The US economy is chugging along in first gear, not able to accelerate to second or third gear, let alone get to racing speed. Friday’s payrolls were about as expected, up 155,000, with the participation rate the same 63.6 and the unemployment rate the same 7.8%. After revisions, the Q4 average monthly gain was 151,000 from 168,000 in Q3, although in Dec, both hours worked and wages rose. This is either pretty good if you are optimist or pretty bad if you are a worry-wart. It’s equally plausible to write a near-recession scenario for the first half or a 4% recovery in the second half, or maybe both. Not having a good grip on the current state of the economy is the biggest part of the problem in coming up with a forecast.
It’s hard to see how yields (and rates) can continue to go up if the economy is sliding back into recession, no matter what the Fed does or says. The FT, for the first time in a very long time, reports that “The recently widening yield differential between the Treasuries and Bunds continues to support the dollar.” Well, that has been the case for many months and we didn’t always get a rising dollar out of it. Can it be that a factor no one is looking at has a powerful influence? No, and in part because in both the US and Germany, the real yields are negative. Nobody knows how to wrap their heads around a negative real yield.
Probably more important will be the dawning realization that prices are artificial because central banks have been meddling. As Pimco’s El-Erian says in the FT, the Fed’s new target of an additional $1 trillion in asset purchases represents a third of the balance sheet. Other central banks are doing it, too. “This makes the current cycle relatively less dangerous given the greater inherent stability of a central bank’s balance sheet. Unlike private sector institutions, it is hard to force a central bank to delever without some dramatic combination of exchange rate, inflationary and political pressure.
“But, critically for both economic prospects and investors, greater relative stability does not guarantee absolute stability. There is a limit to how far central banks can divorce prices from fundamentals. Moreover, as illustrated in the minutes of the latest Fed meeting, there is already discomfort among some policy makers due to the costs and risks of unconventional polices. Also, at some point, and it is hard to tell when exactly, the private sector will increasingly refuse to engage in situations deemed excessively artificial and overly rigged.” El-Erian forecasts rising volatility this year on each macro data release and also unhappy consequences from the assumption that the forced correlation among different holdings will persist. “... with seemingly endless liquidity injections, the scaling of such exposure can easily disconnect from the extent to which prices deviate from fundamentals.” In other words, start being more careful. We are struggling to figure out what this means for currencies.
The big events on the calendar this week include the BoE and ECB policy meetings and expectations for US corporate earnings that start trickling in this week but rally take off next week. We also have a slew of Fed officials speaking, including the two who want to define the end of QE. Tomorrow we get Nov consumer credit, with the big releases in Europe (German factory orders, eurozone consumer and business surveys and retail sales).
Wednesday, it’s mortgage and applications, with German industrial production. Thursday brings the usual jobless claims and the annual US Chamber of Commerce shindig, which Wall Street guru Lynne says could be the opportunity for some zingy rants. Thursday is also when we hear from the BoE and ECB as well as some Chinese data (CPI). Friday is the US trade deficit for Nov and UK industrial production. And then we have Chinese Q4 GDP on Sunday.
Net-net, we have to accept that the dollar has some serious support from the risk-off mode even if the economics and institutional factors do not really support a stronger dollar, especially with the US the source of the risk aversion in the first place. Trade only on the shortest timeframe you can manage. Hedgers should stay out until the dust settles.
|SPOT||CURRENT POSITION||SIGNAL STRENGHT||OPEN DATE||OPEN RATE||POSITION GAIN/LOSS|
|USD/JPY||87.87||LONG USD||STRONG||10 /17/12||78.71||10.42%|
|EURO/JPY||114.58||LONG EURO||STRONG||11 /21/12||105.38||8.73%|