and stock prices there is a rising sense markets might finally have peaked. Some of the conviction underlying strength, the likely support of central banks, and the buy-the-dip games of last year, feel like it’s evaporated. There are plenty of opinions and concerns about the inflation/stagflation threat, worries about globalisation and what the pandemic might or might not still do to us. It’s easy to figure why markets are nervous today, but they might just as well be ecstatic tomorrow if these fears and tensions subside – which will likely prove the case when Covid is beaten!

As always, I take the middle road: “Things are never as bad as you fear, but seldom as good as you hope”. Now is a time for patience – waiting the current misty market front to pass through, and for the path ahead to become clearer, which post pandemic (which I hope is sooner than we expect) the situation may look very good again.

But, But and But again…. When things look good… look for bad…

One aspect that doesn’t seem to be getting quite as much focus and attention as it probably should is Geopolitics – and the specific risks global tension zones could suddenly turn hot, specifically Taiwan and Ukraine. Speaking to clients yesterday – everyone had a multiplicity of views on stocks, covid, credit, bonds and inflation, but no one was really talking about the destabilisation risks of global tension and conflict.

And that’s probably a mistake as things look likely to come to head soon in Ukraine and the South China Seas.

Maybe we discount the geopolitical threats because we like to focus on the threats we understand and can predict. We can make a decent stab at explaining predicted inflation – considering every little detail like CPI, the pace of innovation and long-term demographics, to put together well constructed arguments. We can look logically at individual stocks and sectors and make educated assumptions on business models, profits and fundamental returns. We can look at volatility and bond yields and come up with risk assumptions about correlations across markets.

But watching Europe, the US, China and Russia and trying to predict how they will behave – especially in today’s fraxious market – is like watching a game of poker in a darkened room.

You have some idea of who holds what cards, but no idea on how they might play them. We can make all kinds of assumptions about the motivations, the relative military and political strengths, and the weaknesses of each player – we really don’t know what makes them tick, what their respective appetites for risk might be, their ultimate objectives, or what they are prepared to do to achieve them.

So, this morning, I shall go off-piste on one my irregular jaunts into an area where I have no particular knowledge or experience of – although I might have some pretty good contacts. Weigh the risks and what the potential scenarios mean.

Actual hostilities would doubtless absolutely challenge markets – triggering a massive flight to quality: buy Gold and Treasuries. In such an environment you can forget about Crypto-currencies. People will want real assets. Power for computers may become dicey, and the Russians might just press the destruct button to discombobulate crypto markets/shams in order to ferment domestic dissent in the West from furious meme-stock traders who will think they’ve been robbed!

Hot wars are always a classic sell the fact moment, before turning into a potential buy moment as the news develops, if/when peace is achieved or, hopefully, the west triumphs.

But will it actually happen? Nobody really expects conflict… do they? That’s exactly what we thought in August 1914 and March 1938. Conflicts can take years to quietly fester and brew, but can turn hot in an instant on a miscalculation.

It would be a mistake to think the chances of conflict are purely down to current personalities. Distrust of Russia has characterised the West for centuries – they may be European, but they are very very different. (Personally, on the individual level Russians are great fun and I like them, but they can be very dark..) The Chinese are a very different prospect, but their 4000 years of continuous history illustrates that no Emperor or Dynasty ever sits easy on throne – whatever President Xi may think he has acheived.

Let’s try and think about the threats…

I read about the Chinese building full-scale mobile mock-ups of a Gerald Ford class US Aircraft Carrier and escort vessels in the vastness of Xinjiang’s Taklamakan desert. They are there so the Chinese can send a clear “do not interfere in Taiwan” warning. These targets will be taken out by China’s 1000 mile range DF-21D “ship-killer” missiles as a demonstration of their power projection. The Chinese believe their missiles are an effective way to deny the US from supporting for Taiwan. That matters, if conjecturally, China’s was able to “manufacture” an incident where suborned domestic politicians called for Chinese “peace-keepers” to protect the populace from an Anti-China coup. China would make the usual noise about it being a domestic issue and warn others to stay away.

But, the US Navy may disagree the missiles are an effective area-denial weapon. Taking out a number of undefended mock-ups in a desert is terribly clever, but the US Navy’s Carrier task forces are very well defended. They are working on anti-ballistic missile systems (ABM) to take down the missiles during their 15 minute flight, and can probably already disrupt the telemetry and systems guiding the missiles. Then the missiles have to get through F-18 fighters ABM screen, the Arleigh Burke class air defence destroyers and their ABM systems, and the final phalanx systems.

The Chinese will probably have to swamp each task force with multiple missiles to ensure “mission kills” (sinking carriers is actually very difficult – as the US Navy found when they sank the USS Kitty Hawk to become a reef.) But each carrier has a crew of 6000 – and the American’s will be loath to risk them.

The danger is an attack on a task force steaming to the defence of Taiwan could rapidly escalate. Neither side would be minded to back down. The missiles 15 minute flight gives the US time to warn off Beijing and threaten to launch a first Nuclear strike. The Chinese simply don’t have the warheads to match an American attack – although they are rapidly building more. Missiles in the South China Sea could turn hot in moments.

Meanwhile, the Ukraine is a major challenge to the West and Russia. There is an article in the Washington Post well worth reading if your want the background: “Russia’s rifts with the West keep growing. How did we get there.” It reads like something out of the inglorious summer of 1914.

Sit back and analyse it and both sides have backed each other into a corner. If the West sits back and lets Putin “intervene/invade” where would that leave Nato’s credibility? Putin has little alternative to look big to maintain his strong-man image. Historically, Ukraine is the road to Moscow, and its inconceivable it could end up in the hands of Nato.  He wants Ukraine back in the Russian fold and a key part, alongside Belarus, of Moscow’s security buffer.

Last week’s abortive revolution in Kazakhstan may have caught Putin by surprise, but if it was a manufactured warning from the West not to interfere in Ukraine by reminding Russia just how week some allied nations are, then it was a mistake. Its already served as an opportunity for Putin to stamp it out with Russian troops, rally his close states, forcibly reminding them who is charge, and committing them to his narrative.

Putin has repeatedly said he has no intention of invasion, successfully convincing the West he will. America has no boots on the ground, but is making a great deal of noise about the sanctions and “very angry letters telling Vladmir how angry they are” if he were to cross the border. And if Putin invades, his armies may well be tested. Ukraine’s military are not expected to last long. On the other hand, in December the Russians staged a dramatic paradrop assault exercise on the Ukraine border – but what Nato Analysts saw was a Russian Airforce short of transports and logistical support.

Long-term it may even be in the West’s interest to let Putin in – although the short-term credibility costs would be huge. The conspicuous domestic wealth of the west, and relative lack of popular support for authoritarian Putin dependent regimes in the satellite states (Belarus and Kazakhstan, and Ukraine if it’s taken) could prove a major cost and challenge for Russia in the future. And there is no way Russia can afford these costs if it’s under renewed American sanction.

Clearly any serious examination of the geopolitics of today’s market can’t be done in a couple of pages in the Morning Porridge, but I hope it makes you think. I haven’t even mentioned the raw materials and commodities dimension in regard to China, or the potential alliance that seems be forming between Putin and his “new best friend” Xi.

And I haven’t mentioned the potential no-see-um: Iran… What if Iran, encouraged under the radar by Xi and Putin, decides to go rogue in the Middle East? Ouch….

The message is simple – don’t discount the geopolitical background to the current markets.

Tyler Durden Fri, 01/14/2022 - 13:09

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Government

AMC CEO Looks To Refinance Debt Amid Dip In Stock Price

A skittish stock market and a struggling box office are complicating the theater chain’s attempts to turn around its debt situation.

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A skittish stock market and a struggling box office are complicating the theater chain’s attempts to turn around its debt situation.

Let’s give credit where it’s due. Most people don’t follow through with their New Year’s Resolutions, but at least AMC Entertainment (AMC) - Get AMC Entertainment Holdings, Inc. Class A Report CEO Adam Aron is trying.

Following a Tweet earlier this month in which the head of the beleaguered movie theater chain announced plans to “refinance some of our debt to reduce our interest expense, push out some debt maturities by several years and loosen covenants,” he’s now making moves to try to get the job done. 

Aron has reportedly been “in advanced talks with multiple parties” about refinancing, according to The Wall Street Journal. But the ongoing volatility of the stock market, amongst other factors, is complicating matters.

Irfan Khan / Los Angeles Times via Getty Images

Rough Years For AMC

To make it through the pandemic, AMC ended up having to take on a great deal of debt. It reportedly owed $5.5 billion as of last September and also owed $376 million worth of lease payments, which were deferred for a while during the pandemic. 

But as we’ve previously mentioned, the past few years have been tough for theater chains such as AMC. Even before the pandemic put a pause on theater-going in 2020, leading to an absolutely brutal total box office gross drop of 81.4%, general audiences were increasingly only heading out to movie theaters for blockbuster films and franchise installments, often from the Marvel Cinematic Universe or the “Fast & Furious.”

AMC had a reported net loss of $13.5 million in 2019, even as total revenue was up 2.4% to $1.44 billion from the year before. Things improved for the company last year once people felt safe returning to the theaters, as access to vaccines helped unlock some pent-up demand, and the box office rose by 112.5% to $4,468,850,254. 

A big chunk of that rebound is due to the jaw-dropping success of “Spider-Man: No Way Home,” which recently returned to the top of the box office, on its way to making $1.69 billion worldwide. (Will Peter Parker eventually conquer the blue aliens from “Avatar” to become the highest-grossing film of all time? Stay tuned.) 

But you can’t turn around a struggling industry based on the success of one film, and even Marvel and Disney  (DIS) - Get Walt Disney Company Report can’t put out a general-audience pleasing blockbuster every week. 

Even with a new “Scream” film out, last weekend’s box office total barely totaled more than $43 million, a far cry from five years ago. “That's down from a pre-pandemic $105 million in 2020, $73 million in 2019, $102 million in 2018, and $111 million in 2017, according to data from Box Office Mojo.”

Memes Saved AMC (For A Little While)

Last year AMC received an unexpected lifeline when it became the subject of an internet-driven rush that turned it into a short-lived meme stock. 

After a Reddit-incubated army of internet investors, who dubbed themselves “apes,” began buying shares in AMC through trading applications such as Robinhood, shares of the company temporarily rose to a robust $62.55 a share. Prices would eventually return to earth, hitting $35 a share after the hype dropped down. But the boost allowed Aron to buy the company some time. 

AMC used the cash infusion to repurchase $35 million worth of debt that carried a minimum interest rate of 15%, according to Yahoo! Finance. The deal cost $41.3 million, but it is expected to reduce the overall annual interest on its debt by about $5.3 million.

This year Aron is stepping up his efforts to refinance AMC’s debt, but it’s rough out there at the moment. 

Amid Wall Street’s current market contraction, AMC’s stock has dropped by 41% this year, erasing the meme stock gains, and AMC’s $1.5 billion in secured 10% bonds “traded as low as 92 cents on the dollar, down from 99.5 cents at the start of the year,” according to The Wall Street Journal. 

AMC isn’t looking to refinance all of its debt. Instead, it is targeting some of the bonds with especially high interest, as a way to cut expenses even as bond prices continue to drop.

But it seems like the meme stock rush has turned out to be a double-edged sword. 

AMC was able to stay in business by “selling new shares, taking on new debt, and getting landlords to agree to delay collecting rent payments.” But meme investors have objected to Aron’s plans to allow more AMC shares to be sold, out of fear that it would dilute what they’ve already purchased. 

Aron and AMC have a skittish-at-best stock market and an industry that is struggling to get people into theaters for all but event films. On the other hand, it has a loyal group of investors that are nonetheless limiting the company’s options. 

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Government

Loonie Slides After Bank Of Canada Keeps Rate Unchanged, Says “Economic Slack Now Absorbed”

Loonie Slides After Bank Of Canada Keeps Rate Unchanged, Says "Economic Slack Now Absorbed"

For once, the majority of forecasters was correct, and moments ago the Bank of Canada kept rates unchanged at 0.25, in line with that 24 of 31 analyst

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Loonie Slides After Bank Of Canada Keeps Rate Unchanged, Says "Economic Slack Now Absorbed"

For once, the majority of forecasters was correct, and moments ago the Bank of Canada kept rates unchanged at 0.25, in line with that 24 of 31 analysts expected. The bank also said that while it is keeping holdings on its balance sheet constant, once it begins rising interest rates, it "will consider exiting the reinvestment phase and reducing the size of its balance sheet by allowing roll-off of maturing Government of Canada bonds."

In its statement, the Bank of Canada said that with overall economic slack now absorbed, "the Bank has removed its exceptional forward guidance on its policy interest rate" but the Bank is continuing its reinvestment phase, keeping its overall holdings of Government of Canada bonds roughly constant

Looking ahead, the Governing Council expects interest rates will need to increase, with the timing and pace of those increases guided by the Bank’s commitment to achieving the 2% inflation target.

Some more from the BoC:

The global recovery from the COVID-19 pandemic is strong but uneven. The US economy is growing robustly while growth in some other regions appears more moderate, especially in China due to current weakness in its property sector. Strong global demand for goods combined with supply bottlenecks that hinder production and transportation are pushing up inflation in most regions. As well, oil prices have rebounded to well above pre-pandemic levels following a decline at the onset of the Omicron variant of COVID-19. Financial conditions remain broadly accommodative but have tightened with growing expectations that monetary policy will normalize sooner than was anticipated, and with rising geopolitical tensions. Overall, the Bank projects global GDP growth to moderate from 6¾ % in 2021 to about 3½ % in 2022 and 2023.

On inflation, the BoC said that "CPI inflation remains well above the target range and core measures of inflation have edged up since October. Persistent supply constraints are feeding through to a broader range of goods prices and, combined with higher food and energy prices, are expected to keep CPI inflation close to 5% in the first half of 2022. As supply shortages diminish, inflation is expected to decline reasonably quickly to about 3% by the end of this year and then gradually ease towards the target over the projection period. Near-term inflation expectations have moved up, but longer-run expectations remain anchored on the 2% target. The Bank will use its monetary policy tools to ensure that higher near-term inflation expectations do not become embedded in ongoing inflation."

The central bank also said that it will keep its holdings of Government of Canada bonds on its balance sheet roughly constant at least until it begins to raise the policy interest rate. At that time, the Governing Council will consider exiting the reinvestment phase and reducing the size of its balance sheet by allowing roll-off of maturing Government of Canada bonds.

A redline comparison of the BoC statement:

Commenting on the move, Bloomberg's Ven Ram writes that this is a lot more dovish outcome from the Bank of Canada than one might have imagined. Not only did the central bank hold its rate, but it didn’t paint itself into a corner on when it may push the button: “Looking ahead, the Governing Council expects interest rates will need to increase, with the timing and pace of those increases guided by the Bank’s commitment to achieving the 2% inflation target.”

Add to that this guidance on balance-sheet runoff: “The Bank will keep its holdings of Government of Canada bonds on its balance sheet roughly constant at least until it begins to raise the policy interest rate. At that time, the Governing Council will consider exiting the reinvestment phase and reducing the size of its balance sheet by allowing roll-off of maturing Government of Canada bonds.”

Net-net this isn’t screaming, “Buy the loonie” and sure enough, in immediate reaction, the canada 2Y yields declined and the loonie weakened, dropping from 1.2560 before the BOC to 1.2640 before paring some of the losses, amid some trader disappointment that the bank did not hike.

* * * Earlier:

In what may be a teaser of what to expect from the Fed later today, the Bank of Canada rate decision is due at 10:00am EST followed by Governor Macklem press conference at 11:00am EST. While the bank is expected to leave rates unchanged, there is the risk of a surprise rate hike. Indeed, about a quarter, or 7/31 analysts, surveyed by Reuters expect a hike. If left unchanged, attention turns to guidance.

Below is a recap of what to expect from the BOC courtesy of Newsquawk

SUMMARY:

  • The Bank of Canada is expected to leave rates unchanged at 0.25% although there is the risk for a hike with 7/31 surveyed analysts expecting a 25bp hike to 0.50% at the January meeting, ahead of the current BoC guidance for the middle quarters of 2022.
  • If the rate is left unchanged, attention turns to guidance to see whether this is bought forward to the end of Q1 (ie March).
  • Market pricing looks for rates to be left unchanged, although this has unwound heavily from last week which saw up to a 90% chance of a 25bp hike in January after the BoC survey and CPI data.
  • The MPR will also be released, analysts at TD securities see 2022 growth being revised lower, while inflation is expected to be revised 0.1% higher for 2022 but revised down by 0.1% in 2023.

LIFT-OFF: The latest Reuters survey saw analysts generally believe the BoC will leave rates unchanged in January, although 7 of 31 surveyed expect a hike will occur. Therefore, the expectation for January is for rates to be left unchanged, although the risk of a hike is there. If the rate is left unchanged, attention will turn to its forward guidance, which currently looks for lift-off “sometime in the middle quarters of 2022”. If it is bought forward to the end of Q1, it will signal a March lift-off is coming. Analysts are currently split on whether the BoC will hike in March with 16/31 calling for rates to be left unchanged again, while the other 15 expect it will rise to 0.50% or more, however, all analysts noted the risk to the pace of rate hikes this year is that they come faster than expected. The median forecast is for the BoC to raise rates to 0.75% by the end of Q2 2022.

SURVEYS: The Business Outlook Survey sounded the alarm on inflation with 67% of firms expecting inflation to be above 3% over the next two years, although most predict it will return to target within one to three years. It also noted that demand and supply bottlenecks are expected to keep upward pressure on prices over the year ahead. However, the overall survey saw a continued improvement in business sentiment to see the indicator hit a record high, although it was held back by labour shortages and supply chain issues. Note, the Canadian labour market is back at pre-pandemic levels and has been for a while. A separate BoC survey showed consumer inflation expectations hitting a record high of 4.89% over the next year, noting most people are more concerned about inflation post-COVID than before, where consumers believe it is more difficult to control. Analysts at ING highlight that the latest survey saw respondents note they expect supply disruptions through H2 this year and that labour shortages are constraining output. ING write “where the economic outlook is robust, the jobs market is red hot and inflation is at generational highs, we see little reason for the BoC to delay tightening monetary policy.” Meanwhile, ING adds that Ontario has announced a three-step plan to allow a full reopening from COVID restrictions from the end of January “which should be the final green light for the central bank to hike rates 25bps”.

INFLATION: The latest CPI report saw the headline M/M and Y/Y metrics in line with expectations, although the core Y /Y measure saw a sharp rise to 4.0%, while the BoC eyed measures rose to 2.93% from 2.73%. Analysts at RBC, who expect the Bank to leave rates unchanged at this meeting, say “Inflation trends have evolved largely in line with the BoC’ s forecasts from the October Monetary Policy Report (4.8% vs actual 4.7% for Q4)”. However, this still shows price growth above the 2% target rate and RBC’s own tracking suggests not all that pressure can be explained by pandemicrelated distortions. As such, RBC expects rates to rise soon and believe the BoC will use this meeting to signal the start of lift-off.

MPR: The MPR will also be released, analysts at TD securities see 2022 growth being revised lower, while inflation is expected to be revised higher for 2022, before being revised marginally lower in 2023. In October, the MPR saw 2021 growth at 5.1%, 2022 at 4.3%, and 2023 at 3.7%. CPI was seen at 3.4% for 2021, while 2022 is expected to be revised higher to 3.5% (prev. 3.4%), and 2023 CPI is expected to be revised down to 2.2% from 2.3%. In the October MPR, the output gap was estimated at about -2.25% to -1.25% and is expected to close sometime in the middle quarters of 2022

Tyler Durden Wed, 01/26/2022 - 10:10

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Mainstream Suddenly Realizes Raising Interest Rates In A World Buried In Debt Might Be A Problem

Mainstream Suddenly Realizes Raising Interest Rates In A World Buried In Debt Might Be A Problem

Authored by Michael Maharrey via SchiffGold.com,

The Federal Reserve is talking about raising interest rates. But the US economy is buried under

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Mainstream Suddenly Realizes Raising Interest Rates In A World Buried In Debt Might Be A Problem

Authored by Michael Maharrey via SchiffGold.com,

The Federal Reserve is talking about raising interest rates. But the US economy is buried under piles of debt. I’ve been asking how this is going to work for months. Apparently, the question has finally occurred to the mainstream.

A CNBC article declared, “Fed rate hikes will intensify a global debt crisis, research warns.”

Well, yeah. Duh.

According to the study came from a UK non-profit the Jubilee Debt Campaign, debt payments rose in developing countries by 120% between 2010 and 2021. They are currently at their highest levels since 2001.

The sharp increase in debt payments is hindering countries’ economic recovery from the pandemic, the report suggested, and rising US and global interest rates in 2022 could exacerbate the problem for many lower income countries.”

The study and the CNBC article are really a pitch for debt cancellation, but their narrative swerves into an unpleasant truth for US policymakers. Raising interest rates in a world awash in red ink is going to be a problem. And not just for “developing countries.”

The US government is closing in fast on $30 trillion in debt with no end to the borrowing and spending in sight. The federal government managed to run a deficit in December despite record receipts.

In December alone, the federal government spent $508 billion. The was the highest December spending level ever. Through the first three months of fiscal 2022, the federal government has already spent $1.43 trillion. That’s a record for the first quarter of any fiscal year.

Raising interest rates will drastically increase the cost of servicing all of that debt. And it will increase the cost of borrowing more money for the Biden spending coming down the pike.

In the fiscal year 2020, Uncle Sam spent $345 billion in net interest payments alone, despite near-zero interest rates. The nonpartisan Committee for a Responsible Federal Budget found that even a 2% increase in interest rates would cause net interest payments to rise to a whopping $750 billion. And this estimate was calculated before the passage of the American Rescue Plan and the Bipartisan Infrastructure Bill. That was followed up with a big surge in interest rates on US Treasuries. In other words, $750 billion underestimates the cost.

On top of that, American consumers are buried under debt. Consumer debt jumped 11% year-on-year in November. It was the biggest single-month jump in consumer debt in 20 years. Total consumer debt now stands at over $4.41 trillion. And that doesn’t include mortgages.

Revolving debt – primarily credit card balances – grew by a staggering 23.4% year-on-year in November. That was the biggest increase since 1998.

And that’s not all. Businesses and corporations are also leveraged to the hilt.

The year 2020 set a record for corporate debt issuance with $2.28 trillion of bonds and loans, comprising both new bonds and bonds issued to refinance existing debt.

All of this debt is a feature of the Fed’s loose monetary policy - not a bug.

The Federal Reserve and the US government have built a post-pandemic “economic recovery” on stimulus and debt. It is predicated on consumers spending stimulus money borrowed and handed out by the federal government or running up their own credit cards.

Now, the Fed is threatening to turn off that easy money spigot. How is that going to work? How will consumers buried under more than $1 trillion in credit card debt pay those balances down with interest rates rising?  With rising rates, minimum payments will rise. It will cost more just to pay the interest on the outstanding balances.

Overleveraged companies have the same problem.

And so does the US government.

This does not bode well for an economy that depends on borrowing and spending to sustain itself.

The only reason Americans can borrow money is because the Fed is enabling them. It holds interest rates artificially low. That’s how the economy works. And that’s why I think the Fed will ultimately relent on any move it makes toward tighter monetary policy. As Peter Schiff put it, the Fed can’t do what it’s claiming it will do.

Tyler Durden Wed, 01/26/2022 - 08:29

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