Holiday markets are in full swing and the lack of liquidity makes the financial arena treacherous to say the least. If you must trade be patient and wait for your levels as many opportunities arise in these types of markets. Most of the responses that we get on a daily basis are in reference to the DEBT markets. Most traders want to play the short side as they fail to see the logic of investors wanting to buy the LONG END of the curve. We always stress that as a trader one should not confuse Ought with IS. When a market won’t break on neutral to bad news it is telling you not to sell it no matter what you think ought to take place. Some group of investors see value in ten year notes at 3.4% or lower so just let the market find its next level of resistance. Everything in the world points to higher BOND yields except the daily action. No matter how bad the fundamentals, prices continue higher and that is to be respected. Remember, “markets can remain irrational much longer then you and I can remain solvent.”
Gold,equities, and currencies all rally–while the bond follows; and not just U.S. bonds but DEBT worldwide. Yes indeed, 2+2=5. Today we saw the release of the FOMC minutes and there was no great surprise. The monetary hawks were thrown a bone by the FED saying there was some concern that low interest rates could possibly cause an asset bubble and they would be vigilant. This is a meaningless statement as from Bernanke on down there has been constant reprise that monetary policy is too broad an approach to halt an asset bubble. So we pass this off as no great concern. Tonight the commerce reported that they were cutting the average duties on CHINESE STEEL PIPE [$3 billion worth] from 21.3% to 13.2%–throwing the CHINESE running dogs a bone–we will watch to see if there is any response from HU JINTAO and company. Also today we received word that WEST LANDESBANK had in fact been bailed out by the German government. They will infuse 3-5 billion euros and set up a good bank, bad bank format to offload the stressed debt. Short term effect has been to give some short term rally to the EURO but this is still a work in progress.
As we give thanks for all the good health and prosperity we have been blessed with, we will offer our thanks to all our readers and the high quality of discourse these NOTES have started to generate. Thank you everyone! One last thing we want to put on everyone’s radar screen. Two years ago we heard the constant drumbeat of how Sovereign Wealth Funds were going to be the scourge of America. The holders of U.S. dollars were going to come a calling as their depreciating asset [the DOLLAR] was going to return to its source for that is the only place it truly has any real value. Well the early movers into the U.S. markets were either blocked under the guise of strategic interests or else were badly burned on the assets they were able to acquire. If the DOLLAR continues lower and commercial real estate and other assets continue to decline in value these sovereign wealth funds will return in search of hard assets with a high return in mind. The question is not if but when–this well may the biggest story of 2010.
It has been a very quiet weekend for news with no major stories to shed light on new possible trade developments. We will report the tidbit of info that has been touted over the weekend that treasury bill rates on short term bills went negative. Yes Virginia, you have to pay the U.S. government to hold your money and to paraphrase Marx [Groucho that is]–there is no sanity clause. Think about this for a moment. In a period of great economic uncertainty you have to pay the most irresponsible government to take your money. The corollary of this absurdity is that we wonder why GOLD continues to rally. We remember when Swiss interest rates went negative in the late seventies and early 1980 but that was because the Swiss were the most responsible and fiscally conservative government in the world. The SWISS FRANC continued to rally with negative rates which cost us alot of money but we learned from it. Investors were willing to pay the SWISS to hold their money for we were thought to be on the EVE of DESTRUCTION. It is difficult to accept that the U.S. at this time is deemed to be seen in the same light. We will be content to agree with the majority that this phenomenon has more to do with end of year window dressing for bank balance sheets but we are shocked and awed by it.
The persistent rally in the long end of the Treasury markets continues to elicit the greatest amount of discourse to this publication. We will state emphatically that we are bewildered by the lastest rally but as traders first we respect this price action but if you are of the fader category consult the technicals and find levels of resistance in which you are comfortable. Tomorrow’s London Financial Times brings two interesting articles on the debt markets. Gillian Tett writes about the possibility of the sovereign debt markets being the new subprime. Concurrent with this theme is another article about prices of credit default swaps on Developed Countries debt rising while the CDS on emerging market debt is flat and boring. It is interesting that the cost to insure DEBT is rising while the bond prices themselves are rising—this is interesting and bears watching. This negative divergence between the pricing of DEBT and the insurance cost on the same DEBT may be the signal that bond bears are sinking their claws into. We are cognizant that year end financing and balance sheet needs create interesting price action inthe Treasury markets [look back to last December] but we remain alert that this year may be different. We will continue to monitor the breakdown of the carry trade correlations and discuss it as we see greater dissonance. We will end tonight’s note with a quote from Charles Evans, President of the Chicago Federal Reserve, that we took from tomorrow’s FT:
“If you pushed me hard I would say that the risks are somewhat to the downside on inflation,” he said. But there was a “significant probability mass that it could move up as well.”
We think the FT meant to write miss but we quote it as it is written. The only thing we continue to wish for is Harry Truman’s one armed economist. For if we could find an economist with out a two sided view on everything then we could surely say that yes Virginia there is a Santa Claus.
“Everybody is talking at me / but I don’thear a word they’re are saying / only the echoes of my mind.” – Harry Nilsson
From the serial bubble blowers, to the talking heads of the electronic media, it is carry trade and dollar funded risks on and off. Being that we have covered this concept for a long time we give it great respect for its ability to drive markets to levels that appear to be irrational. We will always look to assets that seem to break away from the symbiotic nature of the trade; one for all and all for one. Today was one of those days when some of the elements of the carry ceased to cooperate. The dollar was generally strong versus most currencies and while that set an unwinding to the carry trade as defined in the popular press, by the end of the session the metals, equities, and commodities went on their separate way from the influence of the stronger dollar. Euro currency weakness is making us wonder if the trade is just suffering from exhaustion. The EURO is not a favorite currency of ours as the underlying problems of the European Union are to say the least — ENORMOUS. However, when the global reserve currency is under attack for poor policies it matters not what problems another currency suffers from, it is only that it is not the DOLLAR. Yesterday we pointed out that some analysts were confusing this present carry trade with the trade that made so much money and wreaked so much havoc in the 1998 period. We state categorically: this is a different strain of carry trade and it is far more virulent than the interest differential predecessor. The simple trade of borrowing YEN at 50 basis points and investing it in short term deposits at 750 basis points while hoping for some depreciation of the borrowed currency was relatively easy as long as not too much leverage was employed [see LONG-TERM CAPITAL]. Again, we stress this one is different for it searches not solely for interest rate differentials amongst the primary currencies but for more exotic assets in its quest for higher returns. Stocks, corporate bonds, sovereign bonds, commodities, precious metals–nothing is beyond its reach. In a world where money reaches to every nook and cranny this trading technique can levitate the loneliest of assets. Its power is such that Brazil, Taiwan and others have recently enacted restrictions to curb the power of this newly found possessor of the philosopher’s stone.
For you traders who have been enamored of using the dollar or the yen to do your funding, beware of the use of other currencies to be used to do the alchemists work. Remember, global interest rates are low across the board and if the tide turns and the EURO were deemed to be the new funding source then the cross rate matrix would undergo a dramatic change. What difference does it reall make to borrow in EUROS at 100 points if you thought Europe will be the one with the worst economic policies. The siren call of a weaker currency to pay it back in is the greatest aphrodisiac of all. When we stare at the board and see the EUR/GBP, EUR/YEN, EUR/CHF, EUR/CAD, EUR/AUD all start to make the Euro looked fundamentally challenged we wonder if Trichet and company are going to get the weaker currency they so desire. Terrible news out of AIRBUS and other euro corporations complaining about the strong EURO hurting their bottom line may well be the clarion call to set the change in motion. We know the funder will not be the Aussie for rates are relatively too high and the Canadian has the best fundamentals making it tougher to fund the carry trade. Thinking aloud is necessary when you see the dynamics of the board begin to change and when you see the negative divergence occur on a more frequent basis it is time to look for the causality to the change–maybe that is why the long end of the treasury market is surprising so many bears.
Tags: Aussie, CDN, currencies, Currency, currency trading, Euro, fiat currencies, gold, trichet
Commodities/Futures, Currency | yharris | 
November 17, 2009 11:58 pm | 
Comments (0)
Could you image: Dateline Beijing – China revalues the reminbi 25% and sets the market afire? Is this a possibility with Obama arriving in China? Well the way the markets acted today one would have thought that a China reval was in the bag rather than just a rumor. We don’t believe in this rumor but from the way the dollar/carry trade unwound all day the reval story spooked enough investors/traders to see some interesting corrections. Gold made all time highs today and closed lower and even the aussie which had strong employment data, made highs for the year and closed lower on the day. Remember, we claim no technical proficiency here at notes but even we have to take notice of this type of action. Our fundamental analysis of the Chinese revaluation rumor leaves us skeptical. The Chinese have never been ones to give in to threats and arm twisting — and with the U.S. placing tariffs on Chinese pipe last week and Obama
boldly stating that he would put the currency issue front and center — bullying will not get it done. The U.S. is not the only country pushing for currency appreciation but the others are taking a quieter and more diplomatic approach.
Let us assume that the Chinese were to bow to global pressure and allow a steady revaluation, what would be the impact on the markets? The implication would be that the Chinese were probably going to embark on a massive domestic spending program as they would want to lower import prices with a stronger renmibi. This would lead to global equities strengthening as we would have a new leg to the global growth story. Commodities would also find this appealing for this would mean increased raw material imports to support the China story. American debt markets would get hit as the lack of Chinese buying would potentially remove a support from the Treasury markets as the Chinese would have less foreign earnings to put to work. Also for the equity markets the Chinese would want a guarantee that investment into U.S. corporations would not be blocked for phony strategic reasons. So in a very quick look a Chinese reval would be positive for the global growth story and the longer term effect would be a rebalancing of some world’s imbalance problems. This however does not let the U.S. off the hook for they would have to become better savers and act to instill confidence that America will become a more responsible global actor. It leaves the problem with more questions than answers; will the reval be deflationary as it drives Chinese production costs even lower putting more pressure on other asian nations or will the appreciated reminbi lead to greater competitive opportunities? So many possibilities it makes today’s action more corrective than any big fundamental sea change. We always promise that we will get our readers thinking —–so sit back and contemplate and let’s have an honest interchange of this possible but doubtful event.
The financial crisis spreading like wildfire across the former Soviet bloc
threatens to set off a second and more dangerous banking crisis in Western
Europe, tipping the whole Continent into a fully-fledged economic slump.
Currency pegs are being tested to destruction on the fringes of Europe’s
monetary union in a traumatic upheaval that recalls the collapse of the
Exchange Rate Mechanism in 1992.
http://www.telegraph.co.uk/finance/comment/ambroseevans_pritchard/3260052/Europe-on-the-brink-of-currency-crisis-meltdown.html
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