The financial news was sparse today. Abu Dhabi stepped into the breech and provided the cash necessary to prevent a “default” on the Sukkuk instruments; no great surprise as this buys DUBAI some breathing space to do a credible workout and the credit markets get a chance to bring some light onto the Islamic debt market. The Greek government came up short on a credible plan to curb the spiraling deficit so the German/Greek 10 year differential increased by 15 basis points to 225. Interestingly, the rest of Europe quieted down and even the GILT market was bid, helping to give the British POUND some support. Also in Britain it appears that the battle for CADBURY will heat up as the KRAFT offer has been deemed insufficient so we look for other “players” to enter the game. This could give a bid to the POUND as the bids for the confection company get sweetened. Also in the realm of more negative divergence, the Mexican DEBT market was downgraded by SP but the Mexican PESO barely budged. The PESO has shown some strength of late so the fact that the MEXICAN stayed strong makes it necessary to watch. Peso strength may well be a proxy for a positive outlook for North America.
As we noted in undertaking the writing of NOTES–we wanted to generate qualitative discourse in the realm of trading. Last night’s piece brought forth a need to expound on two separate issues. First, a thinker of the highest order inquired about the line…”When the U.S.truly starts on a growth path this issue will be brought to the fore.” We were discussing what could bring downward pressure on the EURO when we wrote that line. Up to now the U.S. has not been a destination for foreign investment as there has been too much uncertainty over U.S. policy, from the FED, Executive and Legislative. As the fog begins to clear foreign investors who are laden with DOLLARS are going to be in search of assets –hard assets besides precious metals. Sovereign Wealth Funds [SWF] will be scouring the U.S. investment landscape for industrial concerns and various types of real estate. Prior to the collapse of Lehman and Bear Stearns foreign funds had invested heavily in the U.S. financial markets. The fact that they have been so badly shaken by poor timing they will be more cautious this time around. They will avail themselves of using a depreciated asset [THE DOLLAR] in the only place its value has been sustained. In addition, they will be buying at depressed prices rather than a top. We believe that the private equity groups [Blackstone, Ochs-Ziff, Apollo] and others have been seeking out SWFs to help finance the purchases of large real estate portfolios. This is what we mean by the growth path–for up to now this equity rally has been basically a domestically based carry trade; the next leg up, if it occurs will be led by foreign investors believing they are missing out on a great opportunity.
Another response came in seeking more info on the misunderstood Maastricht accord. When you hear the talking heads on T.V., pay little attention when they pontificate on the European Union. If you need to polish up your knowledge the best book to read is Bernard Connolly’s The Rotten Heart of Europe. The original Maastricht accord was crafted to appease the demands of the Bundesbank. Strict guidelines of debt and deficits were to be adhered to so that the peripheral countries would not continue their profligate spending habits and expect to be bailed out by the more disciplined nations. There is no bailout clause as the spendthrifts were actually to be fined and forced back in line. Well as usual the guidelines were very rarely adhered too–especially when it suited the stalwarts of the EU, Germany and France. Therefore all the peripherals felt that in stressful times the Maastricht strictures should be tossed aside for all. Once the economy went into a major recession in 2007-2008 all rules were laid aside except that Germany was better positioned than the others and wanted the Maastricht rules adhered to and therein lies the problem. Germany has gotten wages under control over the last 6 years and is in the best competitive position—both in Europe and globally. The German economy is running the third largest trade surplus in the world and especially so within Europe. Will the good Bavarian burghers be willing to transfer their hard earned D-marks, sorry Euros, to pay for the profligate ways of her fellow European citizens? The wanton sinners are supposed to be fined not rewarded and therein lies the rub. Something is truly rotten in the state of Denmark! Oh well, neither a lender or borrower be.
Well we are happy to report that Sir Moral Hazard, aka Alan Greenspan, has come clean about the FED’s role as a serial bubble blower. Appearing on Meet The Press today he explained the important role the stock rally has played in turning the economy around. He said a major source of the recovery has been the increase in stock market wealth as it encourages people to spend and puts liquidity into the financial system. If this is not bubble blowing 101 then we don’t know what is! This unequivocably provides the impetus for the FED to maintain interest rates at low levels until they can be sure that there is traction in the growth story. Thus, maintain the global carry trade for it is maintaining the system at present. Jim Cramer was on the panel with Greenspan and we criticize him for not challenging the former fed chief. Greenspan previously has acknowledged that he missed the collapse on Wall Street because most of what he had thought previously proved to be wrong—and yet Cramer sat quietly and just nodded in agreement. In fact Cramer’s comments were so full of adulation that he made Larry King look like he was Bob Gibson. We say loud and clear that it is the bubble mindset that got us into this mess and for it to go unchallenged as a bonafide policy is madness of the first order. Even Greenspan talked about the need for interest rates to head higher and wouldn’t that in fact end the stock market rally? Greenspan thought that rates would need to head higher as businesses rebuilt inventories and had to finance that rebuilding. This thinking flies in the face of what has been taking place in the real world. Interest rates are extremely low across the board and yet corporations and households are not borrowing but rather paying down debt which is contrary to all conventional models. The amount of wealth destruction has caused the entire economy to reverse the debt picture which makes Sir Alan’s views all that much more suspect. For further analysis see Richard Koo’s work on a balance sheet recession.
Friday saw a continuation of the DOLLAR rally and the further correction in the GOLD market. What diverged though was that the SPS stayed bid and wound up unchanged on the week even as the DOLLAR closed firmer. This is the divergence that we have been watching and it gained some further credibility as the correlative trades begin to break down. This is a good thing, as markets will return to fundamentals and technicals as the algorithms get readjusted. The EURO was under the stress of fundamentals as the DEBT picture of the European Union was called into question. However, some of the weak sisters of European DEBT did stage a rally on Friday; the German/Greek 10 year differential wound up at 210 basis points on the close after being out to over 250 points. Some market participants believe that the European commission will come to the aid of the Greek government but we are very leery of that. It was intersting that as the DEBT differntials narrowed the EURO still could not find a rally so further weakness is to be expected. An important news story was passed over by most of the media. Daimler came to an agreement with its unions to secure 37,000 jobs in Germany for the next 10 years. After Mercedes announced they were moving some C Class production to Tuscaloosa, Alabama the unions wanted to secure jobs in Germany so they agreed to wage moderation and even gave Daimler management an opt out clause on this deal if the economy were to deteriorate further. This is Europe’s problem because the Germans have adjusted to globalization in a much more forthright way than the rest of Europe. German industry operates at a much more efficient level because they have gotten wages under control making the other European nations far less competitive. It used to be that the PIIGS could devalue their way out but not anymore. At some point, wages in the less competitive economies are going to have to adjust downward causing great economic pain or Germany will have to basically transfer huge amounts of money to shore up their finances—this is the dilemma they face. When the U.S. truly starts on a growth path this issue will be brought to the fore.
Also out of Europe this weekend was a story from Germany and the head of the DEUTSCHE BANK, Josef Ackermann. He said that Germany would not go the way of Britain and France on the “banker bonus tax” and would thus have a “comparative advantage” over the other financial hubs. Germany has no plans to tax bonuses and this is after the geniuses in London and Paris announced that for political expediency this was the path they were going down. Should they have all agreed to the same plan so as not to beggar thy neighbor before they signed on to this punitive tax? If 3 leaders in Europe cannot synchronize, exactly what chance does the G20 really have? The imbecility of the governing classes makes our eyes roll in our heads.
We will be watching the DEBT markets this week as the long end of the Treasuries came under pressure and the 2/10 steepened further. The overnight /30 year went out further and this is getting a great deal of attention as it calls the question as to why the banks are in no hurry to lend. As we have talked about ad nauseam —surf’s up and the free money is riding the crest of the wave. We will wait to see if the Fed speaks about this in their FOMC statement. It would surprise us if it did but there is a great deal of heat on the banks for not lending so we await further discussion. As previously stated—we believe that is the balance sheets that have been the greatest impediment and the curve surfing is just the easiest and cheapest way to rebuild balances. It will take the FED doing mass reverse repos and whatever other tools they have to curtail this action. With the DOLLAR finding some traction we don’t think they will be in any hurry. And remember Bernanke has not been reconfirmed yet.
Tags: banks, Bernanke, Currency, dollar, Euro, Fed, germany, Greece, interest rates, net interest margin, treasuries
Commodities/Futures, Currency, Fixed Income/Bonds, Strategy/Allocation | yharris | 
December 14, 2009 9:20 am | 
Comments (0)
In a famous exchange between Chou En Lai and Henry Kissinger, the U.S. Secretary of State asked Chou what he thought of the French revolution. It being 1972, Chou answered it was too early to tell yet. The reason we bring this up is as the Greek tradegy unfolds it will take a German led bailout to keep the Greek government from defaulting. Today the German/Greek ten year note spread widened to 245 basis points and the German/Irish spread of like duration widened out 20 basis points to 200 basis points. Being that the European Union has no statute for a bailout, it will take a massive amount of transfers to shore up the Greek economy, let alone the rest of the PIIGS. Several pundits have imagined that the Greeks will get their debt situation under control by cutting public sector wages, but they seem to forget that this is a democratically elected socialist government. The chances of squeezing the unions has as much chance as going a day without seeing Obama on television making a speech. From a trading perspective the only way to play in this arena is to use the bund futures and the recently relisted Italian bond futures, both at the Eurex and denominated in EUROs. Check your system provider for the appropriate symbols—and no this is not a paid advertisement but a public service message. The question facing Europe is what political price the Germans will exact for any aid they may provide. So maybe it is too soon to determine who in fact was victorious in World War 2.
The calendar is heavy tomorrow with three central bank meetings. The Kiwi bank has already announced and they stayed at 2.5% but changed some language to suggest that they may move earlier to tighten than previously thought. The KIWI went bid against all the crosses but we think that this is an overreaction. The BANK of ENGLAND and The SWISS NATIONAL BANK both meet in the early morning but no change is expected from either. The Brits presented the pre-budget plan and it had to do with raising taxes and very few budget cuts. The middle class in Britain will carry the brunt of the hike but some red meat was tossed to the torch and ax crowd by placing a supertax on bank bonuses over 25,000 pounds. We will never defend the pay of bankers but this tax will go a long way towards subverting the role of London as a financial center. Sarkozy and Merkle [French and German leaders] are laughing in their Reisling. Europe is a mess and not getting out of this predictament anytime soon, yet the EURO held up fairly well today. It really makes one wonder where the safe havens are–we know the DOLLAR for lack of anywhere else, but the news from the U.S. today was not helpful. The Obama administration moved to extend TARP until October 3, 2010. This cannot be a positive event as this program was meant to be for the insurance of systemic financial solvency. But with the banks rushing to repay TARP funds what can the real purpose be–this is Paulson’s ghost as he jammed this through with little thought and much malice. Remeber his 3 page missive demanded that there could be no judicial review of Treasury’s actions. Oh, Expediency what has thou wrought! So risk may be declining but where does one go for wealth and capital preservation–oh well the gold/currency crosses seem to be the last bastion of financial rectitude. HMMMMMMMMMMMMMM
Tomorrow morning brings us the jobless claim number[463,000] is the guesstimate and that is followed with the trade number. The trade report was always a center piece for the currency world but because markets are dynamic this data has little relevance presently. If something way out of the ordinary is reported it could have a minor impact but most probably a yawner–negative 36 billion is projected just to prepare you. Tonight the aussie employment report came out and it was much stronger than estimated putting a bid to the AUSSIE DOLLAR. Also we wish to point out that Spain was given a negative outlook by S&P, presenting Europe with one more problem—something more to think about.
Tags: Aussie, britain, Currency, Euro, gold, Greece, kiwi, Spain
Commodities/Futures, Currency, Fixed Income/Bonds, Strategy/Allocation | yharris | December 10, 2009 6:42 am | Comments (0)
Very little news and action after the wild ride on Friday’s unemployment. The DOLLAR stayed relatively strong after its significant rally on Friday. The YEN regained some ground on all the crosses as we have word of a stimulus package out of Japan. The DPJ finally approved a 80.6 billion dollar stimulus plan and this gave some immediate support to the YEN, but we don’t expect this to last as the Japanese are nervous about a strong currency while deflation is renewing its vigor. Now that a stimulus program has been approved we need to be watchful of some type of intervention to stem the recent YEN strength.
Tomorrow morning [8 a.m. CST] we will hear from the Bank of Canada. We expect no change in their current interest rate as the CANADIAN DOLLAR remains relatively firm and this has been a concern of the Bank. If the currency weakens after the no change we would look for the LOONIE to regain its strength as its fundamentals remain the most attractive. Wednesday will bring the PBR from Britain. Chancellor Darling will deliver his outlook for the British economy and we are waiting to see if the budget will reign in the massive amount of stimulus that has run the current deficit to over 12% of GDP. The question is curtail spending or raise taxes. If the budgetary stance is for cuts in spending we don’t anticipate much movement in the STERLING but we believe that higher taxes would have a negative effect. Britain has to be careful to not tax the financial jobs out of LONDON as some hedge funds and private equity groups have already announced their intentions to move to more favorable business environs. This coupled with the anti anglo-american sentiment emanating from Brussels the British need to keep their financial markets globally competitive or risk losing the golden goose. The euro/sterling cross will be very directional for this sentiment —as always check the technicals to ascertain the real story. If Euro/sterling holds support we will see continued weakness in the British currency.
Well we certainly got a better unemployment number than the “street” was looking for and the market responded in the fashion we were hoping to see. We were corrected in our view on the White House misspeak but the more we thought about it the more our hunch seemed correct. We think the WH press secretary had to recant his views because he purportedly heard the numbers would be better but got it backwards and then had to to a mea culpa and basically just call the whole thing off. Whatever did or did not occur we thank those who brought it to our attention [Hat tip to Phillipa]. The markets reaction was very much in line with our thoughts and now the trading arena is going to become even more interesting. Gold and other currencies had large sell offs as the risk off became the clarion call for the day. Even the equities sold off for a time, but they bounced back at the close as we believe they should have. The FED is still in a holding pattern, even if we see some robust growth over the next quarter, for the “37ers ” are holding sway over the FED thought processes. This ought to be music to the ears of the equity markets as growth will fulfill the PE values that the SPS currently entertain. We caution to watch volume on the stock market for it has been the missing ingredient from the present rally, but if fund managers really think they are going to miss the next leg due to improved data they will have to jump full force into the rally. If volume fails to grow we would be very leery of the next move up.
Treasuries were under pressure all Friday as the selling off continued following upon Thursday’s weak action—-the BOND market certainly got the unemployment right. We usually believe that steepening curves are bullish equities but we are beginning to think differently at this juncture. The curve could use some flattening as to free up bank lending—for all they do now is surf the curve and pick up a nice free and safe return. Our eyes turn to the FED to see if they are thinking the same thoughts and we would love to see some aggressive reverse repos to test the hypothesis – but we await their actions before getting too deeply involved in this as a trade. If the FED were to jump into an aggressive reverse repo mode it would also put a rally to the DOLLAR and we know the administration does not want that as of yet.
Why could the DOLLAR rally though in the short term? Foreign money has been absent from this rally and if they thought that there was a possibility of any growth outpacing other developed economies then you could get an inflow, for they are afraid of not partaking in the equity game. Sovereign wealth funds [SWF] will also be searching for some ways to put their depreciated dollars to work in the best place they hold any value. We will be listening and reading to be alert for any noise about foreign funds in search of large investments in high quality U.S. assets. Barron’s cover story was about how some high dividend plays were far better investment opportunities the sovereign bonds and even corporates. This should get some of the carry crowd looking at this forgotten part of the EQUITY arena. Gold and most commodities sold off as the DOLLAR rallied but the break while painful was not that great compared to others we have seen over our 32 years. As we pointed out on Thursday, the Chinese put a little uncertainty into the long march of GOLD by citing it to be a possible bubble. In our very humble opinion the Chinese would like to take some of the froth off the GOLD price so that they can build their reserves at more advantageous prices. In a passing note: read Jim Grant’s piece in the weekend Wall Street Journal as it is a concise overview of the global currency market [Hat tip to many for sending it on].
Not much else news wise this weekend as the better unemployment numbers have dominated the wires. The only item that caught our eyes was that Peter Mandelson a major domo of the British political hierarchy cautiones Kraft on its bid for Cadbury. He warned the folks at Kraft not to just try to make a quick buck at the expense of British jobs—-this is the newest shot fired in the realm of protectionism. We will continue to monitor this and report out the news and its possible effect on global capital flows as we learn more.
Dateline Brussels: Today European powerhouse, the prime minister of Luxembourg, emphatically stated that the EURO was overvalued. We say that it is JUNCKER that is way overvalued.
——-Live from Chicago its Tuesday night——-
In typical fashion the European bigwigs were out today decrying the appreciating EURO and the more they talked the higher the currency went. We say that if you think your currency is too strong then cut the lending rates to 25 basis points and let the weakest currency come clean. As we noted last night — the rumor of the Chinese taking 25 billion in Greek bonds would remove some of the present stress in the European system. At 1:00 this afternoon out intern, Scott, ran the 10 year yield differentials within the European Union and this is what he found:
Germany:3.145%
Italy :3.972
Spain :3.72
Ireland :4.78
Greece :4.875
When you do the maths you can see why the Chinese are interested from a financial standpoint in buying that Greek debt. An investor picks up an extra 173 basis points and gets an asset priced in Euros. If you thought the DUBAI situation was a problem when the U.A.E. was thought to allow a default, imagine the instability in markets if the Germans or French failed to support the debt of any European sovereign entity. So we see the Chinese have rearranged their holdings while picking up some sovereign yield. We are beginning to see the benefits of Euro debt versus U.S. treasuries. Do the technicals and find your comfort zone.
We also heard from Russia again today talking up the Canadian dollar. This is the second time in two weeks so we know who must be long. Not only is Notes From Underground lifted from the great Dostoyevsky, but as an aside we can tell you we have been Russian watchers for a long while. We have learned that the Russians love to create chaos inthe markets when they have the opportunity. For the previous three years the financial gurus of Moscow have been busy rebalancing Russian reserves from dependence on the dollar and have the lowest amount proportionately in Dollars. This gives them the ability to rattle the markets every so often by making incendiary comments like today’s about the Canadian. Please be cautious when it comes to the BEAR. Remember back in August when they said they were selling some GOLD which caused a quick break but proved to be false. Again we stress to beware the BEAR as they relish the opportunity to tweak the markets—especially when the Chinese are carrying the brunt of the load.
While we are sending out alerts, put the concept of the Islamic debt issues on your radar screens. It will be of great market interest to see how the DUBAI workout gets done. The SUKUK market which is debt written to Islamic law totals between 500 -700 billion dollars. This is not traditional debt by Western standards so how a possible non-payment gets resolved becomes a keen issue to creditors. We have not heard the last of this –just when you think you are out they drag you right back in!
Tags: bear, China, Currency, currency trading, dubai, Euro, eurozone, France, germany, gold, Greece, russia, yra harris
Commodities/Futures, Currency, Fixed Income/Bonds, Strategy/Allocation | yharris | December 2, 2009 1:16 am | Comments (0)
We open tonight’s notes with the sage words of Rudyard Kipling from the poem IF.
If you can keep your head when all about you
are losing theirs and blaming it on you;
If you can trust yourself when all men doubt you
but make allowance for their doubting too;
These words we believe sum up the action that took place over the two days of Thanksgiving. We were contemplating writing a piece Thursday evening, but we just couldn’t get enough info to substantiate what was taking place. As traders we are aware of the impact of rumor and innuendo and we always view these twin sisters of havoc as a blessing and a curse. Rumors give rise to volatility and thus create opportunity but if we are in a position we know the pain of being stopped out on unsubstantiated info. Now that we have had a few days to measure the Dubai news we can begin to understand its impact on the global financial markets. We were interviewed on CNBC and Bloomberg television on Friday and opined that the DUBAI situation was a continuation of the global credit crisis and very much similar to the commercial real estate problems that overhang the U.S. credit markets. Being that DUBAI is one of the seven Emirates and the one with the least amount of energy production, the authorities had to find another source of economic growth. The ROYALS that administer DUBAI thought to turn their principality into the financial and tourist center of the GULF region. All was well so long as money flowed free and easy and the building boom went on, but as frequently happens over-building occurred and prices began to drop. Vacancies began to grow and the rents declined and debts couldn’t be met. Many of the creditors believed that ABU DHABI, the wealthiest of the Emirates would make good on the debt even though there are no covenants to that effect. Bond prices dropped from par to forty cents on the dollar as the threat of default continued to grow; that was where the markets were with Friday’s early close. To make matters worse there was also an Islamic holiday which meant there was to be no official announcement until today. It now appears that the central banks of the U.A.E. are going to provide a funding facility to insure against default of DUBAI debt. The sovereign wealth fund of ABU DHABI has a purported net worth of 650 billon dollars so there is certainty enough liquidity to support the entire Gulf region as the debtors and bondholders meet to do some type of work out on the debt.
As we caution to keep your head you must look at the immediate impact. First, we find it hard to believe that Abu Dhabi and some others didn’t step in to buy the DUBAI bonds on the very cheap knowing some action would take place to support the little brother DUBAI. Secondly, it is not in the interest of oil producers to see new stress in the global economy as the drop in oil would be far more costly than any type of bailout. Thirdly, we are going to have to see the impact on the nascent Islamic bond market that was created for Muslim investors and borrowers to be able to be part of the modern financial world and still adhere to the stricture of Sharia. Fourthly, this event will put the inflation hawks at the FED on hold as they wait to see the fallout on the lending patterns of the global banks. U.S. banks have a small exposure as most of the credit appears to have been extended by European consortiums and Islamic institutions–but again we don’t know for sure because of the lack of transparency. We will be watching, as will the world central banks, to see the impact on lending patterns after this hit is taken. The banks are cautious as they fear that more commercial real estate hits are coming. We now have a good sense of why global debt and U.S. treasuries have performed so well: the lending institutions are so fearful of more such DUBAIs and thus lock their money in sovereign debt.
Another story out this weekend came from China as the Politburo met Friday and decided it will “maintain the continuity and stability of economic policies, and continue to implement the proactive fiscal policy and loose monetary policy.” Thus we have some insight into what the Chinese are bringing to the global arena. Pressure will be brought to bear on the Chinese for YUAN appreciation but the pressure will be minimized by Chinese promises to lift domestic consumption by continued efforts to maintain growth at a bubble like level. Even the Europeans were rebuffed this weekend by the Chinese. Trichet and Juncker came away empty handed in their efforts to get the Chinese to provide any give on YUAN revaluation. Next time they should send that financial giant Lady Ashton! So with the Asian giant set to maintain domestic growth and the Dubai debt situation set to work out we can begin to think about Monday’s Australian Bank meeting and of course Friday’s unemployment report.
As Fred Flinstone might have said—-Yaba daba DUBAI—–as the cost of emerging from the stone age has been costly indeed.
Tags: Abu Dhabi, China, Currency, currency trading, debt, dubai, UAE, unemployment, yra harris, Yuan
Commodities/Futures, Currency, Fixed Income/Bonds | yharris | November 29, 2009 6:55 pm | Comments (0)
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.
The markets returned to full risk mode today as investors deemed T-bill rates yielding less than nothing to be a clarion call to run into investments with some yield and possible appreciation. Bill Gross and Barron’s were both advising investors to buy stocks that have fairly high dividends and low debt ratios–the ultimate culmination of the carry trade. Where the most beneficial carry trade could be found in interest rate differentials the low global interest rate environment forces even the most astute investors to seek more risk in the equity markets. This is the atmosphere we find ourselves in and the angst it creates is very great. Let there be no doubt about it—the FED wants/needs inflation wherever it can be found. Asset inflation relieves pressure on pension obligations and this helps corporate balance sheets. The next area is for inflation to arise so that illusionary gains will relieve the enormous pressure on commercial real estate. Inflation will relieve the pressure for deleveraging that continues to weigh on bank balance sheets. Back in the 70′s people wore WIN buttons—whip inflation now. Today the FED is passing out SIN buttons—start inflation now.
Market moving news today was found in the “robust” home sales number, but the DEBT markets shrugged that off as did the Dollar as Treasuries closed basically unchanged and the DOLLAR weaker. When we digest the data we realize that the gains all come from prices being 15% lower year on year and the bringing forward of sales due to the government’s incentive program. Borrowing from tomorrow for today! Also impacting the DEBT markets was a statement from Dominique Strauss Kahn the head of the IMF that it is necessary for the developed countries not to remove the monetary and fiscal stimulus too quickly. This places him in the Bernanke camp {37ers} who will err in not removing the stimulus until they are sure that a recovery has fully taken hold. We are not fans of the IMF for they are usually late to the table and when they are not late in their analysis they are wrong and their advice less than worthless. The market continues to give it some credibility so we pay attention but only with an entire salt shaker.
Two things we wish to bring your attention to come out of Europe and it is important to take note.
- In a speech today given by Trichet he warned the Spanish that they needed to resolve the issue of increased production costs which were responsible for widening current account imbalances within the EU. “In this country, the burden of the crisis has fallen disproportionately on the temporary workers. Compensation for those employed on a permanent basis has seen only minor adjustments. Looking into the future, wage flexibility will need to be made more widespread.”
The importance of this is that it creates a tremendous deflationary drag on Spain and others within the European Union. Imagine the impact of lowering wages in a heavily indebted economy. The downward pressure on wages will not be politically possible and therfore the growing deficit imbalances which remain unresolved unless the surplus countries transfer some of their capital to support the deficit countries. Will the good burghers of Bavaria send the funds needed to support Spain, Greece, Ireland, Italy, et. al.–for this will be the real test for a united Europe. They make it so hard to stay long the Euro but in this environment of anything but the dollar just not profitable to fade. Put it on your radar screen and be aware of the coming stress with the European financial system.
- A story braking out from Germany tonight is that West Landesbank may be heading into insolvency by next week. The issue of the Landesbanks being in trouble is not new. Prior to the September elections, all of Germany’s immediate problems were pushed to the back burner but now that Merkle has won and secured office the previous issues are back to full boil. The Landesbanks took on way too much risk after they were cut loose from state support in 2004 and 2005 and they are very vulnerable to the global credit crisis. If the 3-5 billion Euros that are needed to shore up its balance sheet do not materialize the German state will have to step in to dissolve one of the most powerful regional lending institutions within Germany. This issue will cause severe problems with the European competition commission so we will watch to see if it leads to EURO weakness on the crosses. If EUR/CHF were to sell off it will be interesting to see how the Swiss National Bank reacts. This Landesbank default could have implications for all the EURO crosses so be alert especially in these thin holiday markets.
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.
Good evening to our readers and we have to say that the frequency of negative divergence of the carry trade is increasing. Today we saw the equities get hit and the dollar traded higher as to the pattern, but the commodities actually traded to the strong side. Gold and silver were sold off with the dollar rally but by closing time had rallied back to trade higher on the day. When the SPS were down 20 figures the long end of the debt market were putting on an impressive rally but wound up the day a few ticks higher. It appears that change is in the air which is a good thing. We appreciate that markets are dynamic and that dynamism provides opportunity to the prepared and informed.
The debt markets are interesting as they have been the fly in the ointment. The smart money would have bet that with a weak dollar, rising equity markets and strong commodities that notes and bonds would have taken a beating. It is not just U.S. debt markets that have surprised but bunds, gilts and JGBs have all rallied into what is easily seen as negative fundamentals. The Japanese and British markets have rallied strongly ever since FITCH threatened that their ratings would be cut. As we always caution, check the technicals and see the pattern and discern that everything but the gilts are above their moving averages. Interesting to think what this may be signaling. We would also add that as strong as the long end has been the short end has out-performed as the steep curves have begun to steepen further. Some pundits believe that the FED wants to steepen the curve further but we are not certain that is easy to do from these present levels. It would take the bond vigilantes to really exert some major selling as there are still many deflationists waiting to buy. Also the banks that don’t wish to lend money are always inthe wings waiting to surf the curve. Tomorrow will be a good test to see if the TREASURY market can muster some renewed strength going into the weekend.
The DOLLAR is trading higher tonight on rumors of intervention by some ASIAN central banks but we tend not to give much credence to these spinmeisters. We will not go into Geithner’s testimony today as our views have been known and we care not at all about the political posing that was done at the hearing. The most notable posturing was done by Senator Schumer who claimed the high ground on the Chinese reval issue but this is nothing new as he and Senator Graham have been here before. We will not go into it tonight but one day soon we will provide a comprehensive history of the Reminbi. Everyone should be aware that with so much posturing there might be intervention as to give a quick gift to the Asians for some quid pro quo on Chinese movement. The number of speeches and editorials make us think that something is up and Schumer’s attempt to get out in front of it today is more fodder prompting this idea.
Europe announced their President and Foreign Minister today and the word milquetoast comes to mind. For a political entity straining to find its place in the global hierarchy these two choices make Neville Chamberlain look like Churchill. The President is that dynamic, forceful Van Rompuy the prime minister of Belgium—wow this is a choice that will make Donald Rumsfeld shake in his bunker. The Foreign Minister is non other then LADY ASHTON who is presently the European trade commissioner. The powerful Ashton just today lost a vote on extending anti-dumping duties on Chinese and Vietnam made shoes. She didn’t even prevail within the European Union on an insignificant issue and is the Global Forum supposed to give her the respect that Europe so desires? Laughable doesn’t quite do this justice.Will Europe ever really live up to its potential?
Another reason we are concerned about some coordinated action on the DOLLAR is the continued efforts at putting some form of exchange controls on by the emerging markets trying to stem the appreciation of their currencies. First was Brazil, then Taiwan, and now Indonesia is making noises about exchange controls. Nothing scares Bernanke and all the bankers on wall street and Threadneedle than the imposition of exchange controls—these types of events may spur the FED to act in the short term just to placate those who are complaining about U.S. complacency. We are just advising caution and remember the White House jobs summit doesn’t begin until December 3rd. Short window for action.
First and foremost we want to announce that Tim Geithner has lost his position as the number one moonwalker. Lloyd Blankfein, CEO of Goldman, did some backsliding today that made Geithner look as if he had two left feet. Blankfein went public to explain that his comment over the weekend that Goldman was doing G-D’s work was meant to be a joke. In recanting that foolishness, he bent over backwards to say that he was sorry for some of the things his firm did during the financial crisis of the last two years. The mea culpa was completed with a pledge to donate $500 million to a fund that will supply credit to small and medium businesses. To our eyes and ears it seems that somebody finally woke up the Wall Street crowd that there was anger in the land and Congress was getting the heat of populism turned upon it. In stating his contrition Blankfein also admitted to knowing the whereabouts of the missing eighteen minutes.
The currency markets did a 180 from yesterday as the EURO was in demand while most of the other major currencies weakened on the Euro crosses. There was nothing newsworthy to prompt such action out of Europe but there was an interesting story on Reuters that caused the DOLLAR to sell-off in the early morning. In an interview with FOX news, President Obama made the following statement: “If we just boosted our share of exports by 1%, that might be 250,000 well-paying jobs in the United States. So export promotion would be an example of something we could do without spending money.”
This is the epitome of the “benign neglect of the DOLLAR” policy of the administration that we have long pointed out. Christine Roemer and Larry Summers have been on this theme for quite awhile but their views have been more nuanced. The statement by itself would be no big deal except for the fact that Obama has promised a White House jobs summit upon his return from Asia. We will be very attentive to which administration officials take the lead on this issue but you can be sure a strengthening DOLLAR is not part of the program. Obama’s team is reading out of the Rogoff-Reinhart play book on how to correct the U.S. imbalances and that manual calls for a 25% devaluation of the DOLLAR which would mean another 15% or so from the time that abstract was published. The question that needs to be asked is if the rest of the world would tolerate it. The U.S. has already been warned about letting the DOLLAR fall much further so we will see a great deal of jawboning from global financial authorities. Interestingly Obama made headlines tonight by saying that continued rising debt was going to endanger the U.S. recovery–we wonder what prompted this statement. Did the pleas of Chinese, Japanese and other Asian officials begin to register? We doubt it, for the U.S. stance from the FED on down is that the problem is minimal and there is no risk of a bubble caused by easy money and fiscal profligacy. These contradictions in Obama statements is what is making trading so difficult and increasing negative divergence of the carry trade. As we noted yesterday, this increase of negative divergence is causing us some unease!
We wish to add one more element of dissonance into the matrix. Tonight a friend of ours reported from Europe that the battles on the Saudi-Yemen border were heating up and that the Saudis were getting more vocal about placing the blame on the Iranians. This is a battle between Shia and Sunni and has very broad ramifications for the region. The huge amount of complacent risk that the financial markets have on makes this conflagration something to keep our eyes on. This is one of those outliers that can wreak havoc on a mispriced risk market. Remember that Bernanke stated the DOLLAR sell-off was not a grave concern for it only represented the outflow of assets from the U.S. that came in search of a safe haven. If the Saudi situation gets hotter be prepared for flight to safety.
“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.
Well tomorrow is FED day and we will be on guard for the removal of the “extended period” phrase from the FOMC statement. It is troubling that the financial world turns on such silly crap but as we learned long ago, we don’t make the rules. Our job is simply to understand the playing field and hopefully turn a profit in doing so. It is in making sense out of the fact that 2+2=5 according to Wall Street’s rulebook. If the FED were to remove the the cited phrase then we believe that the yield curve would flatten, equities sell off and risk positions put to the stress test. The most important trade would be the 2/10 flattener as the market would hope that the FED was actually casting aside the DOLLAR’s benign neglect policy and U.S. assets would become attractive. The bond market would especially take kindly to such a view[after the initial sell-off] as it would be deemed that the Obama administration was willing to curtail its growth at all costs scenario. We doubt that the Larry Summers, Christine Roemer team would sign on to that, especially after the poor election results—-now it is damn the monetary torpedoes and full speed ahead. Bernanke is on the hot seat and FED independence is still a very serious issue and the chairman will not want to be seen as standing in the way of job creation. This is the essence of the soft dollar/carry trade—-what the pundits and two armed economist s don’t understand about the danger of the dollar carry—-never has the world’s reserve currency been the tool of the carry trade. No model can predict the outcome for it has never been seen–so this time it IS different. Regardless what Larry David did on CURB YOUR ENTHUSIASM black swans are still alive out there in the world of models and probabilities. Remember that our present view is that this is what drives global investors from fiat currencies to hard assets.
Gold shot higher today following on the news of the RBI [no chuck,that means the RESERVE BANK of INDIA] making a deal with the IMF on gold. We believe the rally was powered by gold mining having to lift some hedges as they are now fearful that some pre-assumed gold that would be coming to market has now been removed from the tradable amount available. Now if China presses for the same deal the hedgers will really be put to the test. If you overlay the CME gold with several different gold stocks you will see that the miners have way underperformed and that is something to be attentive to because that is another issue of negative divergence. Other commodities–grains, industrial metals, and some energy rallied on gold’s tail but we will see if they have staying power if the dollar were to get any type of strength. Also we continue to believe that GOLD is still reacting to a deflation scare rather then inflation—if the massive liquidity injection fails to create robust growth in the global economy then look out for the central banks to panic. We do also take note of the impact of Warren Buffett’s large acquisition and its impact on the overall equity market. It was interesting that he used Berkshire stock which tells us that he views Berkshire as more then fully priced especially in this low interest rate environment. But it certainly turned the tide on the early sell-off and helped support the markets although we imagine that some serious support levels were hit so consult the technicals.
So we will wait for the FED and then remember that Thursday the Bank of England and the European Central Bank meet and announce their intentions which we will cover tomorrow.
Tags: agricultural commodities, Bernanke, Currency, currency trading, Fed, fiat currencies, gold, yra harris
Commodities/Futures, Currency, Fixed Income/Bonds | yharris | November 4, 2009 12:05 pm | Comments (0)