Overview
The value of the US dollar continues to shrink dramatically and this week it hit multi-year or all-time lows against every floating currency except the Mexican peso. Moves and levels are too many to mention but of note is the Czech koruna which, at 26.610, is at its strongest ever to the Euro and obviously also against the greenback. Mr. Trichet described FX moves as ‘brutal…sharp and abrupt’, and unwelcome. Persistent US dollar weakness since 2001, and at-the-money implied volatility trading almost at half its 2000 peak, and now he starts moaning. Having reached our ultra-long term targets in many currencies we are now worried that rather than persistent US dollar weakness we might be hit with chronic/catastrophic weakness. So many have missed the move; so many haven’t even thought through the implications of a debased measuring instrument; so many are in denial. Mix in thin year-end conditions, sclerotic money markets, sub-prime contagion and carry-trade unwinding, and one is faced with a truly gruesome mix. Because of US dollar weakness and supply constraints Nymex Crude Oil reached an all-time high of $98.62 per barrel with too many commentators assuming a rally to the magical $100 level is a done deal. Spot Gold high $845.40 per ounce, Platinum $1484, Silver $16.19. Other commodities mixed.
Interbank rates remain at last week’s levels, well above the central banks’ targets. G7 Treasury yields of all maturities are down on last week while emerging market ones are generally higher. This is caused by increased risk-aversion and scarce cash. Nearly all stock indices are down on the week, the Hang Seng a massive 11% from last week’s record high and the Shanghai Composite 14% from October’s record. Spain’s Ibex retreated from a new high of 16,040 today, the only European bourse that has managed to do so, as all others are down on the week.
Political and Economic Developments
Economic numbers have taken a back seat. Mr. Bernanke’s incredibly cautious stance in his testimony to the Joint Economic Committee is understandable in current precarious financial conditions. The main message is that the Fed Funds target at 4.50% is at the right level to balance out potentially higher inflation with slower economic growth, not recession. Bond traders and interest rate futures markets are ignoring him, pushing for more rate cuts by year-end. The US three month TBill yield dropped to 3.30%, two-year TNotes to 3.42%, and June 2008 futures pricing Libor at 4.00% rather than today’s 4.88%.
Cheng Siwei, vice chairman of the Chinese People’s Consultative Conference, suggested the country should diversify its $1.43T reserves into a strong currency. Not necessarily the Euro, he added later, to which the Fed Chairman responded: ‘I’m not particularly concerned about the holdings of China or any other country. Dollars remain the dominant reserve asset and I expect that to continue to be the case.’
Underlying Themes
The new game in town is ‘head-rolling’. Fat cats caught napping on the job fair enough. The problem with the more complex and esoteric deals is that only their originators know what they contain and how they have been bundled, meaning that these very same people have to be kept on to unravel the mess. The authorities started an investigation into the role the credit rating agencies played in the debacle. Morgan Stanley this week admitted to a $3.7B hole, out of a total exposure of only $6B in sub-prime, the result of a big bet that went wrong. The Nikkei newspaper reported today that Mizuho Securities may have lost up to 100B Yen ($889B) on sub-prime related paper, sending the Banking Stocks index to its lowest since June 2005. This, coupled with rumblings fom China expanding its currency mix (see above) triggered selling of every possible Yen cross.
What to watch for next week
Monday 12th November, Veterans’ Day holiday in Canada and the US, Eurozone Finance Ministers’ meet in Brussels and the Bank of Japan starts a two-day rate-setting meeting (expected unchanged at 0.50%). Numbers-wise we kick off early with Japan October Domestic CGPI, Supermarket Sales, Bankruptcies, Consumer Confidence and September Trade Balance, then UK October PPI. Tuesday Japan Q3 GDP, UK October RICS House Price Balance and CPI, November EU and German ZEW Surveys, September EZ13 Industrial Production, US Pending Home Sales and October Monthly Budget Statement. Wednesday German Q3 GDP, UK September Average Earnings, October Unemployment and the Bank of England’s Quarterly Inflation Report, EZ13 Q3 GDP, US September Business Inventories, October PPI and Retail Sales. Thursday Japan September Tertiary Industry Index and October Tokyo Condominium Sales, UK Retail Sales, Eurozone Retail Sales and the ECB publishes its Monthly Report. Then US October CPI, November Empire State Manufacturing Survey and Philadelphia Fed Survey. Friday early Bank of Japan Minutes from their October meeting, EZ13 September Trade Balance, US net long term TIC flows, October Industrial Production and Capacity Utilisation.
Positioning and Technical Analysis
The clocks have gone back, the sun sets earlier in the Northern hemisphere, and we are approaching year-end at a cracking pace. Seeing as many currencies have met our long-held long term targets we shall adopt a very cautious stance here. Many fixed income yield charts have broken below pivotal support and are expected to drop further, possibly dramatically, over the next month. The reason for this will probably be stock indices slipping, maybe sharply, plus unwinding of all the different ‘carry trades’.
Have a nice weekend!
