Friday, December 15, 2006

Withdrawing Accommodation. When the BoJ?

EUR/USD 1.3104 Hi 1.3176 Low 1.3099
USD/JPY 118.21 Hi 118.29 Low 117.63
AUD/USD 0.7797 Hi 0.7839 Low 0.7791
EUR/JPY 154.91 Hi 155.39 Low 154.80

Soothing words from Trichet, a pause from the FED and some reassuring economic statistics and all the risks suddenly appear, well, less risky. Stock markets are making new highs everywhere, with the exception of Japan, but even in Japan the news is not ALL bad. OK so the GDP growth reported in Q3 turned out to be mostly an illusion but CONFIDENCE is still sort of OK. Today's Tankan report saw Business Confidence Rise (modestly) to a Two Year High. The BoJ rate hike is back on the agenda. There is a meeting scheduled for next week at the BoJ but the market is not expecting a rate hike. The market's "Best Guess" consensus is that the BoJ will hike rates some time in the first quarter of Q1. This would take cash rates in Japan all the way up to 0.5%, which is not exactly stratospheric. But still if it's change at the margin which you are looking for then that is a change at the margin.

The USD is continuing to benefit from the calm and from year end short covering. This could continue for a while. What we would need to see to crush current complacency would be a move from the BoJ. Till then Happy Carry Trades and Merry Christmas. The mood on the U.S. Bond market is slightly less merry. Yields are rising, the curve is flattening. Does this mean that the RECESSION RISK is fading? No idea. But what it does mean is that the Treasury market got way ahead of itself and the SELL OFF is not over.

Today we have CPI numbers out of the States. The market is looking for a 0.2% rise in both Core and Headline Inflation. Signs that inflation is creeping up and that Capacity Utilization is stretched will increase CALLS that the next move by the FED will be a HIKE. We also have some information on Capital Inflows. That could make more interesting reading. Although the market cheered the modest fall in the U.S. Trade Deficit, which was announced earlier in the week, the U.S. is nowhere near self-sufficient in CAPITAL and unlikely to become self-sufficient in capital for years. The USD is still hostage to offshore investor confidence. The possibility that another RATE HIKE is coming may just boost that confidence.

OIL 62.76
GOLD 630.40

The correction in the price of GOLD has been mild, despite the recovery in the USD, and there is still a whole crowd of DOOM and GLOOMERS calling for GOLD to break up as the U.S. economy and the USD come crashing down. These are the same people calling for Residential Property Prices to crash through the floor in the United States. I haven't worked out how the DOOM and GLOOMERS reconcile a view which is essentially Real-Asset POSITIVE (Gold and Commodities) with a view that is Real-Asset NEGATIVE (Real Estate). One of those sides of the equation will turn out to be wrong. Either the price of paper money falls dramatically, which is the basic recipe for INFLATION, forcing the price of every real asset out there through the roof, or it doesn't. You can't have DEFLATION and INFLATION at the same time. Or, at least, we've never had that before anywhere in the world. So this could be a first, but I wouldn't count on it.

For now monetary policy accommodation is being gradually withdrawn pretty much everywhere in the world but until the real source of that accommodation, Japan, joins the party then the global liquidity boom isn't really at risk. So good times, or at least not terrible times, will continue.

The OIL price is in limbo land. OPEC is madly trying to cut production in order to STOP the price of OIL falling dramatically. This, and GEOPOLITICS, seem to be the only two really bullish factors for the OIL price. And right now they really aren't pushing any buttons. In Europe the mildest Winter in 50 years isn't helping the OIL bulls. There are few skirmishes still going on between Israel and the legitimately elected Government of Palestine but the generally Pro-Israeli world press isn't taking much notice.

There is, of course, potential for another flare up in the Middle East. The Saudis don't seem happy. The recent sudden departure of the Saudi Ambassador from Washington suggests that the U.S. intends to go ahead with its most recent "PLAN" for Iraq. The Bush Administration's current strategy, if you want to call it that, appears to include an attempt to draw Syria and Iran into Iraq as the U.S. hunts for the EXIT DOOR. Iran, of course, adheres to the Shiite version of Islam and is not even in fact an Arab Nation. The Iranians are Persian. The Sunni Saudis, who very definitely do belong to the Arab League of Nations, are not happy with this plan and have apparently threatened to continue supporting the minority Sunni insurgents in Iraq if the U.S. withdraws. The Saudis, in fact, don't want the U.S. to withdraw. Keeping everyone calm will take the kind of diplomatic foot work that seems to be entirely beyond the Bush Administration. More competent U.S. Administrations have fluffed this endlessly. The possibility that Bush, in desperation, might pull it off boggles the mind. Either way a continuation of the Iraqi Civil War seems assured. All up this looks like it could be fun. Particularly for the Apocalypse Crowd.

Forecasts for slower economic growth in Asia and the U.S. next year have taken the excitement out of the commodity markets. OIL is expected to languish until we have new news.

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